HOW TO AVERT PAKISTAN'S FINANCIAL CRISIS?

Instead of pinning the hopes on the US the GoP must resolve the impediments responsible for strangulated relationship with the lenders

By SHABBIR H. KAZMI
Nov 02 - 08, 1998

The time has proved that the calculations, done by the economic managers of Pakistan, regarding the impact of economic sanctions, were not only incorrect but were based, too much, on patriotic sentiments of the people without realising the limitations of contributors. The economic managers not only failed in visualising the fragile nature of the economy of the country but, assumed that the billions of dollars would be deposited/donated to compensate for suspended ESAF/EFF facilities and funds from other multilateral lenders. Besides, some of the decisions, made lately to get popular support and impress upon the lenders, have reduced the hope to arrive at terms with the International Monetary Fund (IMF) soon without accepting more stringent conditions.

From the early days, after the imposition of sanctions, it was evident that disbursement of tranche under ESAF/EFF was not withheld because Pakistan did not meet the desired targets fixed by the Fund. The programme was suspended only because Pakistan decided to conduct nuclear tests contrary to the advice of countries playing a key role in the policies of the IMF. However, indications were given that if Pakistan signs various agreements to contain nuclear proliferation, the Fund would resume the suspended programme. Even the attitude of the US was a little flexible and efforts were made for the waiver of the clauses empowering the US President to impose economic sanctions if a country conducts nuclear test. However, the US Congressional approval of authorising its President to waive sanctions, slammed on both India and Pakistan, must not be read as a decisive factor. The US has a diversified and complex political agenda to persue.

Much has been written on the topic, therefore, at this juncture it is necessary to recapitulate the existing scenario and suggest various measures to conclude the agreement with the IMF, at the earliest, to avert the current financial crisis. However, it is necessary to resolve all pending issues before the prime minister Nawaz Sharif meets the US President in December. It is also necessary to take into account the changes in the IMF working norms as the US has provided $18 billion to the Fund. Pakistan is one of more than 200 countries soliciting funds from the cash starved IMF. It is also imperative that economic managers of Pakistan accept the harsh reality that the country is on the verge of default, suffers from depleting foreign exchange reserves, its relationships with donors are strangulated and confidence in the policies of the government of Pakistan (GoP) has eroded to a level which may take years to restore the lost credibility.

UNILATERAL MORATORIUM

At present Pakistan has declared unilateral moratorium and deferred debt servicing and suspended transfer of fund i.e. dividend, loan installments etc. The total deferred payments, according to a conservative estimate, exceed $3 billion. Unless an agreement is signed with the IMF, paving way for disbursement of funds from other multilateral donors, resumption of debt servicing and meeting other obligations, remain ostensible. The key economic issues delaying the signing of deal are: measures to contain fiscal and trade deficit, resoling the ongoing tussle with the independent power plants (IPPs) and withdrawal of reduction in electricity tariff recently, announced by the prime minister.

The self declared moratorium of Pakistan was accepted pending the final decision by the IMF. The request of Pakistan for deferment of debt servicing and other obligations got positive response only because the IMF delegation was busy in working out the details of a new package. However, later on, the subsequent visit of IMF delegation was postponed due to the conflict on announcement of prime minister reducing electricity tariff by 30 per cent and continued tussle with the IPPs. If the IMF officially announces refusal to accept the alternate measure to compensate for the reduction in electricity tariff and GoP fails to resolve IPPs conflict then there will not be any need to wait for the rituals.

Pakistan faces the worst financial crisis after completion of 50 years of independence. Presently many other countries, due to a variety of reasons also face troubled economies. Many of them have started showing signs of recovery as in some cases the IMF has provided bail-out packages. But, the real efforts were made by the respective governments by redefining their strategies to overcome the problems. While the troubled economies in other countries may have many reasons for disruption in economic activities, Pakistan, faces the current situation because it decided to conduct nuclear test, as said by many.

However many economists say that the imposition of sanctions has only hastened the process of default. Over the last two decades it has been said that the successive governments have failed in managing the finances of the country — mainly due to a habit of living beyond means and partly due to undertaking programmes, putting extra pressure on limited resources, to achieve political mileage. At various points the lenders have been asking Pakistan to contain fiscal deficit, enhance revenue collection and broaden the tax base, pursue privatisation to get rid of the expensive short-term debts and document the informal economy. But no attention was paid to the warnings rather area specific incentives were offered. This, on the one hand, deprived the country of potential revenue collection while, on the other hand, created uneven playing field within the country.

