Our trysts with IMF

Published September 22, 2023
The writer is a former deputy governor of the State Bank of Pakistan
The writer is a former deputy governor of the State Bank of Pakistan

WE had our first tryst with the IMF soon after the first martial law imposed by Gen Ayub in 1958. Following this engagement, our relationship with the IMF has been like an unhappy but lasting marriage.

We have contracted 22 programmes with the Fund. The present programme that started in July 2023 is the 23rd. Can our economy survive without IMF support? To answer this question, it is important to review the history of IMF’s lending commitments to Pakistan.

For 14 of these programmes, we were not successful in drawing the entire amount committed by the IMF because of a breach in policy steps that Pakistani authorities had committed themselves to taking. For eight programmes, Pakistan was successful in drawing the committed amount. Most of these were short-term programmes such as the present Stand-by Arrangement.

Moreover, irrespective of whether or not Pakistan completed the programme successfully, the country would plunge into a crisis within a few years, requiring a new programme. Thus Pakistan remained dependent on the IMF.

What this brief history shows is that Pakistan always ran out of the steam of fiscal prudence after or even midway through a programme. Not only did the loss of fiscal prudence put stress on fiscal accounts, it also led to the widening of the current account deficit that caused foreign exchange reserves to evaporate — slowly at first, and then rapidly as fiscal and monetary imprudence continued.

We are all familiar with the story of reserves build-up and depletion accompanied by boom-and-bust cycles of growth with high inflation. Will Pakistan’s future be any different? Will it be able to get out of IMF programmes and start relying on home-grown domestic resource mobilisation through tax revenues, economising on expenditures and export promotion?

What kind of policy actions are needed to reduce dependency on the IMF or other external creditors? Most of these actions lie, ironically, in the area of macroeconomic stabilisation that is prescribed by the IMF. Stabilisation policies help a country move towards greater self-sufficiency as it tightens its financial belt and reduces fiscal and external deficits, thus paving the way for lowering debt in relation to the economy’s size.

So, stabilisation is a move towards autarky, whether it is under a home-grown or an IMF programme. It should, therefore, be clear that phasing out IMF deals requires the continuation of IMF-like policies. This is the foremost reason it would be very difficult for the government to get rid of the IMF, because the authorities despise the macroeconomic prudence advocated by the Fund.

What kind of policy actions are needed to reduce our dependency on the Fund?

The government’s current fiscal position is unsustainable. This can be easily understood by reviewing the actual consolidated data on fiscal affairs for FY23. Expenditure was 19.1 per cent of GDP (Rs16.2 trillion), of which interest payments were 6.9pc of GDP (Rs5.8tr). In contrast, revenue was only 11.4pc of GDP (Rs9.6tr), ie, fiscal deficit (revenue minus expenditure) was 7.7pc of GDP (Rs6.5tr).

In this state of fiscal affairs, even government expenditure, excluding interest expenses, known as primary expenditure which stood at 12.2pc of GDP (Rs10.4tr), was higher than revenues, translating into a primary deficit of 0.8pc of GDP (Rs690 billion).

This means that the government is also borrowing to meet its interest expenses. Whenever the primary deficit is higher than zero, government debt increases. Clearly, this is not a fiscally sustainable position. If this situation continues, debt will continue to increase, and at some point, the government would be unable to meet its debt-servicing obligations, ie, it will face default.

Therefore, it is essential for the government to at least fully cover its primary expenditure and also generate a primary surplus, which will help bring down the debt-to-GDP ratio in future. Under these circumstances, irrespective of whether Pakistan is in or out of an IMF programme, this is the only way to create stabilisation and move towards self-sufficiency.

Pakistan’s public debt-to-GDP ratio in FY23 was 77.9pc. If it is to be brought below 60pc, as prescribed by the Fiscal Responsibility and the Debt Limitation Act, 2005, a fiscal adjustment of 17.9 percentage points would be required, in addition to 0.8 percentage points for primary deficit to be converted into a surplus. The arithmetic has been simplified for the purposes of this short article; in reality, the calculations are complex.

At least five percentage points of GDP of fiscal space must be created to put the debt-to-GDP ratio on a declining path. This fiscal adjustment can be undertaken by raising the revenue-to-GDP ratio in combination with reducing the expenditure-to-GDP ratio. Can we increase our taxes from 9.2pc of GDP to 14.2pc? If we want to rely on ourselves, we must. Otherwise, we will not be able to end our dependency on the IMF.

Fiscal excesses by the government always widen current account deficits. If the exchange rate is not managed properly, it plays havoc with foreign exchange reserves. The Pakistani authorities’ fascination with a fixed or an overvalued exchange rate is well known. This subsidises imports, penalises exports, promotes consumption, and depletes precious reserves.

An accommodative monetary policy and unwise tinkering with the exchange rate accentuates external sector problems. Whether or not we are in an IMF programme, we need to pursue a market-determined exchange rate that helps lessen the widening of external account deficits. Would we be able to do this outside IMF programmes? If we can, medium- to long-term prospects for exports would become better. Otherwise, we will continue to be overly import-dependent, besides being dependent on external creditors.

Phasing out our dependence on the IMF would require the implementation of wide-ranging reforms, not just the mobilisation of foreign investment. Fiscal and administrative reforms are needed to raise the tax-to-GDP ratio and to economise on expenditures.

Privatisation or meaningful reform of state-owned enterprises is needed to end their fiscal burden and increase their productivity. Energy sector reforms are needed to eliminate the build-up of the circular debt. Civil service reforms are needed to enhance governance and efficiency.

This is not an exhaustive list; reforms are needed in every sector of the economy. The weight of history is against Pakistan getting rid of the IMF. What is ironic is that all these things are doable.

The writer is a former deputy governor of the State Bank of Pakistan.
rriazuddin@gmail.com

Published in Dawn, September 22th, 2023

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