The country GDP growth rate will plunge to 4.4 percent clouded by widening twin deficit—fiscal and external account—despite expectations of the central bank holding the interest rates steady to support economic activity, says Fitch solutions in its latest analysis on Pakistan’s economy. The macroeconomic arm the global credit rating agency expects that the State Bank keeps the interest rates steady for the remaining fiscal year as it assess the impact of aggressive monetary tightening of last year and turns its attention to support the economic growth.
The Fitch report states that decline in the energy imports and cumulative interest rates hike will help stabalise the country’s external account and anchor the rupee, allowing core inflation to head lower in the coming months. But on the other hand the authors of the report warn that “widening current account deficit, weakening currency, and dwindling foreign reserves suggest the current fiscal trend where expenditure continues to outpace revenue growth, is unsustainable. The report attributes the growing deficit to slipping fiscal discipline since 2016 and mismatch in revenue growth and rising expenditure.
Stressing the urgency to reverse this trend, Fitch solutions notes that the government is left with limited room t cut expenditure and suffers from a small tax base posing challenges to raise revenue in the near term. In terms of current expenditure, large debt servicing, inelastic defense expenditure, hemorrhaging state enterprises leave little room for maneuvering warns the report. It suggests the privitisation of losses incurring state entities by handing them over to private ownership along the lines of Malaysia’s Khanzanah Nasional.
Commenting on the external woes, Fitch sees no respite as, “Pakistan’s external account continues to deteriorate despite the steep drop in oil prices. However, the authors of the report note that the effect of collapse of oil prices in the international market has not resulted in improvement of Pakistan’s trade balance as yet while the financial inflows are not adequate enough to cover the imports, presaging an import crunch over the coming months. The country’s trade deficit shrank by meager 2 percent in November to $ 17.786 million according to the data released by the Pakistan Bureau of Statistics. The government is under immense pressure from declining reserves and subdued growth in exports.
To address the macroeconomic imbalances highlighted in the Fitch Solutions necessitates substantial improvement in the business environment through implantation of tax and tariff reforms. Notwithstanding the fact that imminent balance of payment crises sees to have been either averted or delayed after getting financial packages from friendly countries which are expected to reach $ 13-14 billion. These packages comprise cash deposits in foreign reserves and deferred payments on commodities, largely oil, but it may include liquefied natural gas (LNG) as well. None of these is grant or aid and the government is using the word deposit, in practical terms, it is short term external loans as this money is ought to be repaid along with interest up to 3-5 percent per anum. The debt servicing liability will further increase. A good sign in the fiscal management of the incumbent government is the separation of tax administration and policy, which gives an encouraging message about the seriousness of reforms. The FBR in the pursuit of monetary target collect advance taxes by hook or by crook or by withholding tax refunds, thus jeopardising working capital of the businesses. A simplified income tax system with ideally a single flat rate needs to be introduced instead of having a plethora of tax slabs and rates. All kinds of exemptions should be withdrawn in the next year budget.
The industry which contributes 20 percent of the GDP pays 70-80 percent direct taxes. On the contrary, agriculture which also contributes more or less 20 percent of the GDP is exempted from direct tax on agriculture income. A simplified tax regime for the industry is required. The GST regime also needs a major overhaul as large enterprises account for 80 percent of this tax. Its rate should be lowered from 17 percent to 5-10 percent. The distinction between filers and non-filers of tax returns should be resolved and the capacity of tax collection machinery should be enhanced.
Except for Pakistan, there is no other country in the world which collects 40 percent of indirect taxes at the import level; ignoring the fact that majority of export industries consume imported raw material and intermediate goods. The easygoing tax planners have devised an easy formula of charging increased and multiple duties to raise revenue. An importer does not only have to pay import duty but also advance income tax at the import level. Doing away with advance collection of income tax and sales tax collection at the import level will bring substantial liquidity back into the businesses and simplify the import taxation structure. This will also release dead capital stuck in the unproductive assets in the form of real estate for productive business activities. Tax and tariff reforms can be much rewarding than any other economic initiative.