Pakistan's Economy Continues To Weaken, Options Narrow After IMF's $7 Billion Bailout

The fundamental assumptions used to finalise the $7 billion deal with the IMF have gone awry within a month of its approval, leaving the authorities concerned with an option either to renegotiate the package or keep suffocating the economy through more taxes, according to a media report on Thursday.

Official statistics show that out of four key underlying assumptions for achieving the nearly Rs 13 trillion tax target -– the economic growth rate, inflation, large-scale manufacturing and imports — three assumptions have already been proven wrong by the end of the first quarter of the current fiscal year.

The federal government has also overly committed on behalf of the four provincial governments that, too, are struggling to meet their conditions soon after the deal became effective.

The Express Tribune newspaper reported that the official statistics for the first quarter (July-September) revealed that — from the Federal Board of Revenue’s tax collection target to provincial cash surpluses — everything has gone off the mark.

Deputy Prime Minister Ishaq Dar has also publicly spoken against the market-determined exchange rate regime, which is another core objective of the $7 billion Extended Fund Facility.

The IMF is again pressuring Pakistan to let the rupee further devalue; although as per Dar’s views the rupee is already undervalued by at least 16%.

The IMF deal is facing serious implementation challenges even sooner than many had predicted, underscoring how badly it had been knitted by the negotiators from both sides.

The newspaper had earlier reported that Pakistan finalised a wrong deal with the IMF, which might soon derail.

Citing sources, the paper said that except for the GDP growth, which remains within the assumption range of 3%, the other three autonomous growth indicators – inflation, imports and large-scale manufacturing – went off the mark in the first quarter.

As against the projected inflation rate of 12.9%, the average inflation in the first quarter remained at 9.2%. The development comes amid the Ministry of Finance’s new inflation forecast for October. In its monthly outlook report, the finance ministry stated on Wednesday that “it is expected that inflation will remain within the range of 6-7% in October and further down to 5.5 – 6.5% by November”.

Nearly 17% import growth had been used for reaching out to the Rs 13 trillion tax target but the imports grew only 8% in the first quarter due to dampened demand. The large-scale manufacturing growth also remained at 1.3% in the first quarter as against the assumption of 3.5%.

The FBR has already sustained a Rs90 billion tax shortfall in the first quarter and an internal assessment showed that the tax shortfall may widen in the range of Rs350 billion to Rs400 billion by December this year.

After seeing the results of the first quarter and the early signs of the second quarter either the government will have to reopen the assumptions used for the fiscal framework or keep chasing the unrealistic targets.

The contingency measures that the IMF has finalized in case of missing the tax target would further suffocate the economic growth and lower the home-take incomes of the majority of the taxpayers.

The situation warrants a holistic review of the IMF deal, as even a mini budget cannot help to achieve the unrealistic target due to multiple factors. The government’s efforts to boost revenues by blocking genuine tax refunds and taking undue advances have also not helped to achieve the monthly tax targets.

There is one view in the official circles that any savings from the reduction in the interest rates should be offset against the FBR’s tax targets. The government has set aside Rs9.8 trillion for debt servicing on the basis of an average interest rate of 17.5% for this fiscal year. However, due to a faster-than-anticipated slowdown in inflation, the interest rates may see a major cut, as indicated by Dar on Tuesday.

For this fiscal year, the IMF has given Rs12.92 trillion tax targets and the government imposed at least Rs1.2 trillion worth of additional taxes in addition to promising additional collection from traders and businesses through enforcement measures.

The impact of the nominal increase in prices (inflation plus GDP growth) is estimated at Rs 1.57 trillion for this fiscal year. Out of this, the first quarter’s estimated inflation impact was Rs 281 billion, but the realised impact was hardly Rs 130 billion due to single-digit inflation.

The GST collection at the import stage had been projected at Rs629 billion but it remained at Rs 482 billion due to an 8% increase in imports in the first quarter. This created a shortfall of Rs 147 billion, which was largely filled on the income tax side due to increased tax rates and taking some advances. The higher return filing also gave Rs55 billion windfall to the FBR in the first quarter.

Due to single-digit growth in imports, the customs duties collection remained at Rs 276 billion as against the estimated Rs266 billion.

The situation is going to further aggravate for the second quarter (October-December) period. Due to wrong assumptions at the time of signing the deal, the FBR fears that it may take another additional hit of at least Rs 254 billion. The impact of the autonomous growth is estimated at Rs 484 billion for the second quarter but the realized value may not be more than Rs 230 billion.

The publicly available indicators suggest that the FBR may again face an additional shortfall of Rs 125 billion on account of low collection of sales tax and excise duties at the domestic stage. The impact of import compression is also estimated at Rs 320 billion on accounts of all import taxes.

Some of these adverse impacts would be offset by about Rs 225 billion excess collection of income tax on the back of higher tax rates.

The provincial governments also could not show the required cash surpluses of Rs 342 billion and fell short of the target by Rs182 billion in the first quarter. This would further dent the primary budget surplus goal.

The provincial governments have also reluctantly signed the National Fiscal Pact and some major conditions are going to be missed in the coming weeks, according to The Express Tribune report.