‘ECONOMIC growth is easy to start but difficult to keep going,’ say IMF staff researchers. This is now demonstrated from Islamabad’s policy shift that envisages a ‘technocratic budget’ for the next year with a much weaker focus on growth strategy.

The devaluation of the rupee, in two instalments and a short span of time, will make imported industrial raw materials and intermediate goods costlier. Coupled with the levy of surcharge on power tariff, the exchange rate depreciation will raise the cost of production and investment.

Amid these measures, development spending has been frozen at end- February level on the eve of national elections to assure critics that development spending will not be stepped up to build public support for the candidates of the ruling party.

Exception has, however, been made for priority projects earlier approved either by the finance ministry or the prime minister.

As reported by the media, the next budget does stipulate measures to salvage the growth strategy but these may not fully mitigate the possible risks posed to the current growth trajectory by changing policy.

Anticipating the significant impact of sharp rupee devaluation, the finance and commerce ministries are proposing withdrawal/reduction of regulatory duties on industrial raw materials to bring down the cost of industrial production.

The government may be able to spare some money on this count because of the gains in revenue from customs duties, related sales tax and withholding tax at the import stage as a result of the steep fall of the rupee against the dollar.

As the economic growth was essentially fuelled by consumption, the finance ministry finally intends to reduce the number of withholding taxes as it says that WHT is slowing down aggregate demand and adding to the cost of doing business.

To quote a former finance secretary Dr Waqar Masood “devaluation will impact consumer welfare by causing a spurt in inflation. The rise in prices is the cost of adjustment.”

Owing partially to inflationary expectations, there are reports that the threshold for income-tax exemption may be raised to Rs1 million from the existing 0.4m per annum now. At least then the salaried class may get some share in the rising national income.

The loss of tax revenue on these counts, coupled with higher cost of imports by the public sector and surge in debt serving liabilities, may result in scaling up fiscal deficit which is now estimated by the IMF at 6pc of the GDP for this fiscal year.

Given this context, the best option within sight of policymakers was the recent freeze on development spending, but this incidentally coincides with a proposed World Bank/IDA funded ‘Financial Inclusion Project’ designed to increase digital transaction accounts and access to financing across the country.

Writing in English daily to coincide with the devaluation in March, Dr Waqar Masood observed that an overvalued exchange rate subsidises imports and makes exports more expensive.

Spelling out the impact on government finances of such possible measures, he observes: First, high cost of public sector imports, second, capital loss on external debt and third, higher cost of debt servicing.

He concedes that corrections will have a dampening effect, at least for the short-term, but stresses that the policy adjustment is needed to restore order in the chaotic debt market.

Currently, ’the buoyancy in economic outlook is palpable in economic growth, investment, productive imports and unprecedented consumer demand.’

It is often forgotten that a constantly depreciating rupee encourages a segment of rich individuals and businessmen to convert their rupee holdings in dollars or retain a part of their foreign exchange earnings abroad to protect the value of their money.

Dollar holdings/assets held in foreign countries are then used for part payments for imports which also helps save on custom duties, related sales tax and WHT through under invoicing. This strengthens the ‘informal’ segment within the formal sector. Imports also do not fall as a result of rupee depreciation because of inelastic demand.

And on the other side of the equation, historical record shows that exports rise in the short-term as a result of devaluation. PML-N Quaid Nawaz Sharif blames the ‘chaos’ created by institutional and political wrangling for last month’s devaluation.

The historical controversy between the demands of a security establishment for funds as the first priority and the imperatives of socio-economic development, once again under public spotlight, has also evaded much needed national consensus.

‘Political uncertainty reduces countries’ effectiveness in responding to external shocks.’ say IMF staffers. Dwelling on’ credit market imperfections’ an IMF study points out that ‘income inequality may increase the risk of political instability and the resultant uncertainty may reduce the incentive to invest and hence impair growth.’

Writing in the IMF Economic Review on the topic — inequality and unsustainable growth: two sides of the same coin? — IMF staffers ‘Andrew Burg of Institute of Capacity Building and Jonathan D. Ostry of the Fund’s Research Department observe that ‘income distribution may also — and independently — belong to a pantheon of critical growth determinants.’

And “inequitable income distribution and financial excesses may have been the same factor at play in both the Great Depression and Great Recession.”

But the studies by IMF staffers are not always able to convince IMF shareholders to take a fresh look at their policies however much the realities may have changed.

jawaidbokhari2016@gmail.com

Published in Dawn, The Business and Finance Weekly, April 2nd, 2018