ECONOMIC COSTS OF CANCELLATION OF THE KERRY-LUGAR BILL

SYED FAZL-E-HAIDER
Nov 02 - 08, 2009

The cancellation of the Kerry-Lugar Bill, which is facing intense criticism in Pakistan as it carries too many conditions for tripling the country's non-military aid $7.5 billion over the next five years, will cost dearly to the Pakistan's crumbling economy, according to the local analysts. If the Kerry-Lugar Bill is cancelled, the country will have to incur budget deficit of $800 million during the current fiscal year 2009-10, for which the government will have to recourse to International Monetary Fund (IMF) for more debts. It will be difficult for the country to repay the massive external debt with the GDP growth of two percent as projected by the IMF for the current fiscal year 2009-10, slowest in 10 years.

The Kerry Lugar bill will generate $1billion for possible return to the IMF unless the government renegotiates with the Washington-based lender. The controversy over the bill would discourage the investors in the country's main stock market, keen to see more external funding.

The annual assistance of $1.5 billion, which is entirely a grant under the Kerry-Lugar bill, will create fiscal space enabling the government to spend on development projects approved under an ambitious Public Sector Development Programme (PSDP) worth Rs 646 billion in budget for current fiscal year. Under former government of President Pervez Musharraf, the country had, on average, received $370 million per annum as grant from the US and the grant has now been enhanced to $1.5 billion under the bill.

During the first quarter of the current fiscal year, the country's budget deficit was 1.5 percent against 1.7 percent target. Pakistani officials have warned that the country will have to go to the IMF for more assistance if the US aid under the Kerry Lugar Bill is not approved.

The Kerry Lugar bill envisaging $1.5 billion assistance per annum would be used for budgetary support, according to the officials. The annual aid of $1.5 billion from the US constitutes 24.4 percent of the reliance placed on external resources in the budget for current fiscal year. The country's request to the IMF for additional loan of $3.2 billion that increased its loan from the Fund from $7.6 billion to $11.3 billion, was premised on the return of this amount to the IMF as and when the funds from friends of democratic Pakistan (FoDP) materialized.

The country's gross domestic product (GDP) growth is expected to remain unchanged at 2 percent in the current fiscal year 2009-10, the IMF said in its Regional Economic Outlook. The country's economy is in virtual recession as GDP growth in the last fiscal year 2008-09 of two per cent was barely enough to keep up with population growth of nearly two percent.

The IMF has projected inflation this fiscal year to be 13.9 percent (compared with 20.3 percent last year) against 9.5 percent target set by the government for the current fiscal year.

The consumers price index (CPI) inflation surged by 10.66 percent in September over the same period of last year, according to the Federal Bureau of Statistics (FBS). Sensitive Price Indicator (SPI) and Wholesale Price Index (WPI) inflation also witnessed an increase 9.29 and 0.49 percent respectively in September, 2009 over the same period of last year. The WPI inflation increased by 0.17 percent in September against August. The maximum impact WPI has been witnessed by food inflation that surged by 1.73 percent in September over the same month of last year.

The country's total foreign debt rose by $11.7 billion to $55 billion only in last two years. During last fiscal year 2008-09, the country received foreign loans, amounting to $8.8 billion from international donors and countries, including the IMF. The debt servicing burden has progressively reduced the government's ability to undertake much needed infrastructure development projects hampering the country's efforts for social and economic development. Analysts fear that if the cancellation of Kerry-Lugar bill forces the government to go to IMF for more loans, it will further enhance the country's debt servicing obligations, thereby squeezing the resources meant for developmental projects.

Islamabad has so far received a total of $4861.1 million loan from international financial institutions (IFIs), with $1.5 billion from Asian Development Bank (ADB), $1.17 billion from the World Bank and $656 million short-term loan from the IDB provided for oil purchase.

The country's foreign exchange reserves rose to $14.748 billion in the week that ended on October 3, according to the central bank. While the reserves held by the central bank witnessed an increase of $28 million to reach $11.168, the commercial banks recorded an increase of $30 million to $3.55 billion.

An indicator of economic improvement is that the country's current account recorded a surplus of $82 million in August while July-August combined deficit remained just 20 per cent of what it was a year ago.

More encouraging was the July-August combined deficit stood at $527 million against the massive $2.68 billion during the same period last year, according to a report published in daily Dawn. The main reason for improvement was the narrowing of trade deficit while the remittances being sent by overseas Pakistanis were the real key element of minimizing the role of current account deficit in the economy. Analysts believe that falling current account deficit would help the economy to improve while it would bring stability in the exchange rate.

Critics say that the rising debt would leave nothing for the private sector and contraction in credit for private sector would lead to further slump in business activities. Instead of resorting to foreign borrowing, the government should take measures to reduce non-development expenses and widen tax base by bringing more sectors in tax net to generate more revenues.

It is worth mentioning that the country's stock markets had positively reacted to the approval of Kerry-Lugar Bill by American Senate on September 24. The benchmark Karachi Stock Exchange (KSE)-100 index on September 24 surged by massive 277.01 points or 2.94 percent to close at 13-month high level of 9,713.83 points. Analysts believe that controversy over the bill would be detrimental to the recent market recovery having negative impact on the market sentiments.

The proponents believe that the Kerry-Lugar bill will promote an enhanced partnership by tripling U.S. economic assistance to Pakistan to $1.5 billion every year for the next five years. The money that will be spent on development and infrastructure projects including healthcare, education, water management and energy programs; those sectors that will truly affect and uplift the average Pakistani citizen.