By Sushant Sareen
Ever since it has come into existence, Pakistan has been living off other people’s money. Over the last seven decades, Pakistan’s elite have become so used to other peoples’ paying their bills that there is now almost a sense on entitlement that every time they are on the brink of bankruptcy and about to default, the world will come to their rescue and bail them out. After all, Pakistan’s Unique Sales Proposition (USP) – a nuclear weapons state in which Islamism and jihadism is not just an article of faith but also a foreign policy instrument – has made it ‘a country too dangerous to fail’. Dreading the prospect of a failed Pakistan, the West and in particular the US, has always thrown a lifeline whenever Pakistan started to sink. But instead of crisis providing an impetus for reform and improve the living standards of its 210 million people, the bailouts given to Pakistan have only emboldened, encouraged, even incentivised, it to treat debt as disposable income, and when payback time comes, seek more handouts.
But the party might just be coming to an end. If the press release of the Staff-level Agreement on Economic Policies between Pakistan and IMF is anything to go by – the detailed programme listing out the commitments that Pakistan will have to deliver on will only be unveiled after it is approved by the IMF board – the free lunches are over and Pakistanis will have to start paying their own bills. Far from being a bailout, the IMF programme is going to force extremely difficult and unpalatable reforms on Pakistan and confront it with the choice of ‘perform or perish’. This essay explores the seven key aspects of the IMF bailout.
It isn’t as if the Pakistanis weren’t aware about what was in store for them if they approached the IMF. In fact, the Imran Khan government tried hard to avoid the IMF for as long as they could. Even though it was clear when Imran Khan assumed office that Pakistan had a huge Balance of Payments (BOP) hole to plug and would have to approach the IMF, the inexperienced and, as it turns out, utterly incompetent and ignorant, ‘Khanistas’ (the Pakistani equivalent of Bhakts and Durbaris) did needless grandstanding. Their plan was to plug the BOP deficit by seeking assistance from ‘friendly’ countries. It was believed that if Pakistan managed to sufficient funds from its friends, it would improve its negotiating position with the IMF, and so the conditionalities wouldn’t be as onerous as they otherwise would be.
Clearly, in a system where chartered accountants and MBAs pretend to be economists and even lawyers confidently speak of the IMF like it is a commercial bank, such miscalculations were only to be expected. The result was that even though Pakistan got nearly $9 billion in loans from its ‘friends’ (the Chinese have given around $4 billion, the Saudis $3 billion and the UAE $ 2 billion), this only gave some breathing space to the Pakistan economy. It didn’t address any of the deep structural problems that have forced Pakistan to approach the IMF more than a dozen times since the late 1980s.
High Cost of Delay
After exhausting all other options, Pakistan was finally forced to go back to the IMF. But the nine months delay neither improved Pakistan’s negotiating position, nor changed the tough conditions that the IMF was insisting upon. If anything, by the end of it, with the economy continuing to slide (in part because of the uncertainty caused by the government’s indecision) Pakistan was so desperate for the IMF programme that not only did it change the entire top echelon of the financial hierarchy – finance minister, central bank governor and the revenue chief – it also asked the finance secretary (a man who showed some spine and was resisting some of the stiff conditions that IMF wanted to impose) to stay away from the negotiations. The IMF agreement is therefore virtually Pakistan signing on the dotted line.
The desperation of Pakistan for the IMF package is also apparent from the fact that the Extended Fund Facility (EFF) programme is only for $6 billion over 39 months. The Pakistanis were at one point talking about nearly double this amount. But given Pakistan’s IMF quota and the loans previously contracted – nearly half of the current package will go in repayment of previous IMF loans – getting anything more was always going to be a bit of a stretch, more so against the backdrop of the US not quite backing Pakistan as used to be the case in the past. Clearly, the entire $6 billion isn’t going to be given immediately, but will be released in tranches. Given that in the next fiscal, Pakistan is expected to face a financing gap of anything between $10-11 billion annually, and has to pay back over $30 billion over the next 7 years, the IMF tranches are not going to be enough. Pakistan of course hopes that the IMF package will open the doors for assistance from other multilateral financial institutions like World Bank and ADB, and also allow it to borrow money from international financial markets probably is seen as the silver lining to the otherwise dark clouds hovering over the Pakistan economy.
In return, however, Pakistan will have to meet extremely tough conditions, most of them front loaded. Although Pakistan tried to negotiate implementation of conditions in a phased manner, the IMF refused to cut any slack and has insisted on prior action.
Prior Actions for every Dollar
The press release issued by the IMF states that the agreement is subject to the approval of the IMF board which in turn is contingent on “timely implementation of prior actions and confirmation of international partners’ financial commitments”. The latter part suggests that Pakistan will have to go back to its ‘friends’ and not just seek a rollover, rescheduling and perhaps even a moratorium of the debts from their friends – this condition is perhaps linked to the US insistence that IMF funds not be used to pay back Chinese loans – but also new commitments because the financing gap won’t be plugged by just the Fund-Bank loans alone. The former part – prior actions – is going to be even more arduous because not only does this involve very painful economic adjustments but also has a political dimension that could shake up things in Pakistan.