STANCE OF LENDERS

The positive point, today, is the recognition, by the lenders, of Pakistan's inability to sustain the current level of debt servicing. It has been established, beyond doubt, that without a bail-out package and rescheduling of external debts the country cannot avoid default in the long run. The donors are willing to lend and the country needs the funds. Therefore, concerted efforts are necessary to conclude the best possible deal. However, the recent visit of IMF delegation was postponed because the government announced 30 per cent reduction in electricity tariff contrary to the condition of the Fund to increase electricity and gas tariffs. Japan has indicated not to soften the sanctions and expressed displeasure on the way, affairs of IPPs are being handled. It has also threatened to discontinue the disbursement of Japanese funds to Pakistan unless the issue is resolved amicably.

GEOPOLITICAL CHANGES IN THE REGION

One should not isolate Pakistan from the geopolitical changes in the region. Bi-polar world now has only one super power — as China faces its own problems and decided to remain at a low profile. Besides, the quantum of US investment in China and granting most favoured nation (MFN) status to the country, though it is not a signatory to World Trade Organisation (WTO), indicates softening of US stance towards the only surviving communist country. The attitude of the US government has changed for commercial gains only. India's recent nuclear test was an indication that the country has not forgotten the old enmities and that it would still like to keep a check on both Pakistan and China.

It is said that the US encouraged India to conduct these tests to continue pressure on China and prompted Pakistan also to undertake the similar tests to make India believe that it was not the only nuclear power in the region. Besides, the US was keen in making its presence felt in the region by containing the advancement by Taliban in Afghanistan and involving Iran in the war — to distract its attention from home before elections of a supreme body of religious leaders. However, the efforts of Ummah to refrain Iran from direct involvement in Afghanistan and victory of 'moderate group' in election, has constrained the US to review its strategy towards Iran.

Pakistan has played a key role in Afghanistan. Now it is the time to reap the profit — access to CIS countries. Neither Pakistan nor the US would like to miss the opportunity to exploit the potential. Pakistan is a gate-way to CIS and therefore, the US is ready to offer certain concessions. However, one should not forget that such concessions would have certain strings attached. And the US will never allow Pakistan to disregard IMF advice and to expect to receive a bail-out package. The US had played a key role in bailing out Mexico but was the biggest opponent to release of tranche by the IMF following the nuclear test.

The new US strategy, at the best, will be to keep Pakistan at subsistence level. In return the country will be asked to sign Comprehensive Test Ban Treaty (CTBT), Nuclear Non-Proliferation Treaty (NPT) and yet to be recognised Fissile Material Cut-off Treaty (FMCT). The Foreign Minister, Sartaj Aziz, was reported to have indicated the acceptance of the US demand, though informally. Reaching the understanding, the multilateral lenders have expressed their willingness to help Pakistan in resolving the current financial crisis through restructuring of sovereign debts. However, the conditions will still include measures to enhance revenue to reduce budget deficit, discontinuation of multiple exchange rates, devaluation of Pak rupee to boost exports, privatisation of state enterprises and opening up of Pakistan market for overseas exporters.

CONCLUDING THE DEAL

As regards revenue collection, the GoP has been failing in boosting the collection to reduce the deficit. The target for the current year has been revised downward. There is resistance against imposition of new taxes. Agricultural sector is opposed to payment of tax on its income. The tax payers, mostly from urban areas, are resisting the move to impose new taxes. They say that instead of squeezing those who are already paying taxes the GoP must expand the tax net. The exempted sectors should be brought under tax regime. The recovering of outstanding, amounts from tax evaders, should be intensified. As such the revenue collection in the first quarter was low due to overall slow down of economic activities in the country. The economic slow down is also evident from a factor that private sector credit was around Rs. 650 billion as on June 30, 1998 which has come down to Rs 618 billion by mid of September — this was despite the fact that textile mills needed the funds for the procurement of cotton.

The IMF wants Pakistan to discontinue multiple exchange rates to ensure a realistic value of Pak rupee. At present the official rate per US dollar is Rs. 46, interbank rate has touched Rs.56 — almost the same prevailing in the kerb market. It is said that kerb rate has been contained at Rs.57 to a dollar artificially. To sum up all this, it is said the presence of multiple conversion rates is a serious distortion of the realistic conversion rates. In the past the difference between official and kerb market rates was in the proximity of one rupee. However, freezing of foreign accounts and conversion of withdrawals from these accounts, into rupees at official rate of Rs. 46 to a dollar, has pushed up the price of dollar in the kerb market.

