IMF conditions outlined in country report: Pakistan won’t let interbank, open rates premium go above 1.25pc

ISLAMABAD: Pakistan has signed an agreement with the IMF for keeping the average premium between the interbank and open market on an exchange rate not more than 1.25 percent during any consecutive five business day period.

The IMF has also warned that Pakistan’s economic challenges are complex and multifaceted requiring steadfast implementation of agreed policies and continued financial support from external partners. It recommended consistent and decisive implementation of programme agreements to reduce risks and maintain macroeconomic stability.

The IMF Tuesday released the details of the commitments made and MoU signed with the Government of Pakistan’s $3 billion bailout package of the Standby Arrangement (SBA) programme.

In a major development, Pakistan also agreed with the IMF that forex sales will not be used to prevent a trend of depreciation of the rupee driven by fundamentals. Islamabad also committed to raising the annual rebasing of electricity tariff by the end of the ongoing month. Pakistan also agreed with the IMF for the compilation and dissemination of quarterly National Accounts for the FY24 quarter (Q-1) from the July-September period and revised annual estimates for FY23 by the end of November 2023.

Under the structural benchmark for obtaining a $3 billion bailout package of the Standby Arrangement (SBA) programme, the government agreed with the IMF that for enhancing transparency and efficiency in the foreign exchange market, the SBP will publish daily the interbank and open market exchange rates, and develop a framework to monitor and publish developments and pricing in the informal market.

“We will also accelerate work for transitioning to a new trading platform for spot transactions connecting all banks and we expect the system to go live by end-December 2023. The State Bank of Pakistan’s (SBP) interventions will remain guided by market conditions and the objectives of (i) bringing reserves up to a more prudent level of at least $6.4 billion (1 month of import coverage) by end-December 2023; and (ii) reducing the SBP’s net forward/swap position below $4 billion, notwithstanding the difficult external environment. To safeguard the integrity of the foreign exchange market, any abusive or anti-competitive behaviour by market participants will be addressed through the enforcement of the relevant regulations and applicable laws.”

Contrary to the statement issued by the State Minister for Petroleum for breaking the flow of circular debt in gas sector, the IMF states that partially available data suggest that the CD stock in the gas sector (also including petroleum and late payment fees) has also grown rapidly and is now almost on par with that in the power sector.

“To ringfence our fiscal programme, Pakistan’s authorities reiterated their commitment (i) not to allow supplementary grants for any additional unbudgeted spending over the parliamentary approved level in FY24 at least until the formation of a new government after the elections (except if needed to respond to a severe natural disaster); (ii) our commitment not to launch any new tax amnesties or grant further any new tax exemptions in FY24 including through the budget or Statutory Regulatory Orders without prior National Assembly approval; (iii) our signature of MoUs with each province on their commitment to achieving an end-FY24 fiscal position consistent with the FY24 general government primary balance goal of PRs 401billion; (iv) our continuing focus on critically urgent energy sector policies; and (v) our commitment not to introduce any fuel subsidy, or cross-subsidy scheme, in FY23 and beyond.

“The FY24 budget advances fiscal consolidation through a primary surplus of PRs 401 billion (0.4 percent of GDP) — built on a set of credible measures that help: (i) sustainably raise additional revenue by targeting undertaxed sectors (such as agriculture and construction), broaden the tax base, and improve progressivity; and (ii) restrain non-priority spending (including through energy sector measures aimed at credibly containing energy sector subsidies, the public wage bill, and pensions) while making fiscal room to protect the generosity level of the Benazir Income Support Programme (BISP), Benazir Kafalat Programme. As in previous years, we are also working with the provinces to sign Memoranda of Understanding (MoUs) with the federal governments on their provincial fiscal targets consistent with the FY24 budget. “The government has agreed with the IMF to improve state-owned enterprise (SOE) governance by: (i) operationalizing the recently approved SOE law into a policy that clarifies ownership arrangements and the division of roles within the federal governments, and (ii) amending the Acts of four selected SOEs to make the new SOE lawfully applicable to those SOEs.

“Pakistan has committed with the IMF not to grant further tax amnesties, avoid the practice of issuing new preferential tax treatments or exemptions, issuance by the Central Monitoring Unit (CMU) of its first periodic report on the performance of State Owned Enterprises (SOEs), using latest available data, to the Federal Government by end December 2023. The inflation adjustment of the unconditional cash transfer (Kafalat) under BISP will be done by the end of January 2024 under the structural benchmark agreed with the IMF. The government agreed to submit to Parliament of amendments to align Pakistan’s early intervention, bank resolution, and crisis management arrangements with international good practices, in line with IMF staff recommendation by the end of December 2023.