The prior actions, most of which will have to be included in the budget for the next fiscal, will involve slashing subsidies and exemptions, increasing revenues and cutting expenditures. The scale of the fiscal adjustments is daunting. According to reports in the Pakistani press, the government will have to collect anything between 30-35% more revenue. This means around Rs 1.5 trillion over the 2018-19 revenue collection of Rs 3.95 trillion. At a time when growth is expected to fall under 3% and inflation expected to rise to double digits, raising revenue by a third through increasing tax rates, eliminating tax exemptions and concessions (including to exporters) and subsidies, and cutting government expenditure is going to be a mission impossible.
Prohibitive cost of money
What is more, the IMF is insisting on a “market determined exchange rate.” It isn’t quite clear if this means a free float of currency or allows for a minimal intervention by the State Bank of Pakistan (SBP). In either case, the market expects that Rupee to depreciate by around 15-20% over the next few months. This is also because the IMF is believed to be insisting on positive Net International Reserves being maintained by the SBP. This means that SBP will have to build up reserves by buying dollars, which will push up the dollar price. In addition policy rate announced by SBP is expected to be jacked up by another 150-200 basis points. Given that over the last few months, the interest rate has gone from around 6% to over 11%, another 2% rise will take it to over 13%. The lending rate will go up commensurately to around 15-16%, which will make the cost of doing business very high, stifle investment for the foreseeable future and lead to a contraction of the economy with attendant rise in unemployment and poverty.
Tariffs to spike
There is more. Energy and gas tariffs will have to be raised substantially (20-25%) to get over the problem of circular debt that has been dogging the energy sector and burning a hole in government finances. According to the IMF, “a comprehensive plan for cost-recovery in the energy sectors and state-owned enterprises will help eliminate or reduce the quasi-fiscal deficit that drains scarce government resources.” As it is, the rise in power and gas tariffs have squeezed the budgets of the middle class, and a further rise will only add to the already high economic distress level. The IMF is also adamant on reforms in the public sector units. For the longest, successive governments in Islamabad have been promising to either revive these units or sell them. But neither has happened. Once again, there is pressure to make the public sector behemoths like Pakistan Steel Mills, Pakistan International Airlines and Pakistan Railways self-sustaining or dispose them off. The Pakistan government has been floating a list of some three dozen state owned enterprises that will be privatised but this appears to be quite an uphill task.
Constitutional Independence under Pressure
At the political level, the IMF has asked for fiscal adjustments that could impact on not just the centre-provinces relations but also civil-military relations. One of the prior actions that will have to be ensured in the budget is a primary deficit of 0.6% of GDP. Currently, the primary deficit is over 2%. Given that primary deficit is calculated after excluding debt servicing means that the adjustment will have to come either from defence budget or development expenditure, or from the expenses incurred in running the government or finally from the transfers made to provinces under the finance commission award. The IMF has indicated that ‘essential development spending’ has to be preserved, social welfare and direct income subsidy schemes like Benazir Income Support Programme has to be scaled up, and targeted subsidies have to be improved. This means the cuts will have to come from general government expenditure or defence or provinces.
No major cuts are possible in government expenditure, at least not until the federal government in Islamabad abolishes ministries and departments that have already been devolved to the provinces. Without this, only some marginal cost cutting is possible. Defence expenditure constitutes a huge chunk of the budget. But given the preponderance of the military in the politics of Pakistan, it will be a tall task to cut the budget of the military. Even so, there will be voices that the military also sacrifice like rest of the country. The bulk of the cuts will however be sought by cutting the funds to the provinces. This is constitutionally not possible but then the constitution is hardly a sacrosanct document in Pakistan and is more often observed in its violation. The cuts in provincial resources will have its own repercussions on the federal polity. The IMF has for sometime now been pointing out that the fiscal federalism that currently obtains in Pakistan is not a viable or feasible arrangement. In its press release the IMF has weighed in on this issue and said that not only will the provinces align “their fiscal objectives with those of the federal government”, but also that provincial governments will be engaged by Islamabad for “exploring options to rebalance current arrangements in the context of the forthcoming National Financial Commission.” This is perhaps the most direct intervention ever in the constitutional scheme of things in Pakistan.
Redefining cost of terror
Finally, the IMF has listed Pakistan’s “continuing anti-money laundering and combating the financing of terrorism efforts” as one of the priority areas of the structural reforms agenda. The reference to AML/CFT is probably the first time that Pakistan’s feet are being held to fire on the issue of terrorism. This ‘priority area’ is directly linked with the Financial Action Task Force (FATF) commitments of Pakistan. Chances are that Pakistan won’t be black listed but will remain on the FATF grey-list for some more time. This will be a sword that will be kept dangling on Pakistan’s head to force compellence on it to shut down the jihad factory that has been running with impunity for decades.
Clearly, the screws are being turned on Pakistan by the IMF. Unlike the past when many concessions were given before and during the programmes, and Pakistan’s violation of the conditions were waived off, this time Pakistan is being forced to fulfil its commitments before the IMF gives a single dollar. There has been virtually no concession given to Pakistan which is being squeezed like never before. While this has a lot to do with the way Pakistan has managed its economy, it also has a lot to do with the changing strategic scenario in the region. The days when Pakistan was the most allied ally of the US are long gone. The choice before Pakistan is stark: it can either undertake extremely painful reform or else start to develop a taste for grass.