ACHIEVING ECONOMIC STABILITY A DIFFICULT TASK

THE ECONOMY IS PLAGUED BY EXTERNAL FACTORS AND SPACE FOR MANEUVERING IS LIMITED

SHABBIR H. KAZMI
June 16 - 22, 2008

Facing daunting economic slowdown, the government claims to have presented a budget that offers relief measures to the poor and the salaried class but also imposes new taxes and slashes subsidy on food, fuel and power. The government plans to meet a budgetary deficit of Rs 582 billion by rationalizing taxes, mainly by increasing General Sales Tax (GST) from 15% to 16% a move likely to push already surging inflation further up. Many economic experts believe a drastic cut in subsidies on food, fuel, electricity, and fertilizer would most hurt the poor already reeling from price-hike, inflation and food shortages. It is believed that the harsh decision is an outcome of the pressure on the government to contain fiscal deficit by abolishing all types of subsidies for a long time.

It is believed that the policy planners are depending on the external support for containing the deficit. However, experts are of the opinion that the government faces a difficult target of 25% growth in revenues; the target had been set at Rs 1.2 trillion in the budget. Net capital receipts have been estimated at Rs 221 billion, against Rs 59 billion for the last year. The revenue target is too optimistic and the government would be forced to revise it downward once the Federal Bureau of Revenue starts complaining its inability in achieving the target.

In an attempt to protect the "vulnerable groups" from the price hike a new program, to be known as Benazir Income Support Programme will be launched. For the programme, initially the government has allocated Rs 34 billion. The amount will be raised to R s50 billion in due course. The proposed program includes a monthly cash grant of Rs 1,000 to each qualifying household to be selected through the computerized databank of Nadra. The beneficiaries of Benazir Card would also be provided other welfare facilities like employment, skill development training for youths, medical insurance and food subsidy.

Resource availability is estimated at Rs 1,836 billion, against last year's target of Rs 1,394 billion. Net revenue receipts for the new budget have been worked out at Rs 1,111 billion, indicating an increase of a little more than 23 over the last year. The overall expenditure is estimated at Rs 2,010 billion, including current expenditures worked out at Rs 1,493 billion, showing a decrease of 1.5 per cent over last year. The Public Sector Development Programme (PSDP) has been estimated at Rs 550 billion, indicating an increase of 20% over last year. The National Economic Council (NEC) had approved Rs 541 billion PSDP, which has been upped to Rs 550 billion in the new budget.

Despite an urgent need to improve cash flow of electricity generation and distribution companies the amount payable (subsidy) to the Water and Power Development Authority will has been reduced to Rs 74.6 billion, down from last fiscal's Rs 113.6 billion. Similarly, the subsidy for the Karachi Electric Supply Corporation has been curtailed to Rs 13.8 billion, against outgoing fiscal's support of Rs 19.59 billion.

The new budget envisages mobilization of Rs 31.25 billion through issue of a global bond during 2008-09. Profits of the State Bank of Pakistan are targeted to increase from Rs 88 billion to Rs 110 billion. The government also plans to issue Pakistan Investment Bonds of Rs 50 billion, prize bonds of Rs 20 billion, treasury bills of Rs 5 billion and government commercial papers of Rs 40 billion during coming fiscal.

The increased reliance on indirect taxes mostly through an increase in the rate of general sales tax (GST), from 15% to 16%, and one per cent special excise duty on all imported and locally-manufactured products will trigger inflationary pressures and further burden the lower-income groups. Although, the government abolished GST on fertilizers and pesticides, it raised customs duty on 300 items, mostly packed food and electronic appliances, particularly Rs 500 tax on import of every mobile set.

Of the total new taxes amounting to Rs 77 billion include more than Rs 41 billion from GST and excise duty, Rs 29 billion from income taxes and Rs 7 billion from increase in customs duty, mostly on food items, electronics and mobile phones.

The brokers' fraternity has termed the budget "balanced". A statement released by the bourse soon after the conclusion of the finance minister's budget speech, stated that the KSE had reviewed the proposals, especially in the context of the capital market development in the country. The various measures announced are aimed at averting a food crisis and boost the economy by strengthening agricultural and industrial sectors. The bourse appreciated the government's decision to continue with the on-going incentives for the capital market, including extension of exemption of capital gains tax (CGT) on listed shares for another two years, i.e. up to June 30, 2010 along with keeping the current tax regime on stock market unchanged in line with the earlier announcement made by the government after a meeting of KSE's delegation with the relevant authorities.

The impact of the budgetary measures on the market would be neutral to positive. Increase in fertilizer subsidy and exemption of duty on essential raw material were fairly good measures, nonetheless a clear policy thrust was missing. It would have provided lot of comfort if the government had spelled out a clear policy on how the oil subsidy would be reduced and in what way the borrowings from SBP would be reduced.

Some of the experts have termed the budget positive as it gives due attention to agriculture sector for ensuring improved supply of essential commodities to people and raw material to industry and export sectors. However, there was a feeling among business community that manufacturing sector did not get the desired relief and instead it was burdened with one percent GST, which would add to their cost of production. However, this opinion is totally incorrect because manufacturers are only a GST collector only.

Finance Minister Naveed Qamar in his budget speech announced that the government would launch papers to borrow from public. These papers will be of 3-month, 6-month and 12-month maturity. The government also plans to increase return on National Saving Scheme by 2%, which will hit hard the entire banking sector. The government has already borrowed excessively and borrowing of over half a trillion has plagued the economy with high inflation. The new scheme to borrow directly from the public is only the change of window as the scheme indicates that the government would still rely heavily on borrowing, not from the SBP this time but from the public.

The minister announced that the rate of NSS has also been increased by 2 per cent to attract more from the public and rates will be reviewed after three months instead of six months. The revision of rates after every three months will put enormous pressure on banks to increase their return on deposits. Both these steps would have negative impact on the banks. The government will be in competition with banks to mobilize deposits. The banks will find it hard to compete with the government as the former requires higher margin of profits while the government has no problem to offer higher interest rates.

The increase in excise duty on banking services from 5% to 10% may not have a major impact but the increase in load on banks' depositors by raising the tax on withdrawal of Rs 25,000 and above from 0.02 per cent to 0.03 per cent has attracted a lot of criticism. It is regrettable that the new government also chose to follow the same policy rather than abolishing the tax on withdrawal of already taxed money.

The new budget has come amidst high political noise emanating from the still lingering judicial crisis and depressed economic sentiments due to macroeconomic imbalances. The economy shows signs of a slowdown but budget seems to be incapable of addressing some of the most pressing issues.

Foremost of these are achieving the dual, but at the same time conflicting objectives of sustaining economic growth and reigning in inflationary pressure, which is not an easy task. The government will need to strike a balance between fiscal prudence and fulfilling popular expectations in order to achieve an unwinding of the economic imbalances, which have reached unsustainable levels.

It is essential to avoid the debt trap which Pakistan currently faces. Considering that international price hike in soft and hard commodities is likely to continue over the next 12 months the government has little room to maneuver. Therefore, expecting the government to do miracles would be highly unrealistic. The readjustment process will take time and cannot be abrupt. Therefore, achieving macroeconomic stability should be the top item on the agenda.