“Improve state-owned enterprise (SOE) governance by: (i) operationalizing the recently approved SOE law into a policy that clarifies ownership arrangements and the division of roles within the federal governments; and (ii) amending the Acts of four selected SOEs to make the new SOE lawfully applicable to those SOEs.

“The new SBA aims to rebuild confidence and entrench stability. To reduce near-term uncertainty and risks, the new programme focuses on containing the budget and external deficits, bringing inflation under control, restoring the proper functioning of the exchange market, rebuilding reserve buffers, and advancing some critical reform efforts. While the authorities have taken actions in these areas, these need to be sustained in the programme period if Pakistan is to regain stability and remain sustainable.”

The IMF said: “Success will hinge on strong and sustained ownership, firm implementation, and significant external financial support, and be underpinned by programme monitoring. Policies and monitoring should thus support external financing, with restored FX market functioning and stronger policies supporting a recovery in remittances in FY24 and other inflows (including FDI) thereafter.

The fiscal effort in the FY24 budget is an important step to protect fiscal sustainability but needs to be followed by further reforms. The consolidation envisaged in the FY24 budget is appropriate and supported by measures to boost revenue mobilization and restrain non-priority spending, whilst protecting social assistance. Strict budget execution will be needed to reduce the sizable risks surrounding macroeconomic stability and fiscal sustainability, with current expenditure restraint and strong efforts to mobilize revenue through better tax administration.

Beyond FY24, efforts need to continue to build a more progressive, simple, efficient, and fair tax system which should generate adequate space for critical development and social spending, including building resilience to climate shocks. In this regard, improved public financial management is critical to improve the efficiency of scarce resources. Effectively reducing poverty and enhancing social protection requires higher targeted social spending. Staff welcomed the strengthening of BISP through a targeted expansion of the beneficiary base and continued inflation adjustments to the benefit level, but called for sustained efforts to increase the generosity of BISP stipends and ensure enrollment of all deserving families into the CCT schemes.

Monetary policy needs to remain tight, proactive, and data-driven. The recent policy rate hike is welcome, but the tightening cycle should continue if needed to reduce inflation and facilitate external rebalancing. In the short term, the forward-looking real policy rate should return to positive territory to re-anchor expectations and achieve the SBP’s inflation objective over the medium term. Implementing the plan to phase out the refinancing schemes will strengthen monetary policy traction and will bring transparency to these schemes. Abstaining from informal influence in the market, including through import management and LC approval guidance, is critical to restoring public trust in the exchange rate system.

The recently adopted energy measures, especially the full surcharge hike and strict limitation of energy subsidies to the vulnerable, must be maintained as a first step to limiting these spillovers. In addition, it will be critical to ensure timely alignment of energy tariffs with cost structures as per NEPRA’s and OGRA’s formulas (while protecting the vulnerable), and to implement reforms to reduce operational, generation, and CD-related financial costs in line with the current power and emerging gas CDMP to put tariffs on a downward trajectory.

To address the challenges and sustain macroeconomic stability, the authorities have renewed their policy efforts, and are seeking support under a new Stand-By Arrangement. Policies under the new programme aim to support the authorities’ immediate efforts to stabilize the economy and rebuild buffers. Key policy pillars include (i) an appropriate FY24 budget to support needed fiscal adjustment; (ii) a return to a market-determined exchange rate and proper functioning of the foreign exchange (FX) market to absorb balance of payment (BOP) pressures and eliminate FX shortages; (iii) adequately tight monetary policy to support disinflation and anchor expectations; and (iv) continuation of structural efforts to strengthen energy sector viability, SOE governance, and the banking sector, while supporting efforts to build Pakistan’s climate resilience. Resolving Pakistan’s structural challenges, including long-term BOP pressures, will require continued adjustment and creditor support beyond the programme period. A possible successor arrangement could help anchor the policy adjustment needed to restore Pakistan’s medium-term viability and capacity to repay.

On risks, the IMF states Pakistan’s economic challenges are complex and multifaceted, and risks are exceptionally high. Addressing them requires steadfast implementation of agreed policies, as well as continued financial support from external partners. Consistent and decisive implementation of programme agreements will be essential to reduce risks and maintain macroeconomic stability.