Rethinking the budget

Published May 29, 2015
The writer is a former economic adviser to government, and currently heads a macroeconomic consultancy based in Islamabad.
The writer is a former economic adviser to government, and currently heads a macroeconomic consultancy based in Islamabad.

A NATIONAL budget should be the embodiment of an overall economic vision of a government. Rather than being a mere collection of numbers worked out on the basis of taking the previous year’s allocations and applying an ad hoc increase, the underlying fiscal and tax policy that underpins a budget should be designed to achieve a higher end.

The ‘higher end’ or goal the government should aim to achieve via its fiscal and tax policy is a function of the macroeconomic and political context. The political leadership as well as policymakers should be able to demonstrate recognition of the country’s most pressing needs, especially in terms of what is holding back the realisation of its economic potential, and align tax and expenditure policy to removing these constraints.

Some of the philosophical as well as operational and practical questions budget-makers grapple with at the time of the budget-making exercise include the following. Should investment-led economic growth driven by tax cuts and/or government spending be the focus, or should the government aim to rein in runaway public debt by expenditure restraint and tax increases? Should general subsidies to a large swathe of the population be continued, or augmented, and if so, how should these be paid for — via tax increases, or by borrowing?

Recent national budgets have failed to convey recognition of Pakistan’s most pressing economic problems.

Should the instrument of ‘growth’ be metro buses and orange line trains for a few urban centres that afford high visibility, or should the focus be on a rationalisation of the tax structure that will unleash investment as well as genuine growth, but whose initial effects will be too diffused for the electorate to appreciate?

Should tax cuts and investment incentives be focused on a few critical sectors, and if so, which ones? Perhaps the budget should focus on development of the country’s disadvantaged regions to promote national cohesion, as China’s 12th five-year plan explicitly sought to achieve with its focus on western and south-western China. Or, as a final example, perhaps the budget can prioritise expenditure on easing the infrastructure constraints of the country’s export sector, as well as improve Pakistan’s ranking on ease of doing business indicators?

These, and a host of other budgetary choices, have embedded trade-offs that need to be recognised and clearly articulated internally by the budget-makers. In some cases, the trade-off is inter-temporal or inter-generational — expenditure choices made in the budget could end up benefiting later generations more than current voters. In most cases, budgetary trade-offs involve taxing some segments more than others, while likewise spending more to the benefit of select cohorts than on the wider population.

Whatever the final choices made, they should reflect some larger thinking — or be part of a ‘grand design’ as I have called it earlier. In Pakistan unfortunately, national budgets over the decades, with very few exceptions, have not displayed any larger thinking or grand design.

A large part of the problem has been that budget-makers in Pakistan have been too obsessed with the ‘revenue impact’ of measures, without demonstrating an appreciation of their wider economic and social effects. Budget-makers need to understand that while revenue collection is important, how tax revenue is collected, from whom, and where it is spent is a higher-order consideration.

To compound matters, the design of IMF programmes has reinforced, over the decades, the shortening of the planning horizon of policymakers in Pakistan, especially at the Ministry of Finance. On the expenditure side, the political-bureaucracy nexus produces spending priorities that include development handouts for the politicians and more ‘freebies’ for senior civil servants.

At a broader level, policymakers also need to take into account that budgetary measures are one channel through which economic decisions and actors are impacted. There are numerous economic policy actions of a government outside the budget that have an equally large effect on sectors of the economy and its other constituents. (The decisions taken by the Economic Coordination Committee of the cabinet are invariably all outside the budgetary framework.)

A live, ongoing and current example is the tremendous stress this government has put the country’s industry under through a host of actions over the past two years. The tax and regulatory burden for the formal sector has been increased — making it even more uncompetitive against the informal economy — while at the same time the Gas Infrastructure Development Cess has been imposed, which significantly increases the cost of doing business. Over and above these measures, the government has kept the exchange rate overvalued for the past 17 months, hurting the country’s export sector. Finally, adding insult to injury, industry’s tax refunds of around Rs100 billion are not being paid.

This is an outstanding example of stand-alone measures being taken both inside as well as outside the budget, without any overall analysis of their combined incidence or impact. The past two budgets of the current PML-N government have been disappointing because they have been divorced from the macroeconomic context. Recent national budgets have failed to convey recognition of Pakistan’s most pressing economic problems, especially the ‘tax fairness crisis’.

While it would be unfair to pre-judge the upcoming budget, given the pattern set in the previous two years one can safely bet that existing taxpayers are likely to face a greater burden of taxation, especially industry. In addition, a greater part of the revenues are likely to come from indirect taxation. This government has not shied from increasing the sales tax on diesel — the fuel of agriculture and transportation in the country — to an unprecedented 34pc, while withholding the full benefit of falling international oil prices from consumers.

As an aside, a tax incidence analysis should be mandatory for any proposed new tax or revenue-collection measure. This will give the distributional effect of the proposed measure, and will make it possible to avoid over- or under-taxing any economic sector.

Tailpiece: One of the outstanding outliers in the country’s budget-making history was none other than the first PML-N government’s federal budget of 1992. While some of its measures are deemed controversial, the fact that it was ground-breaking in the scale and scope of its economic vision is indisputable. With its emphasis on a wide-ranging shake-up of a stifled and moribund public-sector-dominated economy via de-regulation, liberalisation and privatisation, it stands out as a visionary budget.

One only hopes that the third budget of the third reign of the Sharifs can produce something even vaguely similar.

The writer is a former economic adviser to government, and currently heads a macroeconomic consultancy based in Islamabad.

Published in Dawn, May 29th, 2015

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