That sinking feeling

Pakistan’s economy is currently like the cartoon character that finds itself suspended in midair after falling off a cliff with its arms and legs flailing. And like in the comic strips the finance minister, Ishaq Dar, would rather that we not look down lest we be terrified by the realization that gravity is about to come into play.

By its inaction it appears that the government is still unclear about its economic strategy, which is why the analogy of an economy in free fall is apt. Instead of giving an indication about where we stand vis-a-vis the resumption of the IMF agreement, we are told by the government that three of the country’s airports will be outsourced.

So one might well ask if upgrading airport efficiency is among the country’s priority areas meriting immediate attention. Most people would likely say that it’s not. Indeed, the public would probably prefer if the condition of the Railways was improved since rail travel is relied on by a much larger proportion of the population relative to air travel.

Moreover, one wonders if the government has even given sufficient thought about the security implications of outsourcing airports. Handing airport management over to foreigners is fraught because of its national security implications. Cast your mind back to the events that took place in Abbottabad in 2011 or further back to 1960 when Gary Powers took off from Peshawar in a U-2 spy plane to get an idea of the unforeseen consequences.

The finance minister has adopted an ego-driven and hard-charging approach in his negotiations with the IMF. This has resulted in friction and a delay in resumption of the IMF programme. Perhaps, Mr Dar fancies his chances of getting some concessions because of the recent floods but an adversarial approach is unlikely to work when the IMF holds all the cards and Pakistan’s government does not have the luxury of biding its time.

Administrative controls over the dollar-to-rupee exchange rate provide a textbook economics result as to the outcomes of such an approach. Dollar shortage. Check. Black markets. Check. Hoarding by suppliers (exporters). Check. And not least there is the adverse impact on remittances as Pakistanis residing overseas avoid using official channels for inward transfers of foreign currency turning instead to unofficial sources that pay higher market-based rates.

The one reliable and growing foreign currency source that the country has is remittances and our finance minister’s fixation on bringing the rupee-dollar parity down is undermining even that. This also risks unraveling the hard work done over several years to remove Pakistan’s name from the Financial Action Task Force’s (FATF) gray list.

Pakistan’s problem is persistent overspending by governments without sufficient domestic resource mobilization. This has translated into a continuous buildup of local and foreign currency debt. Inflation was kept under control in the past since excess demand over domestic production was satisfied through imports as reserves of foreign exchange were adequate if not substantial. Pakistan today lacks the taxable capacity to repay its domestic debt and suffers from a chronic foreign currency shortage that has resulted in an inability to repay its foreign currency debt without the help of the IMF and ‘friendly’ countries.

The reliance on inflows from ‘friendly’ countries to help us overcome the self-made financial quagmire is also overrated. Indeed the notion that there is ‘friendship’ among states is in the nature of a romantic fiction that needs to be disabused. Countries have shared interests that form the basis of alliances. (Try entering a ‘friendly’ country as a Pakistani national without a visa and you’ll get the point albeit with some discomfort.)

Besides, badgering ‘friends’ time and again for financial bailouts will also strain the relationship even perhaps to the breaking point.

Something has to give under the dire economic condition we find ourselves in now – which is why extreme measures need to be taken. In this regard, slashing government expenditures should be of the utmost priority.

One step would be to cut across-the-board all government salaries, perks, and pensions by say 20 per cent with a waiver for those falling below a certain pay or pension threshold.

Compensation and benefits of cabinet ministers and parliamentarians should be among the first to be slashed. Moreover, foreign tours of ministers and civil servants should be strictly curtailed unless these have realistic and achievable economic or diplomatic goals. Reimbursement of medical expenses by the government for treatment abroad should cease.

I am sympathetic to Mr Dar’s opinion that interest rates are far too high, albeit possibly for different reasons than his.

Mark-up payments constitute the single largest item of federal and provincial government expenditure amounting to about 27 per cent of current expenditures in 2020-21 or some Rs2.8 trillion per annum. This is unsustainable and requires immediate reduction. Thus, current interest payments on government securities held by commercial banks should be reduced substantially because of the economic emergency with unpaid amounts rolled into a long-term liability of the federal government payable in, say, five years.

However, the State Bank of Pakistan would first have to conduct stress tests to determine which banks are in danger of failing with the sudden shortfall of interest income and therefore be prepared to inject enough liquidity into these banks should the need arise (or even take them over if necessary).

Depositors would also lose out on mark-up income and some disintermediation out of the banking system could be expected. However, as there is deposit protection for most retail deposits, the vast majority of depositors do not have to worry about any losses of principal amounts kept in banks.

Mark-up rates on national savings schemes should also be reduced immediately as otherwise there would be a flow of money leaving the banking system into purchases of national savings certificates. This would only defeat the purpose of reducing interest payments to banks. Hence, a pari passu reduction of mark-up on national saving schemes is also needed.

The other alternatives that could attract funds by savers seeking higher returns are foreign currency holdings, real estate, and gold and jewelry. However, since foreign currency is unavailable in the open market that leaves only real-estate and gold/jewelry as viable investment options.

A synchronous and significant increase in real-estate taxes and on gold and jewelry transactions should deter any major inflows of funds into property and jewelry investments.

Reduction of government subsidies amounting to around Rs425 billion per annum (in 2020-21) is also required. This should exclude subsidies that are required for social welfare purposes such as poverty alleviation and flood relief or for purposes where the social benefit is higher than the private return, for example subsidies on fertilizers that reduce the cost of fertilizer production facilitating lower fertilizer prices and higher usage rates by farmers. Greater crop productivity due to fertilizer application facilitates national food security while reducing the foreign exchange needed for food imports.

Since revenue enhancement through taxation takes time to bear fruition especially as imports, that are a major source of government revenue, have been scaled back due to a country-wide recession and a significantly depreciated rupee, the immediate need is to cut expenditures drastically. Otherwise, we are in for a period of hyperinflation that will upend the already frayed political and social stability of this country. It was Lenin who pointed out that the surest way to destroy a country’s economic system is to debauch its currency.

The writer is a group director at the Jang Group. He can be reached at: iqbal.hussain@janggroup.com.pk