PAKISTAN'S ECONOMIC SCENARIO
Loan's alone can not rescue the country
By Aftab Akhtar
Former Senior Adviser to UNDP
Feb 07 - 13, 2000
The new Economic Recovery Package (ERP) announced by the Chief Executive General Pervez Musharraf has been received with mixed response. Quite rightly he stated that the economic malaise in the country was more serious than he had visualized earlier. One wonders what the Economic Advisory Board (Think-Tank) and the numerous adhoc consultants did during their several weeks exercise? Notwithstanding the conceptual limitation that the economic package suffers from, it does contain a few key elements that any reform agenda should focus on. The exercise seems to placate the IMF and meet its conditionalities for releasing the promised third tranche of $280 million.
To steer Pakistan's economy to a sustainable level, the government should give priority attention to measures that focus on economic management, human resource development and substantive policy changes for achieving economic recovery over a period of 3-4 years.
Loans cannot rescue budget deficit. Pakistan has been facing huge fiscal deficits and debt servicing continues to be the most serious problem. Debt servicing now consumes 53 per cent of revenue and defence budget consumes 43 per cent, leaving a meagre 4 per cent for other expenses. The budget deficit this year is expected to be larger than 98-99 fiscal. The year 98-99 ended with an exceptionally large balance of payments deficit of US$ 3.277 billion. The average income of a Pakistani throughout the year remained below US$ 400. Considering the fact that we still have partial economic sanctions imposed on us by the G-7 countries, which amount to 50 per cent of our annual public and social sectors development program, the budget deficit this year would increase to between 4 to 4.5 per cent of GDP. Therefore, it is important that the government should take necessary measures to convince the G-8 countries for the withdrawal of the sanctions, which would ease the balance of payments situation. The Paris club has already given temporary relief to Pakistan by re-scheduling Pakistan's debt.
According to the State Bank, the government's non-development expenditure has increased during the past few years from 22 per cent to 24 per cent. This percentage should be brought down to 20 per cent. Similarly the debt servicing has increased from 5 to 10 per cent and the development expenditure reduced from 7 to 3 per cent. To maintain the present level of standards the economy must annually grow between 6 to 7 per cent to cope with our annual population growth rate of 2.6 per cent.
Unfortunately our bureaucracy is not geared to tackle the present economic scenario. It is ill-equipped to manage the market economy. It is essential that professionals with vision be inducted into the government set-up to forge a new approach to the economy.
Despite promises, no tax reforms have as yet taken place. There is need to broad-base our tax structure, reduce statutary tax rates and streamline the inefficient tax administration.
It is deplorable that the services sector does not pay any tax although its share in GDP in between 40 to 50 per cent. Consumer tax is a must to keep our economy viable. The effective tax bases of most taxes are narrow due to rampant corruption, tax evasion and wide ranging exemptions and concessions. There is little collection of taxes at the rising number of inland dry ports and duty-free shops. Under-invoicing of imports and outright classification of frauds at dry ports has surpassed all limits. The new regime should not hesitate to come up with appropriate proposals to redress the situation as soon as possible. Besides there is urgent need to reduce tax on the corporate sector and to do away with the existing discrimination in the tax rates in this sector in order to encourage investment.
In line with the Chief Executive's decision for simplicity and austerity, it seems logical that the government should take a hard look at the perks and privileges which are made so generously available to the civil and military officers in the higher echelons of the administration. These provisions are quite lavish which a poor country like Pakistan can ill-afford. In fact review of these privileges should have preceded government's recent decision to withdraw the 20 per cent secretariat allowance to officials of grades 1 to 16.
For several years the business community has been clamouring that the government should, in consultation with them, devise a methodology to determine Gross Profit (GP) rates, to avoid tax evasion and related anomalies, but no action has been taken by the Central Board of Revenue (CBR) in this regard. There continues to be a serious controversy on this matter between the tax authorities and the business community. All the chambers of commerce and industry have made several appeals to CBR to deal with this problem but in vain so far. This problem should be resolved without further loss of time.
