Reflection on Prior Actions By Dr. Ashfaque H.

Khan Pakistan and the IMF have reached a staff level agreement for a $5.3 billion bailout program, which . This program is likely to be presented to the Eexecutive Bboard of the IMF in early September for its approval. However, before the program is presented to the Bboard, Pakistan will have to take several measures as prior actions. These prior actions are meant to test the resolve of the government to undertakein undertaking critical reforms during the program period. Before I delve into the details of the prior actions, a few words regarding possible augmentation of the IMF loan from $5.3 billion to either $6.6 billion or $7.2 billion are in order. At the time of signing the staff level agreement, the Fifinance Mminister inexplicably claimed that the new loan from the IMF would not increase the countrys indebtedness as this would be used for repaying the remaining loan of the IMF. Seeking augmentation of the loan is not desirable for several reasons. Firstly, this would increase the countrys debt burden. Secondly, it will hurt the reputation of the Ffinance Mminister as he will be seen as backing off from his claim. Thirdly, this government would be committing the same mistake as it wasthat committed by Shaukat Tarin during the previous government. Pakistan borrowed so heavily from the IMF that it faced serious repayment difficulties and hence waswas eventually forced to go to the IMF for a new program. My suggestion is that we should not seek augmentation. It will create complacency on our part towards building up foreign exchange reserves. The IMF on its part must evaluate Pakistans debt carrying capacity before agreeing to augment the loan. The IMF staff had expressed their concern about Pakistans capacity to repay the loan when the previous regime under the leadership of Shaukat Tarin sought augmentation. Their assessment proved to be correct as Pakistan failed to enhance its debt carrying capacity and was forced to seek a new assistance to repay the old loan. The IMF has asked the Pakistani authorities to implement five prior actions before the staff level agreement is presented to the board. These prior actions include: i) fiscal package; ii) electricity price adjustment; iii) launchingng of a tax reform initiative; iv) certain central bank initiatives; and v) commitments by the Council of Common Interest (CCI) on fiscal reform package including generation ofing surpluses by the provincial governments. These prior actions sprung emerged as a direct result of from three disappointments pertaining to the previous program of experienced by the IMF pertaining to the previous program. These disappointments included: the lack of progress in raising tax revenues,; in addressing the power sector losses ; and the in governance problems especially in these two policy areas (taxation and power sector). Fiscal indiscipline has been the root cause of Pakistans macroeconomic instability. Failure to mobilize adequate resources on the one hand and senseless spending on the other hand have led to the persistence of a large fiscal deficit in Pakistan. Any program with the IMF is, therefore, bound to focus on resource mobilization and expenditure rationalization. Under fiscal package as a prior action, Pakistan will have to take measures amounting to 1.5 percentage point of the GDP, with 0.8 percentage point on revenue side and 0.7 percentage point on expenditure side. The purpose is to bring the fiscal deficit down from 7.5% of GDP (excluding one-off expenditure) last year to 6.0% this year. The government has already taken measures on the tax side in the budget and has taken additional measures recently to increase revenue such as increasing GST rate on CNG by 6%. Furthermore, the government has also raised electricity tariff, which will generate additional revenue from sales tax and withholding tax. On the expenditure side, the government has taken measures to reduce power sector subsidy as well as reduced to reduce other current expenditure. The government has kept Rs120 billion under special initiative in the development program. Major savings can be accrued to government as very little amount is expected to be utilized this year. Thus, the government appears to have implemented the first prior action.

As regards the electricity price adjustment (second prior action), the government has increased electricity tariff for industrial, commercial and bulk consumes in the range of 22% to 64.6% with effect from August 1. This is the largest increase in power tariff in the countrys history. This measure will fetch Rs170 billion for distribution companies and is expected to contribute to the reduction in tariff differential subsidy. Thus, the second prior action has also been implemented by the government. As regards the third prior action (launching of tax reform initiative), it is not clear whether it has been implemented or not. As of today, the government has relied heavily on the existing taxpayers as well as existing tax base. No credible measures appear to have been taken in broadening the tax bases;, that is, no new areas of economic activity hasareas of economic activity have been brought under taxation. Domestic resource mobilization has always been athe critical element of the IMF program since 1988. It is unfortunate that the IMF has failed miserably in the last 25 years to increase Pakistans tax-to-GDP ratio under its program. It allowed successive governments to maintain the status quo and yet provided resources to them. Is there any accountability in the IMF? Perhaps not. On central bank initiatives (fourth prior action), the State Bank of Pakistan (SBP) is required to take at least two measures, that is to, pursue a flexible exchange rate policy and tighten monetary policy by raising the discount rate. The SBP has already implemented the first measure by withdrawing itself from intervening intervention in the foreign exchange market. Consequently, Pakistans exchange rate depreciated from Rs98.5 per dollar from June 1 to Rs102.9 per dollar on August 16a loss of Rs4.4 per dollar in exchange rate. The second measure of raising the discount rate in the regionange of 100-150 bps will be taken in the coming monetary policy announcement. Thus, the fourth prior action will have beenbe completed by end of August as well. The last prior action requires approval of the CCI on thegovernments commitment to fiscal measures including fiscal reforms. This prior action is highly critical for the success of the IMF program. From the IMF perspective, the 7th NFC Award has increasingly complicated the implementation of fiscal policy in Pakistan. If not properly managed, this Award will complicate macroeconomic stabilization, create risks of expenditure slippages and may compromise incentive to raise tax collection at all levels. This issue was discussed in athe recently held meeting of the CCI, but no firm decision was taken. According to the sources, the minutes of the meeting state that provinces will strive to generate surpluses. From the perspective of the provincial governmentsgovernments perspective, they were latter are always striving to generate surpluses. If they have failed, it iswas not their fault as the federal government never provided them the budgeted resources. On the whole, the government appears to have taken measures to comply with majority of prior actions. I am confident that the IMF staff will present the agreement to its Bboard. Most probably, the Bboard is likely to approve the new program by early September. The global leaders do not want to create economic instability in Pakistan either at this critical juncture of inthe history. The writer is Principal at NUST Business School (NBS) Islamabad. Email: ahkhan@nbs.edu.pk