The government may have to make a further fiscal adjustment of between one and 1.5 per cent of GDP along with a road map for the reform strategy to qualify for the next programme of the International Monetary Fund (IMF) for macroeconomic stabilisation and consolidation.

The discussions between Pakistan’s authorities and the IMF staff mission that started early this month enter the most crucial phase today as they begin the concluding session to finalise the size of the programme and terms and conditions for the Memorandum of Economic and Financial Policy (MEFP) and the Letter of Intent (LOI).

The fiscal adjustment worth Rs400-550 billion is going to be tough for the masses given the recently increased prices of natural gas and electricity and the supplementary budget that the PTI government introduced two months ago. Inflation has since reached close to 7pc even though the impact lag of energy prices, particularly the power tariff, has yet to come.

Another round of energy price increase will follow soon to ensure 100pc recovery of gas and electricity costs from consumers and make up for an additional subsidy of Rs44bn to export-oriented sectors

This will be on top of an earlier adjustment of almost 2.1pc (about Rs800bn) introduced by the PTI government in the September supplementary budget, followed by additional adjustments of about Rs120bn and Rs225bn in gas and electricity rates, respectively, making almost 0.9pc of GDP. This will perhaps be the highest ever fiscal adjustment in a fiscal year, with a cumulative impact of about 4pc of GDP.

Even though negotiations are far from over, there are indications that the IMF wants an early make-up for a revenue shortfall of around Rs70bn in the first four months of 2018-19 against the supplementary budget target. It also wants Rs100-120bn additional revenue generation through an increase in the standard rate of general sales tax rate (GST), meaning 1-2pc hike in the existing 17pc GST. There is also the call for a steep increase in tax rates on petroleum products to normalise the GST rate from the existing 12.5pc on diesel and 4pc on petrol. Final numbers will be out before this weekend.

On top of that, another round of energy price increase has to follow soon, beginning January next year, to ensure 100pc recovery of gas and electricity costs from consumers to make up for an additional Rs44bn subsidy promised to export sectors in the shape of gas rates. The size of these adjustments will also depend on the success of the authorities in fighting Rs1.3 trillion worth of tax cases currently pending in courts and recovering about Rs900bn outstanding electricity bills besides the campaign against energy theft and reduction in line losses.

The IMF wants complete exchange rate flexibility, full autonomy to the central bank and further tightening of monetary policy in the immediate future to set roots for stabilisation, curb demand and then consolidate the economy during the three-year programme. This has to simultaneously dovetail the gradual long-term reforms for higher economic growth, improved governance, modern and equitable tax system, self-sustaining state enterprises and improved business climate.

The IMF has already advised the government to surrender its power to notify electricity rates to an automatic price adjustment mechanism under the National Electric Power Regulatory Authority (Nepra) as a key tool to end repeated emergence of the circular debt and provide a targeted subsidy in line with the Benazir Income Support Programme (BISP) mechanism.

This is because the IMF and the authorities agreed that a major chunk of the circular debt was caused by the time consumed in tariff petitions filed by power companies and the determination of rates by the regulator along with back-and-forth exchanges with the government for notification. The idea is to follow an automatic monthly fuel prices adjustment mechanism for other components of the electricity costs as well on a quarterly basis to reduce the time lag and the need for repeated political interventions.

The Nepra law will need to be amended to ensure that the regulator receives tariff petitions on templates and determine tariffs under a fixed formula and performance standards in a time-bound manner. Tariffs should then stand automatically notified shortly.

On the expenditure side, there is hardly any room for cuts as the government has already rationalised the public-sector development programme (PSDP) by almost 35pc to about Rs661bn for the current year. Nevertheless, efforts will continue to rebalance fiscal federalism arrangements to divert some funds for special areas like Gilgit-Baltistan, Azad Jammu and Kashmir and the transformation of tribal areas into settled parts of Khyber Pakhtunkhwa.

The Sindh government has a crucial role to play: the PTI and its allies are in government in the centre and the rest of the three provinces.

Published in Dawn, The Business and Finance Weekly, November 19th, 2018