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Tuesday, April 06, 2010

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Challenges for the finance adviser

Dr Ashfaque H Khan The government has appointed Dr Hafeez Shaikh as the advisor to the prime minister on finance after the exit of Shaukat Tarin. Let me congratulate the president and the prime minister for appointing the right man for the right job in an extremely difficult economic environment. I also appreciate Dr Shaikh's courage for accepting the challenge. Dr Shaikh has inherited an extremely fragile economy which was badly handled by those who had little understanding of the subject for over the last two years. The economy is currently facing multi-dimensional challenges such as slower economic growth resulting in the rise of unemployment and poverty; large budget deficit and heavy reliance on domestic sources, particularly the banking system to finance it, has made the country's monetary policy subservient to fiscal policy. The persistence of higher double-digit inflation is not only affecting adversely the poor and fixed income group but also forcing the State Bank of Pakistan to keep the discount rate at an elevated level. The higher interest rate is discouraging private investment and causing interest payment to rise which, in turn, is eroding the fiscal space to be utilised for development spending. The sharp depreciation of exchange rate (from Rs62.76 per dollar to Rs84-85 per dollar) has itself created multi-dimensional problems. It has added approximately Rs1200 billion in public debt alone; it has forced the government to increase the price of oil and electricity and emerged as one of the major sources of persistence of higher inflation. And most importantly, it has led to the sharp increase in interest payments, thus putting pressure on the budget. Exports on the other hand, have registered a decline. Also, the sharp depreciation of exchange rate coupled with senseless borrowing, both from domestic but primarily from external sources, have drowned the country in debt. It took 60 years to add Rs4.8 trillion in public debt but in the last two and a half years Rs3.7 trillion have been added in public debt. This is the departing gift of Shaukat Tarin to the nation in general and Dr Shaikh in particular because the poor Shaikh will have no fiscal space to provide relief to the inflation-stricken poor of this country. Other than that, our economy is also facing challenges such as power shortages and the persistence of circular debt. These are not only hurting the industrial production and exports but adversely impacting the general business activities as well. Consequently, the country's tax collection efforts are being hampered. How should Dr Shaikh proceed? He should first prioritise the challenges. Restoring investors' confidence should be his number one priority. What needs to be done in this area? He has to bring economy at the center stage of the government's public policy. The government should be seen as taking interest in the economy and providing 200 per cent support to the finance advisor. Dr Shaikh should interact selectively with the media and explain his economic agenda. He must appoint a spokesperson of the ministry of finance who should interact with the media, explaining the government's viewpoint. To build investors' confidence, Dr Shaikh must start visiting the leading chambers of commerce and industry and meet the business leaders. He should also meet the foreign investors by visiting their chambers in Karachi. He should also meet the country's leading bankers and industrialists separately. To establish a strong relationship between the fiscal and monetary authorities, he should immediately call the meeting of the Fiscal and Monetary Policies Coordination Board and must ensure that the board meets regularly on quarterly basis. Dr Shaikh must make every effort to achieve the fiscal deficit target of 5.2 per cent of GDP for

the year 2009-10 and the SBP must continue with the tight monetary policy. Every effort should be made to collect Rs1380 billion by the FBR. In the event of any slippages, the advisor should be ready to restrict the releases of the PSDP. Dr Shaikh should make the provincial governments responsible for keeping a close eye on the prices of essential items by inviting chief secretaries in the ECC meeting. The problem of circular debt needs deft handling. My suggestion is that Dr Shaikh may request the international investment banks to calculate the power rate hike to get an independent view. To bring the debt situation under control, Dr Shaikh should keep budget deficit in the range of 3.5 4.0 per cent of GDP in 2010-11. Such a policy would release pressure on interest rate and would encourage the SBP to cut discount rate. Reduction in interest rate may encourage private investment. Low budget deficit would lead to less borrowing and slow the pace of accumulation of debt. Dr Shaikh needs to appoint a committee to look into the issues of throw-forward and clean the portfolio of development projects. To bring inflation under control, he will have to put his foot down in freezing the support price of wheat at the current level for two more years. The SBP must continue to pursue the tight monetary policy until the end of the first half of 2010-11. The SBP must maintain stability in the exchange rate. To raise resources to address the circular debt problems, Dr Shaikh may like to float Sukuk or conventional domestic bonds. He may like to consider a non-deal roadshow in leading financial capitals of the world to apprise global investors about Pakistan's emerging economic story. It goes without saying that he must give full attention to the energy crisis, and regularly take briefings on the issue, as economic activity and energy requirements are strongly linked with each other. Though it is difficult to do justice in explaining the points in limited space, I have attempted to list the main issues and possible measures to address them. I wish Dr Shaikh the best of luck in his new assignment at the critical juncture of our economic history.

The writer is director general and dean at NUST Business School, Islamabad. Email: ahkhan@nbs.edu .pk

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