NationalVOLUME 15 ISSUE # 11

IMF review shows an economy under stress

The first International Monetary Fund (IMF) Review on a quarterly basis has been completed. Among other things, the review highlights positive and negative changes in the state of the economy of Pakistan. The IMF has kept its projection of the growth rate of the economy at 2.4 percent, despite the fact that the large-scale manufacturing sector has shown a negative growth rate of 6.5 percent in the first four months of 2019-20. The cotton crop has failed and the likely drop in output is perhaps almost 15 percent. Sugarcane production is likely to be lower too because of a decline in the cultivated area. These are sure to affect the projected GDP growth rate.

On the other hand, the IMF has assessed that exports will be less negative in 2019-20 due to import compression. It will contribute almost 2.2 percentage points to the GDP growth rate in 2019-20 and thereby keep the original projection unchanged. The rise in indirect tax revenues and a fall in private investment are two other factors to keep in mind while working out the GDP figures. The import of machinery has already declined by 16 percent in the first five months of 2019-20. If the decline persists, the negative contribution to the GDP growth rate could be almost 0.9 percentage points.

Keeping all the aspects in mind, it is likely that the growth rate will be below 2 percent. It will be the lowest GDP growth rate since 2008-09. The first Review report has also revised downwards the projected inflation rate in 2019-20 from 13 percent to 11.8 percent. It has been done in the expectation of lower imported inflation. However, the average inflation rate in the first five months of 2019-20 has been 10.8 percent, with the end of period inflation in November of 12.7 percent. If inflation is to average 11.8 percent for the year, then the average inflation rate in the last seven months of the year will have to be 12.5 percent. It implies that there will be little decline in the monthly inflation rate from November to June 2020. Other factors which will contribute to sustaining the inflation rate are the impending big hike in gas and electricity tariffs and the impact of rising oil prices.

The IMF has also made a downward adjustment in the projected level of FBR revenues in 2019-20. The target has been brought down from Rs 5,503 billion to Rs 5,238 billion, implying a reduction of Rs 265 billion. The IMF Staff Report expects that it will be more than compensated for by significantly higher non-tax revenues. The original projection under the head was Rs 838 billion. This has now been raised by Rs 332 billion to Rs 1,170 billion.

It was initially expected that FBR revenues would grow by 32.5 percent this year. It has been raised to 36.8 percent. However, it is still substantially higher than the actual growth rate achieved in the first six months of close to 17.5 percent. Consequently, the growth required to achieve the revised target in the last six months of 2019-20 remains exceedingly high at 54 percent. It seems unrealistic. It means that the gap between the projected and actual FBR revenues will widen each quarter. It is likely to be over Rs 100 billion at the end of the second quarter. There will be a big shortfall of Rs 360 billion by the end of the third quarter and of as much as Rs 640 billion by the end of 2019-20.

In the scenario, there is the likelihood of a cutback in expenditures, as happened in the first quarter, especially on development, grants and subsidies. It will lead to further slowing down of the economy and increase the negative impact of the stabilization process on unemployment and poverty. The expected budget deficit is now 7.6 percent of the GDP. It is an optimistic projection. If FBR revenues do not significantly exceed Rs 4600 billion in 2019-20, then the shortfall in tax revenues could exceed 1.5 percent of the GDP. If the indicative targets on spending are to be met, then there will not be much fiscal space for big cuts in expenditure. Looking ahead to the next two years of the IMF programme, the pressure for strong contractionary fiscal policy will persist. The tax-to-GDP ratio is to be raised substantially by over 5 percent of the GDP to 16.7 percent of the GDP by 2021-22.

The stabilization programme agreed with the IMF includes bringing down the current account deficit in 2018-19 from 4.9 percent of the GDP in 2018-19 to only 1.8 percent of the GDP by 2021-22. Over 74 percent of the adjustment is expected in the first year. The primary deficit is to be converted from a large deficit of 3.5 percent of the GDP to a sizeable surplus of 1.5 percent of the GDP. The major part of the adjustment of 58 percent is to be in the first year. Given the outcomes of the stabilization process, the public debt to GDP ratio is projected to fall from 83.5 percent of the GDP in 2018-19 to 73.4 percent of the GDP by 2021-22. Similarly, the external debt to GDP is projected to stay at close to 38 percent of the GDP, thereby reducing the external vulnerability of the economy and enabling it to proceed on a high growth path after 2021-22.