The fixing of dollar/rupee parity at new level and let the market forces determine its real worth., effective devaluation is expected to encourage the foreign currency depositors to encash more of their dollars and persuade non-resident Pakistanis to remit more dollars to Pakistan through official channels. There will be no incentive to use the un-official channel when the price of dollar goes down in the kerb market. However, it should also be kept in mind that the buying pressure can be exceptionally high in the post devaluation era for a while. Many economists in Pakistan say that devaluation has hardly helped in boosting exports but has always caused cost pushed inflation. That is the reason devaluation is being opposed. In reality what the IMF is demanding is, fixing a realistic conversion rate which, unfortunately, means effective devaluation. However, one day this bitter pill has to be swallowed — the earlier it is done the better it will be for the country..

The stale state of KESC and WAPDA has been a serious concern for the multilateral lenders. One of the factors responsible for persistent increase in cost of power generation has been the unrealistic price of furnace oil. As against a landed cost of Rs. 2,90 per tonne the power sector is still supplied oil at Rs. 5,500 per tonne despite withdrawal of a surcharge of Rs. 1,500 per tonne. The fact which annoys the lenders is that instead of asking WAPDA and KESC to control their T&D losses — exceeding 40 per cent of total power generated — the GoP wants to renegotiate bulk power purchase tariff with the IPPs. As such the GoP was said to be making Rs. 100 billion alone from the difference between landed cost of POL products and their sale price charged from oil marketing companies.

CONCLUSION

There is a humble advice to the prime minister that he should neither depend too much on the US nor the businessmen once gain. The failure of National Debt Retirement Programme and indulgence in business community in over invoicing should be an eye opener. He has once again formed a committee of businessmen to raise US$ 5 billion to avert the current financial crisis. There are serious apprehensions about the outcome of this campaign. As such the much talked about help from friendly countries and oil purchases at deferred payments have not yet started yielding results.

It is also desired from an elected prime minister that he must keep the people informed about all crucial decisions made. After all these decision can either make the life more miserable or bring some consolation.

The people of Pakistan have understood that the country cannot live, in the present circumstances, without a bail-out package from the IMF as all other measures have failed to avert an imminent default in the long run. The poors have suffered enough during last 50 years, now it is the turn of the elites and well-off to pay their share — which they have been evading over the years.

In the light of above stated facts it is necessary that instead of making popular announcements and living on false hopes the economic mangers of Pakistan must realise the harsh ground realities. Atleast some of the demands of the IMF, i.e., increasing revenue, reducing budget deficit and bank borrowing, cutting down non-developmental expenditure are the measures any sensible government should have undertaken to keep the economy of the country on sound footings. The strong economy is the most effective defence.

Outlook:

  • The country needs a bail-out package to avert current financial crisis.

  • If funds are not released GoP will be compelled to declare default.

  • Pakistan will continue to remain at the bottom line in the region

  • Other troubled economies are expected to recover quickly

  • Pakistan's ranking is expected to slip.

  • Fears of prolonged economic crisis.

  • Unsettled local and foreign investors

  • There will be no restructuring of economy in the near future

  • GDP growth will be further affected

  • Fresh Investment will take time to make in-roads

  • Government's policy towards foreign investment got the setback

  • Exportable surplus to remain low

  • Foreign exchange reserves position getting from bad to worse

  • Inflation continues in double digit

  • Competitiveness of locally products eroding

Pakistan has been the second largest borrower of the World Bank in South Asia Region with US$ 807 million lending commitments during the financial year 1998 and cumulative borrowing of US$ 12 billion. India was the largest borrower with commitments totalling US$ 2.1 billion, during the same period with cumulative borrowing of US$ 44 billion.

Between a period from 1976 to 1997, about a dozen countries including, Chile, Egypt, Poland, Philippines, South Africa, Mexico Argentina, Peru, Paraguay, Brazil, Romania, Venezuela and Turkey have gone bankrupt. Almost all of these countries have come out of it. Their governments had a plan and a strategy. The question is not that of official announcement by Pakistan but what perturbs that neither the economic managers understand the consequences of default nor have evolved a strategy to avert the situation.

  • The key issue

  • Top of the line

  • Signing CTBT/NPT/FMCT

  • Normalising relationship with India

  • Pending

  • Reducing budget deficit

  • Reducing trade deficit

  • Increasing revenue collection

  • Bringing more people under tax net

  • Cutting non-developmental expenditure

  • Increasing developmental expenditure

  • Reducing tariff on imports

  • Opening up Pakistan market

  • New Additions

  • Depoliticising power sector

  • Appointing full time chairman for WAPDA

  • Accelerating process of operationalising PEPCO

  • Recommending the power tariff issue to NEPRA on yearly basis

  • Establishing an independent committee to resolve IPPs issue