Pakistan's industrial production has stagnated for almost a decade. Fiscal measures in the past have not allowed to promote the production capacity of the economy. The industrial growth rate has come down from 7.4 per cent to 3.1 per cent. Credit off take by the private sector has remained negative. Foreign investment has been declining over the last three years. Although promotion of small and medium industries, as emphasized by the Chief Executive in his address of December 15, 1999, is essential for boosting industrial production, this requires concrete measures and industry-specific action plan.
A mere 2 per cent cut in bank mark-up rate would not achieve the desired result, particularly when industry is faced with lack of profitability and proposals such as sales tax on electricity rise in POL prices by 10% and GST at retail levels at 15% per cent will further reduce profitability. The raise in POL prices has amounted to 50 per cent since May last year. One can imagine the horrifying effect of all these measures on increase in inflation, decline in both production and exports.
Pakistan's Export Performance:
On the export front, the current year's exports so far follow last year's disappointing performance when exports reached US $7.7 billion against the target of US $10 billion. This amounted to a fall of 10.5 per cent against a target rise of 15 per cent. Our precarious situation can be further gauged by the fact that our balance of payments deficit will be much more than anticipated considering our export performance so far. During the first six months of the current fiscal year, exports have increased by 7.5 per cent mainly through higher cotton, textiles and rice exports while the imports have risen by 11.5 per cent. The trade deficit during the first five months has increased to US $783 million against the target of US $800 million set for the whole fiscal year. This shows a trade deficit of US $219 million over the same period of last year. We are already facing cotton, rice and onion crisis. This crisis could have been avoided if the government had moved fast shortly after the military take-over on October 12, 1999.
The following table shows the share of our exports in balance of trade:-
% of exports
against imports in
The following table shows the export performance of Pakistan's major commodities:
(In million dollars)
Made-ups incl. Towels
Carpet & rugs
There have been complaints of contamination in our cotton exports, meaning that our certification and quality standard systems have failed. What is the fate of the Cotton Standards and Classification Institute at Karachi, which had substantial technical assistance from UNDP for nearly ten years and had established a foolproof system?
We have a narrow export base in which textile's share has increased from 40 per cent to 60 per cent. The share of value-added exports which amounted to 30 per cent in 1983-84 has declined to 18 per cent. The world crisis in textiles hit this industry hard and one wonders why didn't our planners foresee this situation emerging and seek alternatives? The production of 20-count yarns, repacking of imported cosmetics or production of medicines from imported raw materials could not be justified any longer. Bangladesh exports garments worth US $3600 million without producing cotton, while Pakistan only exports US $600 million worth of garments. South Korea has high performance in exports in leather craft with zero production in hides and skins. We should learn from the experience and skills of both Bangladesh and South Korea. The government should encourage high value addition products through financial incentives. Our exports base needs to be enlarged by making special efforts, in order to reduce our current account deficit. We should put more effort in value addition. The value-addition of ready-made garments is over 500 per cent as compared to export of yarn.
There was a slogan raised by Benazir Government that we must "Look-East" for our exports. Unfortunately we now have hardly any trade with a number of South East Asian countries. Our international marketing is very weak. Over the last decade we have discovered not a single new market for our exports. We continue to rely on exports to United States, UK and the European Union, where our exports have stagnated over the last couple of years. Our import bill needs to be curtailed because nearly half of its goes for consumer goods and raw materials.
We are faced with anti-dumping laws, tariff barriers and several other WTO created restrictions against our exports. As an example, more than a year ago Islamabad chamber of commerce and industry had pointed out that a US firm in Texas was marketing a fake variety of "BASMATI" rice, which is traditionally grown in Pakistan and had obtained a patent for its product from the US Department of Trade. This is a clear violation of the international trade-related agreement TRIPS and the Federal Ministry of Commerce was urged to lodge a protest with USA and WTO, but its outcome is still not known. Japan was our principal market for export of yarn, but we lost this market due to recession in Japan and our several textile mills are now closed. During the last ten years, our exports have revolved around a few products like cotton yarn, fabrics, made-ups, garments and knitwear. Other sectors such as fish, fruits and vegetables, rice, leather garments, carpets, sports goods, surgical equipment, computer software etc have not found adequate export markets.
