November Issue 2015
A Checkered Relationship
There are a number of sides to the story of Pakistan’s ties with the International Monetary Fund (IMF) — a relationship spanning over 30 years. During this period, Pakistan entered into a number of IMF programmes, most of which have only served as band-aids, saving the country from certain default without curing its chronic economic ills.
But despite this not-so-happy experience, the two have continued to maintain what appears to be a complaint-free relationship at the official level, no matter who is ruling in Islamabad or who is the final decision-maker in the IMF’s Washington headquarters. Every time we were financially down and out, we went to the lender of the last resort for loans to pay for our immediate needs as well as to avoid potential default but this was never a prescription for growth, progress and development.
An IMF programme also usually opened the doors of other multilateral and bilateral concessional lenders, commonly known by the respectable label of ‘donors,’ as they felt the Fund’s relationship with the recipient guaranteed repayment of their loans on time.
Usually, soon after the approval of a package by the Fund Board, Islamabad would start implementing ‘reforms’ that would make the lives of our have-nots even more miserable and end the programme when the time came to introduce ‘reforms’ that would make the rich share some of the short-term consequential burden. And until the programme lasted and the officials had squeezed the last dollar that they could, these officials would keep the Fund bureaucracy happy with manipulated data.
The question of why the IMF bureaucracy would continue to be duped, seemingly rather willingly by successive governments in Islamabad, has continued to intrigue many in Pakistan. Indeed, despite a poor record of implementing Fund ‘reforms’, the IMF has continued to come to our rescue every time we go to Washington for an immediate bailout.
Some Fund-watchers believe that since the IMF operations are controlled by its largest shareholders — the US and Europe — more often than not, its policies are influenced by the global policies of these shareholders, especially those of the US. Secondly, perhaps the Fund does not want on its hands the international adverse consequences of a default by a major debtor. The third reason: Perhaps the Fund bureaucracy is as easy-going as the recipient country’s official economic managers and is easily taken in by the manipulated statistical data supplied by the latter.
Going by our economic history, one would tend to accord more weight to the first of the three reasons. For the US, Pakistan has always been too important a country to fail. Until the demise of the Soviet Union, we were the most allied ally of the US.
Our defence budgets used to be looked after by the US selling us Second World War vintage arms almost cost-free, and our civilian budgets used to be financed from the proceeds of sales of wheat received from the US under PL480. Thus we never felt the need to finance our budgets with our own means by introducing the culture of paying income tax in the country and turned into an entirely dole-dependent nation. This suited the US as it felt it easier to use a highly-obliged Pakistan for promoting its global interests in the region.
At about the time the US was considering how to respond to the Soviet invasion of Afghanistan, we had entered into a three-year $3.2 billion IMF programme. But by the time we completed the first year of the programme, the US had decided to use Pakistan to tackle the Soviets in a proxy war in Afghanistan and had come to us with a package of $3.02 billion, which basically amounted to a free lunch. That was the end of the Fund programme.
And then there was a flood of dollars in the country as the entire so-called free world came running to us with their cash boxes. By the time Zia died in an air crash in August 1988 and by which time the Soviets had started withdrawing from Afghanistan, the country had received as much as $50 billion of unencumbered assistance.
However, the new President Ghulam Ishaq Khan, who succeeded Zia, found that the kitty was somehow emptied — how and by whom nobody knows. And there were no visible assets on the ground to show that any of these dollars had been invested in the much-needed economic ventures. So the new finance minister, the late Dr Mahbub-ul-Haq was sent post haste to the IMF for a paltry loan of $500 million.
Throughout the 1990s, when the US and most of the multilateral and bilateral donors under its influence were busy helping out the newly independent East European countries, aid to Pakistan was reduced to a trickle. Only the IMF and Japan showed any interest in helping the country, the former because it did not want a defaulting country on its hands or perhaps the US did not want to see a country with a nuclear programme fall to pieces.
During this period, Pakistan entered into a number of Fund programmes but did not complete a single one because its prescriptions worsened the economic fundamentals rather than helping them improve.
All of the 12 Fund programmes that Pakistan entered into during this period had called for us to control budgetary deficits within “manageable” levels and earn enough to pay for our imports and for the amortisation of past loans. But we could never fulfil these two conditions because the very programmes were designed to suppress growth.
There is no country in the world which, after having been treated by Dr IMF, has managed to prosper economically. Most of the time the doctor’s diagnosis itself is off the mark by miles. But even if it had read the disease correctly, its one cure-fits-all method has only worsened the ailment. So, macroeconomic stability is a highly desirable goal but by the time a country succeeds in achieving this goal, it invariably ends up with resource constraints becoming even more chronic and the unemployment rate shooting through the ceiling.
In the year 2000, when it was, perhaps, the most sanctioned country after Libya, Pakistan was awarded an emergency IMF standby arrangement (SBA) for agreeing to the US-sponsored India-Pakistan peace talks that finally led to the Agra Summit in the middle of 2001.
Because of the sanctions, both the US and the UK, under their respective laws, were obliged to oppose the IMF Board meeting to consider Pakistan’s application in June 2000 for a SBA for a paltry $500 million. But the Board approved the application, as representatives of both countries abstained from the meeting.
This was followed by the announcement on November 19, 2000, of a unilateral ceasefire by India across the Line of Control. The very next day, Hizbul Mujahideen reciprocated the Indian gesture. Pakistan, too, followed suit and by end-December of the same year, Islamabad made a public announcement to that effect, a move immediately welcomed by the US and which, in turn, was followed by the release of the first tranche of the SBA by the IMF.
