Pakistan's roadmap to crawl out of the deep economic crisis —Tax hike from tomorrow

Pakistan's inflation is at a record high and foreign exchange reserves are at precarious lows. Prime Minister Shehbaz Sharif and Finance Minister Ishaq Dar are making all-out efforts to unlock at least $1.1 billion from a stalled $6.5-billion bailout deal signed with the International Monetary Fund (IMF) in 2019. But they haven't been able to meet a set of demands that the IMF requires the nation to implement for getting the bailout funds despite crossing the deadline.

Pakistan and IMF resumed talks virtually on February 14 even as the government rolled out some measures aimed at boosting tax and non-tax revenues starting February 15 rather than March 1 when IMF wanted it to start, according to a report in Dawn.

1) Collecting an additional revenue (tax and non-tax) of Rs 170 billion in the remaining four-and-a-half-month period of this fiscal year ending June 30. Dawn reported that the Federal Board of Revenue (FBR) drafted two ordinances to impose Rs 100 billion in new taxes and Rs 100 billion in flood levy on imports. Sources told the media house that the IMF didn't support tax measures at the import stage. However, the government aims to push for it "because its collection will not be shared with the provinces". The flood levy will then be used to bridge the petroleum development levy (PDL) shortfall, projected to be over Rs 300 billion.

3) Increasing general sales tax (GST) by 1 percent to yield an additional Rs 70 billion in four and a half months.

4) Increasing power tariff by Rs 7.91 per unit in four quarterly adjustments — February-March 2023, March-May 2023, June-August and September-November.

5) Increasing the consumer base tariff from Rs 15.28 per unit in June 2022 to Rs 23.39 per unit till June 2023.

6) Discontinuing power subsidy of Rs 65 billion given to exporters from March 1.

7) Revising circular debt management plan. Circular debt is a form of public debt that builds up in the power sector due to subsidies and unpaid bills, as per Reuters.

8) The government might also end the Kissan Package from March 1.

The Economic Coordination Committee (ECC), however, approved a technical supplementary grant of Rs 450 million in favour of the defence ministry, implying the country would continue to spend on defence even when the economy was in dire straits.

While these measures might get Pakistan a bit of cushion in terms of money, they would further burden its citizens as they would not only have to spend on costlier household items but also on costlier electricity.

The Pakistan Cabinet's decision came even as some issues remain a bone of contention between the government and the IMF. These include the increase in base tariff in the power sector, some taxation measures, incorporating gross external financing requirements, and raising Federal Excise Duty (FED) on sugary drinks, among others.

The IMF’s first proposal was to ensure that the country meets its tax collection targets. It wants to mobilise revenues by increasing the tax-to-GDP ratio, which is at 10.8 percent — the lowest in the region, Dawn reported. The second proposal was to bring "untargeted subsidies" in the gas and power sectors to zero. The third proposal was about Pakistan’s mounting circular debt. The IMF is said to be more focused on the flow of the circular debt and not the stock.

Amid reports that Pakistan and IMF talks might be in a deadlock, Pakistan's Finance Minister Ishaq Dar said the government received the Memorandum of Economic and Financial Policies (MEFP) and discussions on the draft were held on Monday "to fine-tune it".

Pakistan's "support" for terrorism is reportedly another reason for the economic drain. The rise of terrorist groups such as Tehreek-e-Taliban Pakistan (TTP) is now waging war against the Pakistani state itself. Indian Army chief Gen (retd) JJ Singh said the deep state in Pakistan is shaken up and they do not know how to handle or control the Frankenstein they created in the form of TTP."

Pakistan needs a major crackdown on terrorists and radical Islamic groups operating from its territory, global strategic experts were quoted by PTI as saying. Husain Haqqani, a former Pakistan ambassador to the US and Senior Fellow at Hudson Institute, was quoted as saying that terrorism has blocked foreign direct investment into Pakistan and its "unrealistic dependence" on China has resulted in a huge external debt.

While policies related to tax, subsidies and revenues are something Pakistan can tweak to deal with the economic crisis to an extent, the IMF deal and increasing exports remain a challenge.

CEIC data pegged Pakistan's total exports at $2.2 billion in January 2023, compared with $2.3 billion in the previous month.

According to the OEC, the top exports of Pakistan are house linens ($3.61 billion), rice ($2.14 billion), non-knit men's suits ($1.8 billion), non-knit women's suits ($1.06 billion), and knit sweaters ($950 billion). It exports mostly to the United States ($4.04 billion), Germany ($2.13 billion), China ($1.97 billion), the United Kingdom ($1.73 billion), and the United Arab Emirates ($1.09 billion).

If Pakistan wants to increase its foreign reserves, it must boost its exports soon. But some of the countries it is exporting to have reduced non-essential buys and that is something Pakistan can't control. If exports don't go up drastically, they won't get enough dollars, which would lead them to spend the remaining foreign reserves to buy imported items — it is a vicious cycle. So, the government will eventually have to create an ecosystem to encourage the production of essential items that the world would want to buy.

Pakistan is a diverse and challenging market, requiring adaptability and persistence, says US' International Trade Administration. "It has challenges that exist in other developing economies such as regulatory risk, taxation, and a lack of transparency in public-sector decision-making". A reliable local partner is another must when dealing with Pakistan.

Moreover, "Pakistan is highly import-dependent, particularly with regard to energy, which renders it acutely vulnerable to hikes in global oil and gas prices," said John Ciorciari, Professor and Associate Dean for Research and Policy Engagement at the University of Michigan. And now, Pakistan is planning to impose a flood levy on imports.

In 2019, exports of goods and services in Pakistan were around 10 percent of the GDP, while imports constituted around 20 percent of the GDP, according to the data by globalEDGE.

It is being said that Pakistan has no other option than to accept the IMF proposals, howsoever tough they might appear. Among the most "complex issue" faced by the economists was securing external financing needs. This is crucial to building up foreign exchange reserves from their existing level of $2.9 billion, which is barely enough to cover three weeks of imports.

The IMF delegation held 10-day marathon talks with Pakistan officials to release the next tranche of $1.1 billion out of an already agreed loan. An agreement on the ninth review of the programme would release over $1.1 billion.

According to local media, around three million people out of a population of 220 million are active taxpayers and roughly 60 percent of the government’s total tax revenue is spent only on paying interest against debt.