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The recipe for a pro-poor IMF bailout

October 29, 2018

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Finance Minister Asad Umar and IMF chief Christine Lagarde shake hands before their meeting in Bali, Indonesia.—AFP/File
Finance Minister Asad Umar and IMF chief Christine Lagarde shake hands before their meeting in Bali, Indonesia.—AFP/File

PRIME Minister Imran Khan is seemingly unhappy that his government will have to seek a bailout from the International Monetary Fund (IMF). His discomfort resonates in a never-ending string of statements that the country may not go to the IMF after all, although Finance Minister Asad Umar suggests that he read that writing on the wall before the July 25 elections.

Mr Khan might be concerned about the prospect of losing electoral support, or perhaps he suspects that the conditions of a bailout will curb his party’s ability to develop and implement home grown reforms. Let’s lay the rhetoric of “begging bowl” to rest for now.

Fearing grave risks to the party’s popularity, which relies heavily on its reforms-hungry urban youth, is premature. Nonetheless, if the government fails to mitigate the inflationary pressure resulting from IMF-led reforms through an appropriate social safety net, millions of poor and near poor households will be forced into further distress. That warrants the governing party’s attention more than any political implications.

Mr Umar should be appreciated for his commitment to work out a “pro-poor bailout”. But, can he succeed?

In the likely event of a three-year bailout, the Fund will require the government to take several monetary and fiscal policy measures to improve macroeconomic fundamentals.

The continuity of the programme would require the implementation of expansive reforms to increase tax revenues and reduce the wasteful subsidisation of state-owned enterprises. The dire need for these reforms does not change regardless of the conditions agreed upon with the IMF.

How likely is Asad Umar to succeed in his pledge for a people-friendly IMF programme?

Among those measures, two will have immediate, critical consequences for the poor: devaluation of the rupee and removal of energy subsidies.

The IMF has repeatedly noted that the rupee is overvalued, and a flexible exchange rate regime will improve our exports’ competitiveness. Inversely, the depreciated rupee will inflate the cost of imported fuel, food items and consumer goods. And we don’t have many options to hedge against this risk.

In FY17-18, we imported about $20 billion worth of vegetable and mineral products, of which oil products constituted around $15bn. To worsen our woes, Brent crude price is $76/barrel, up from $69/barrel in January 2018, with minimum chances of a reversal anytime soon. It is also likely that the Saudis will add premium for the $3bn deferred payment arrangement. The government certainly owes the nation an explanation in this matter.

Our transporters are seldom shy of increasing tariffs’ disproportionality in their favour whenever they have to pay a few paisas more on the price of diesel. The wave of inflation will be more painful as imported fruits and vegetables are transported to the vendor in a local sabzi mandi by burning imported fuel.

Another favoured condition of the Fund is the removal of energy subsidies, which is seen as an inefficient tool to fight poverty. The fact is that our energy system in general, and the power system in particular, is plagued with a poorly designed, inadequately funded subsidies programme.

Analysis suggests that due partly to the seasonal variation in power consumption in the country and the exclusion of about 50 million people from the grid-connected consumer base, the desired benefits of energy subsidies rarely benefit the poorer households.

Moreover, the existing framework of Tariff Differential Subsidy (TDS) is flawed. The government sets TDS every fiscal year, but its subsequent failure to disburse the accrued amount on time worsens the infamous circular debt. The subsidy is budgeted to be Rs105 billion for FY2018-19, which is arguably insufficient amid high oil prices and a likely devaluation of the rupee.

It must be underlined here that the institutional structures that were nurtured over the last many decades cannot be reformed overnight. Therefore, if required by the IMF, the government should lay down a plan to make energy subsidies more equitable and replace it gradually with more effective solutions.

The short-term measure is to introduce different slabs for winter and summer months. So, a rich household consuming 4,000-5,000 kilowatt-hour (kWh)/year should not be subsidised in December when the monthly consumption is merely 100 kWh. Instead, a household utilising 1,000-1,500 kWh/year needs to be subsidised for a few hundred kWhs of additional electricity during summer months.

In the long run, the government will continue strengthening the reliability of the National Socio-Economic Registry (NSER) to leverage this database to direct energy subsidies and income support where they are most needed. By using the NSER and NADRA databases, the government can expand the Benazir Income Support Programme (BISP) from the current base of 5 million households and enact programmes to protect the poor against the inflationary pressure resulting from the envisaged reforms.

The Sensitive Price Index may serve as a proxy to calculate the required amount of support as the impact of an IMF bailout will ultimately translate into the value of goods and services purchased by the households. Some governments adopted cash transfers or vouchers to protect their poorer population, which were proven to be more effective.

The government should not agree to a condition to further increase in power and gas prices for commercial and industrial consumers at least for a year, as this will multiply inflationary pressure and make our exports less competitive. Alternatively, the government should force Discos to ensure a significant increase in the bills recovery ratio to avoid commercial losses.

These measures require the finance minister fight the case of the poor to the best of his capabilities while negotiating an IMF bailout. Back home, he must convince his cabinet colleagues in the energy ministry to work diligently to make these reforms a success.

Perhaps we don’t have a recipe for a pro-poor IMF bailout after all; but Mr Asad Umar can surely make it less painful for the poor.

And for the Prime Minister, he may need to relax a bit as the next general elections are scheduled for 2023 giving him enough time to prove what he is truly capable of.

The writer is an analyst specialising in energy policy and political economy. He tweets at @sohaibrmalik

Published in Dawn, The Business and Finance Weekly, October 29th, 2018