According to the IMF, Pakistan’s economy grew at an average rate of just over 7.25 per cent between 2004 and 2007. Exports doubled, as did foreign exchange reserves. The government embarked on a privatisation campaign, helping attract $8.4 billion in badly-needed foreign direct investment. This is the story that both former president General (retd) Pervez Musharraf and the official economic managers of his days keep recalling while comparing that period with the one we are passing through currently, making it appear by implication that it was the system in vogue in those days that had brought about this miracle, and again by implication, use it as an argument against the present system of governance. They usually dismiss the other half of the truth that had brought about this miracle as nothing more than a matter of detail. In fact, former senior official economic managers of the Musharraf days deny, by implication, that they had seen any of the 9/11-related billions come Pakistan’s way in those days.
They are partly right. A large part of these billions had come in the shape of written-off loans amounting to almost $2 billion, debt rescheduling by IMF amounting to $12.5 billion, resulting in cash flow savings of nearly $3 billion through to 2004 and as much as $8 billion in US military assistance that did not appear on the budget books. The US economic assistance during that period amounted to no more than $3 billion. All of this was in return for allowing the US to use Pakistan’s airspace and a couple of our air bases, grant of land access to Afghanistan and deployment of our army, police and paramilitary units to capture Al Qaeda members fleeing from Isaf troops occupying Afghanistan.
Pakistan’s economy needs to grow at an annual average rate of at least seven to eight per cent of the Gross Domestic Product (GDP) over the next 10 to 15 years to be able to generate enough jobs to absorb its ever-expanding youth bulge in gainful employment, provide to the majority of its population affordable educational facilities, affordable health cover, affordable public transport, affordable telecommunication facilities, affordable housing and affordable bank loans.
But in order to grow at this rate, the economy would need investment to the tune of at least 25 per cent of the GDP at an annual average for the next 10 to 15 years. However, our current rate of savings has been stagnating at around 14 per cent of the GDP over the last several years. The gap of almost about 11 percentage points between the required rate of investment and the existing rate of saving could be filled with borrowed resources. Borrowing is not bad as long as the borrowed resources are invested in economically and socially profitable avenues.
But over the years, borrowed resources, especially the concessional ones, have been reduced to a trickle because our traditional lenders now feel that it would be unfair to their own taxpayers to keep pumping their hard-earned resources into a country which has shown no willingness to tax the incomes of its own citizens and neither has it invested the borrowed resources in profitable avenues. But they do not want a nuclear country to collapse so they have asked the Fund to keep the country afloat with bail-outs.
This brings us to the most worn-out story line in our decades-old economic narrative which has not changed a bit since independence: the promise of successive governments, both military and civilian, to broaden the tax base. For ages we kept claiming that one million people paid income tax in our country. Now it transpires that only 800,000, out of a population of approximately 180 million, file their returns. And most of the revenues collected are through indirect taxation which is a regressive practice and a big chunk of direct taxation is collected through what is known as withholding taxes (as much as 80 per cent of the total taxes collected), which again amounts to no more than a minuscule residual of the huge transactions made through black cash.
The biggest contributor to the black economy which, according to the finance minister, has reached the size of the white economy, is the exemption allowed to incomes from agriculture. Today, most big businesses own huge land-holdings in barren regions. On their books they show the profits earned from their other businesses as income from agriculture and declare losses from the former. Most of the professionals like doctors, engineers, lawyers, high-end educational institutions, hospitals, etc., reduce their tax burden in three ways: keeping a large part of the amount in their own private lockers while distributing the remaining balance between the tax collector (bribe) and the treasury (under-declaration).
All attempts to document the economy over the last 30 years have been foiled by the personnel of the Federal Board of Revenue with the connivance of the ruling elite, political as well as the military. In this digital age, there is no reason why there should be any physical contact between the taxpayer and the tax collector. But no government seems willing even to take a look at this aspect of governance.
Another impediment to growth has been the IMF. We go to the Fund because we have explored and exhausted all other avenues except our own ability to raise the required resources from our own economy. The Fund, in order to ensure that it gets back its loans, imposes a lot of austerity conditions on the borrower assuring it at the same time that in the long run its economy will start growing at an accelerated rate.
“In the long run we are all dead,” said economist John Maynard Keynes. But since World War II, the fundamentalists of the so-called ‘Washington Consensus’ have been coming up with their own self-serving definitions of the term ‘long run’ so as to sell ‘austerity’ to the poor countries of the Third World as the panacea for all their economic ills. But the austerity formula has proved, in the long run, to be a stagnation trap for countries that went to the Fund seeking a loan.
The Fund believes that Pakistan has made progress on improving the tax system by eliminating a significant number of Statutory Regulatory Orders which grant tax exemptions and concessions, “riddling the tax system with loopholes.” This and other tax base-broadening measures, in the opinion of the Fund, have yielded good results as the government has also “made some headway in administering taxes – catching the people who are evading taxes, making sure that they pay, and collecting taxes in a more efficient manner, but much more is needed”. If all this is true then one would like to ask our finance ministry officials why we are, once again, falling far short of our tax-collection targets. No matter how you try to tackle Pakistan’s tax problems, especially the income tax issues, there is not going to be any improvement in tax collection or for that matter improvement in our ability to finance even our essential needs without domestic and foreign borrowing unless we tax the incomes from agriculture. This loophole is used by almost all the tax evaders.
This article was originally published in Newsline’s November 2015 issue.