InternationalVolume 14 Issue # 13

Outlook brighter after government reform

Credit rating agency Moody’s has termed the PTI government’s second mini-budget positive for manufacturing and export-oriented sectors, which will lend required support to enhancing the country’s foreign income and curb the current account deficit (CAD). The US-based rating agency has further stated that new budgetary measures have weakened the government’s income generation side as tax incentives awarded to industries and the agriculture sector have deepened the challenge of achieving the tax revenue collection target of Rs4.398 trillion. That means the budget deficit is expected to remain high.

According to Moody’s,“While the mini-budget will bolster the export sector, there is a greater risk of fiscal slippage and slower fiscal consolidation in the absence of additional revenue-raising measures.” Moody’s has warned that Pakistan’s recently announced mini-budget lacks new solutions to address its fiscal constraints and debt sustainability will largely remain at risk. In its view, in the absence of new spending cuts or revenue-raising measures, the government measures will keep Pakistan’s budget deficits wider for longer, potentially eroding the credibility of official efforts to achieve fiscal consolidation.

It may be recalled here that last year in June, Moody’s had downgraded Pakistan’s credit rating to “B3 negative” from “stable” after it found that the country’s foreign currency reserves were insufficient to pay back foreign debt. The latest commentary suggests that foreign currency reserves are inclined to improve, which might lead the credit rating body to consider revising upwards the country’s credit rating going forward.  The agency has, however,not said anything on the future credit rating of the country. Moody’s  has pinpointed that specific measures taken in the latest mini-budget include reduction in import customs duties on essential raw material and machinery, abolition of tax on retained earnings and incentives for the agriculture sector, which accounts for around 20% of the country’s exports.

If implemented effectively, the new budgetary measures will aid Pakistan’s manufacturing sector, fostering export and import substitution, and help narrow the current account deficit. However, in the absence of new spending cuts or revenue-raising measures, these steps will keep Pakistan’s budget deficit wider for longer, potentially eroding the credibility of government efforts to achieve fiscal consolidation. It may be added here that Pakistan’s revenue base was a slim 15.4% of GDP in fiscal year 2018, which ended on June 30, 2018.The government presented limited revenue-raising measures, primarily taxes on large vehicles and high-end mobile phones. As a result, the mini-budget places greater weight on improvement in tax administration and spending restraint for the government to meet its deficit target of 5.1% of GDP

But experts expect the deficit to widen to 6% of GDP in fiscal year 2019 because revenue growth is likely to be below government projections provided slower economic growth and new revenue-based incentives, before gradually narrowing to 5% of GDP by fiscal 2021 as the economy picks up.The mini-budget came in the backdrop of low export growth in the first six months (July-December) of fiscal year 2019, despite the Pakistani rupee’s 25% decline against the US dollar since December 2017. However, despite weak exports, Pakistan’s current account dynamics have been largely positive in recent months. Remittances rose by 10% year-on-year in US dollar terms in the first half of fiscal year 2019, while goods’ import slowed sharply by around 3% year-on-year as non-fuel goods import contracted.

Although the current-account deficit may narrow to 4.7% of GDP in fiscal year 2019 and to 4.2% in fiscal year 2020 from 6.1% in fiscal year 2018, it will remain sizable and wider than in 2013-16 driving Pakistan’s external financing needs. The government has secured $12 billion in financing from Saudi Arabia and the United Arab Emirates – in each case amounting to $6 billion and divided equally between deposits and deferred oil payments – which is likely to largely cover the country’s net financing needs for fiscal 2019. However, a net financing gap beyond fiscal 2019 remains because of the still sizable current account deficit.

At present Pakistan is negotiating with the International Monetary Fund for a new programme, which will provide a stable additional source of external financing as well as technical support and assistance on macroeconomic rebalancing and structural reform policies. The country is also in discussions with other countries and multilateral lenders such as China, Qatar, the Asian Development Bank, the IBRD and the Islamic Development Bank over external funding support to shore up its external position.

So far, Prime Minister Imran Khan has conducted highly successful visits to Saudi Arabia, UAE, Malaysia and other countries and secured assurances of continued support from them. As per the prognosis of Moody’s and other international rating agencies, Pakistan’s economy has entered the stabilization phase and will soon begin looking up on the back of the anti-corruption drive currently under way. Exports are picking up and foreign investment is expected to flow in very soon. Experts are of the view that following the reform measures adopted by the PTI government, the economy will regain its momentum in the coming months.