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IMF and homegrown reforms

Business

July 30, 2019

After long and painful negotiations, IMF approved Pakistan’s 22nd bailout package earlier this month. A detailed analysis of the IMF’s statement and accompanying staff report reveals that whilst under the 39 months extended fund facility (EFF), IMF will provide $6 billion, the net inflows would only be about $3 billion. Moreover, the economic reforms, supported by the EFF, strongly appear to be generic with significant similarities with the reforms introduced under the previous EFF, which failed to address the core of problems given their re-emergence. This casts considerable shadows on the effectiveness of this repetitive prescription of IMF in addressing the fundamental structural issues negatively impacting the competitiveness and productivity.

The economic problems of Pakistan’s economy are huge, complex and deep rooted as evident by recurring twin deficits and a stop-go growth pattern due to the persistence of fundamental economic structural issues in the economy. All this is despite taking 21 IMF programs, with the last one classified as “complete”, subjected to very right criticism for it has contributed to the current problems including on the external fronts.

The major issue of IMF’s prescription for tackling economic issues is that it tends to be generic, irrespective of the specific problems of a country, which clearly has not previously worked in Pakistan and will not work on this 22nd occasion. In fact, IMF’s “cold turkey” and “belt tightening” approach will only compound Pakistan’s economic woes, especially in the medium to long term. IMF needs to understand that its poor and generic prescription was the root cause of Asia’s 1997 Financial Crisis whereby, despite sound economic fundamentals including contained inflation and healthy government budgets, international banks withdrew from Asian economies due to small mishaps starting in Thailand. To overcome the situation IMF stepped in and demanded immediate budget cuts and bank closures from the governments. The outcome was a previously containable local panic turned into the Asian Financial Crisis of 1997 with the involved Asian countries still suffering from this ill prescription of IMF.

To put this in perspective, under the recent EFF, IMF has forced the government to raise power tariffs by 15%, which is a “quick fix pill” to mask the energy sector’s inefficiencies. IMF needs to understand that Pakistan’s electricity tariffs are already double the global average and triple the regional average, and yet the amount of “circular debt” (CD) has been spiraling. IMF must also realize that the CD is primarily the outcome of high electricity theft and transmission and distribution (T&D) losses, contributing about 22% to the CD, and, therefore, IMF’s reforms should focus on curing these problems rather than increasing the power rates that will only act to kill the economy. Moreover, IMF has also forced the government to unjustly withdraw the zero rating from the 5 priority export sectors who are now (amongst others) liable to pay 17% sales tax on revenue albeit not selling in Pakistan. These along with massive currency devaluation, significant increase in gas and oil prices, a further increase in regulatory duties on imports will predominantly result in cost push inflation to increase the doing business cost, to further erode the competitiveness of Pakistan in the domestic and global economies.

However, it is unreasonable to only hold IMF liable for the inability of the reforms to address the root causes of the economic problem as the implementation from government has also been weak. Nonetheless, IMF possessed all the tools to ensure for effective implementation given the disbursements were linked with the implementation and progress of reforms.

Going forward, government must work closely with all the key stakeholders to design, finance and implement the home grown industrial reforms on its own, given IMF will never finance such reforms based on its previous experiences in the country and globally. These home grown reforms needs to be aimed at addressing the fundamental structural issues negatively impacting the business climate to enhance the competitiveness and productivity in the global market, while also ensuring they are least distortionary for growth.

The focus of these reforms needs to be on (i) rationalizing business regulations and taxation; (ii) improving trade facilitation and logistics; (iii) enhancing national, regional and global economic connectivity; (iv) augmenting human capital development and labor market efficiency; (v) strengthening financial inclusion and deepening; (vi) resolving energy and infrastructure issues; and (vii) developing successful special economic zones (SEZs).

The government must realize that successful home grown industrial reforms is the only way forward to attract foreign and domestic investments for reviving, sustaining and diversifying manufacturing and exports to permanently overcome the reoccurring twin deficits problem. This is really the key to transform Pakistan into a dynamic, vibrant and integrated economy, capable of generating higher and more sustainable growth for more jobs and prosperity for all! The time is ripe given the government has come into the power on the mandate of bringing change in the country including on the economic front.

Writers are interns with the Asian Development Bank