IT’S the oldest script for any incoming government, and despite their best efforts to avoid using it, the new PML-N government has bowed to the inevitable.
The script always begins with the same words: “We inherited a broken economy.” Then come the string of inevitable measures, first of which is an approach to the IMF for a loan. Then come the price increases, followed by the shrill commentary in the media and the government goes on the defensive as the opposition smells blood.
It’s no different this time. Everybody knew, months ago, that an approach to the IMF would be inevitable in the early days of this government. People scratched their heads when the first intimations from those close to the party’s leadership suggested that the government would like to initially try and tackle the moment without going to the fund.
The general sense of puzzlement picked up a notch following the budget, and the announcement of a revenue target, and foreign inflows projections that seemed unrealistic. Wasn’t the budget the first opportunity for the government to demonstrate its intent, and seriousness of purpose? If so, why did they pass up the opportunity to take the bull by the horns?
Now the clouds of uncertainty have lifted, and the script has been revealed. And mandate or no mandate, it turns out the script for this government will not be very different from that of previous governments.
Very few people believe that a bad decision has been made. “It’s necessary at this point,” says Salim Raza, who served as State Bank Governor the last time when Pakistan went to the IMF. But a number of questions are raised in the wake of the accession.
“What is the secret agreement on the downward adjustment of the rupee?”, asks Dr Hafeez Pasha, who has dealt with the IMF as finance minister in the past.
With the State Bank now locked out of intervening in the currency markets to support the rupee, he argues, the rupee is going to have to slide and the size of the facility is also insufficient to cover the financing needs of the forthcoming fiscal year.
Between all the expected inflows in the coming year — from Coalition Support Fund (CSF), to auction of 3G licence to dues from PTCL privatisation to the Eurobond floatation to the China safe deposit and resumption of loans from other multilateral lenders, “we are still left with a net financing gap of $3 billion”, he says.
“Now if they give us over $3 billion from the facility in the first year, it might just put us over the hump, but the situation on the external front remains fragile because this is still the best case scenario.”
For Salim Raza, the largest risk is the size of the domestic debt. “If interest rates are going to go up, which looks likely, each percentage point increase means 85 billion rupees of additional debt service cost.”
“A lot will also depend on the timing of the removal of the subsidies,” he continues, saying the IMF will be watching progress on this front very carefully.
Shaukat Tarin, former financial adviser who oversaw the last approach to the IMF and presided over its implementation until resigning in February 2009, is a little more upbeat.
“I don’t see any stiff prior actions, the fund has been soft on Pakistan if you ask me,” he says. Bringing the deficit down should not be as hard as it seems in his opinion.
The math is simple, according to him. There’s a five-rupee difference between the average rate determined by Nepra and the rate at which electricity is sold. Even a three-rupee increase in the average tariff gives you almost Rs250 billion.
“They’ll end up spending close to 550 billion on subsidies if they don’t rationalise the tariff,” he says, arguing that this is a big threat to the fiscal framework, but also presents an excellent opportunity to stabilise things if recoveries can be improved.
Tarin served as financial adviser in a time of currency stability. Much of the devaluation in the currency had been done in days prior to accession to the facility. This time too, he says, rupee stability hinges on inflation. “If you can control inflation, you’ll have a stable currency,” he says, pointing out that the expected hikes in the power tariff will present the biggest challenges on the inflation front.
But he agrees that the days of quietly supporting the rupee through State Bank interventions in the currency markets are now over. “The fund will frown on this practice,” he says, before adding that in his opinion, the rupee is probably already overvalued.
The old script goes exactly like this. Circumstances force a new government to accede to an IMF programme. The accession is followed by “rationalisation” of key prices like power and fuel. The rupee comes under pressure, inflation rises, interest rates go up. And the incumbent government spends the rest of its time in office managing the quandary that leaves it stuck between the imperatives of stabilisation on the one hand, and the dire need to restart growth on the other.
From here on, if the new government doesn’t take swift and bold action — not mere announcements — the initiative will comprehensively pass from their hands. And it would all have happened before any money has even been disbursed, since the fund has asked for “prior actions” before they will even consider granting the loan facility to Pakistan in September.