What is the performance of Export Promotion Bureau (EPB), which has been living off the precious Export Marketing Fund? EPB should either be closed down or it should be revamped and have a nucleus staff of specialists in export marketing to promote exports. EPB should produce market surveys on exportable products hold seminars and training courses for exporters. It should maintain a computerized database of exporters and export/import commodities and share this information regularly with Pakistani chambers of commerce and trade associations. EPB should also develop close interaction with the chambers of commerce and industry and various trade associations particularly those that are outside Karachi area. The chambers of commerce need to be revitalized to offer professional services to their members and the Government of Pakistan to accelerate industrialization and promote exports. All of them receive from EPB overseas tender enquiries, which are almost 4 weeks old on receipt! These enquiries should be serviced by E-mail.
Land Reforms and Resource Mobilization:
Resource mobilization is crucial for rescuing Pakistan's ailing economy. Although the Chief Executive's recent address included a number of commendable measures towards this aim, such as the documentation of the economy by imposing GST across the board, imposing tax on agricultural income from the next Federal budget, withdrawing withholding tax on national savings schemes, reducing smuggling, withdrawing tax exemptions and discouraging dollarization of the economy, it is disappointing that the decision for taxing the agricultural income has been postponed until the next fiscal year.
Agricultural income is taxed all over the world except Pakistan. It would be pertinent to mention here that the untaxed agricultural income in Pakistan is estimated to exceed Rs.600 billion and if 10 per cent tax is imposed on it, it would yield an annual income of Rs.60 billion or nearly 3 per cent of GNP.
In Punjab alone one per cent feudal lords have 26 per cent of total cultivable land holdings and they are exempt from income tax. Almost 15 per cent who come within taxable slab own agricultural land ranging between 12.5 acres and 50 acres and they form the affluent rural middle class. Also, tax on orchards have been lowered from Rs.750 per acre to Rs.500 per acre for irrigated areas in Punjab. This rate is reduced by half for non-irrigated orchards. Almost 30 per cent orchard owners (24,500 in number) hold 78 per cent orchards constituting an area of 539,000 acres.
Farm tax was introduced in Punjab in 1996 through an ordinance, which later on became the Punjab Agricultural Income Tax Act in 1997. The Federal Government asked all the three provinces to follow Punjab in assessing and collecting agricultural income tax. But Punjab was lagging behind the budgetary targets and the actual assessment of the tax. According to the Punjab Board of Revenue, since 1996-97 the tax against the budgetary target of Rs.6.73 billion, NWFP imposed farm income tax in 1994, Sindh and Balochistan in 1996, but none of these provinces has so far been able to recover tax due. The principal reason for lack of recovery in Sindh and Balochistan was uncertain law and non-cooperation of the provincial legislative mechanism. Considering the past poor performance and procrastination of the provinces in the collection and enforcement of the farm income tax laws, it is now essential that the Federal Government should step in and take the lead in sorting out the problems involved. The Chief Executive may appoint a committee composed of the Federal and provincial Finance and Agriculture Ministers and give them a time limit of 4 to 6 weeks within which they must formulate a policy framework for the levy and collection of farm tax in all the provinces. Since a lot of spadework in this area has already been done in the provinces, it need not take more than a few weeks to formulate a clear-cut policy.
At the time when Pakistan's First Five-Year Plan was being formulated in the 50s, Pakistan was offered technical advice through the Ford Foundation by the provision of a world's most eminent scientist Dr. Wolf Ladeijinsky to suggest measures for land reforms. This scientist was the architect of land reforms in Japan, South Korea and India. Pakistan did not act on the advice offered to the then President Field Marshal Ayub Khan due to the vested interest of Pakistan's feudal lobby and instead a distorted land reform program was launched in the country.
It is unfortunate that Pakistan has failed to introduce effective land reforms. Land reforms during the eras of Ayub and Bhutto remained an eyewash! The Chief Executive has stated in a press statement that land reform will be his top priority. It is important that this decision be implemented as soon as possible.
The military regime should take immediate measures that would generate resources from within the country, privatize public sector organizations and concentrate on human development in order to put the country on the road to progress. We can no longer rely on the public sector which had become incompetent and corrupt. According to a UN report, corruption eats up Rs.100 billion each year in our country. Pakistani as well as international investors would invest in Pakistan only when they would see that the country was pursuing prudent fiscal policies. According to a UNICEF-UNESCO report, Pakistan spends the least on education among the South Asian countries. The actual expenditure on education is estimated between 1.8 to 1.5 per cent per annum.
General Sales Tax (GST):
Broad-basing of GST across the board, as indicated by the government, is essential for resource mobilization. Recently CBR has stated that it plans to levy this tax at the retail level at 15 per cent and collect around Rs.8 billion in a year. While there are no two opinions about the need for this tax, for the last five years the CBR has not devised a fool-proof procedure for the documentation of the economy and there continues confrontation between the CBR and the trading community. This problem must be resolved in consultation with the stakeholders. According to CBR, Bangladesh introduced GST at retail level at 15 per cent over five years ago. The experience of Bangladesh should be explained to the trading community in Pakistan. Besides CBR should hold a series of seminars for creating awareness among the traders as the traders often complain about lack of adequate information concerning GST and its application. All over the world one finds that the retail stores have Cash Registers for recording their sales. The same system should be introduced in Pakistan and the government should facilitate, even subsidize, the import of Cash Registers for Pakistani traders.
There have been genuine complaints by the trading community that the rate of 15 per cent is too high and cannot be feasible considering the current inflation and slump in industrial production. A rate of 7.5 per cent seems more acceptable to begin with, which may be increased gradually later on. The government should give serious consideration on this matter, hold parleys with the stakeholders and reach consensus without further loss of time.
Agricultural Production and Research:
The Chief Executive deserves congratulation for highlighting the importance of revitalizing agriculture. As he said, about 65 per cent of our people earn their livelihood from agriculture and our country spends more than $ 1 billion on the import of wheat and oil seeds alone. Yet the prospects for growth in agriculture sector are phenomenal. He has promised to take several initiatives to unleash this vast potential.
The 9-point agenda given by the Chief Executive in his address for revitalizing agriculture has omitted to mention the need for revamping agricultural research. Agriculture contributes nearly 25 per cent to the GDP and is responsible for 75 per cent of our exports. One of the main driving forces for increased agricultural productivity has been agricultural research. The Green Revolution of 60's and 70's was a result of years of national and international research in various disciplines related to agriculture. The Green Revolution of 60's in Pakistan and India was supported by the Ford Foundation (with which I was associated) and the Rockefeller Foundation of USA. Over the last 50 years agricultural research has been mainly supported by foreign aided projects. A nucleus of scientific manpower in Pakistan has been developed through the generous assistance of several donor agencies. Over the years donor assistance has vanished. This has had adverse effect on our agricultural research system.
It is highly important that the new regime should give priority attention to revamping agricultural research, teaching and coordination in Pakistan. For example, so far our research institutions have not been able to produce for the farmers that type of cotton which they did in 1991-92 with higher yield potential. Presently funding levels of agricultural research and extension are as low as 0.2 per cent of GDP while the research expenditure on crops and livestock is less than 0.1 per cent (1992-93). The average annual growth rate of major crops has declined from 3.34 per cent during the 1980s to 2.38 per cent during the 1990s. If we consider wheat, the average annual growth rates have been steadily declining since the "Green Revolution".
Rice is our principal exportable commodity. Its export to Iran, Iraq and UAE has declined due to poor quality control by our exporters. There is urgent need to establish strict quality control measures for exporting rice. Pakistan's Ambassadors to Iran, Iraq and Kuwait have often complained about the poor quality of rice exported to those countries.
Many of our scientists have left Pakistan to seek employment elsewhere for several reasons. This "brain drain" must be stopped, so Pakistan may continue to have access to modern technology.
In conclusion, I must emphasize that the time for cosmetic measures is gone. We need to make fundamental political, social and economic reforms, some of which have been indicated above, in order to place our economy on the growth path. This can be done efficiently if the Chief Executive would appoint a few high level, well focused sectoral committees composed of a small number of professionals and discontinue reliance on the Economic Advisory Board and a large number of consultants, most of whom have not proved their worth. The Chief Executive has indicated a number of bold steps to bolster the country's economy but he is hamstrung by the limited vision of some of his advisers.