• China is now Pakistan’s largest creditor
• Sharp revenue increases to continue for three years
• Utility rates to be adjusted every quarter, power tariff hike in August
• Fund wants full FATF compliance

ISLAMABAD: Pakistan has entered a high tax environment for the foreseeable future with Rs1.56 trillion additional taxes this year, followed by another Rs1.5tr next year and yet another Rs1.31tr the year after, according to a staff report released by the Interna­tional Monetary Fund (IMF) on Monday.

Read: IMF approves $6 billion loan for Pakistan

The agreement signed with the IMF by Adviser to the Prime Minister on Finance Abdul Hafeez Shaikh and State Bank of Pakistan Governor Reza Baqir also requires an increase in electricity tariff again in August this year and ensures Rs1.3tr refunds from the provinces out of the National Finance Commission share to honour its commitments with the IMF.

The projections contained in the document show that the authorities have promised to increase FBR’s total tax collection from Rs3.94tr last year to Rs5.5tr this year and to Rs10.5tr by 2023-24, a cumulative increase of Rs6.564tr in five years. As such, the tax-to-GDP ratio is forecast to soar to 15.3 per cent from 10.4pc this year.

Speaking to the press via conference call held on Monday evening, IMF mission chief for Pakistan Ernesto Ramirez-Rigo said the government was expected to ensure this increase came from broadening the base rather than raising tax rates.

Read: What the IMF numbers say

On the foreign exchange front, Pakistan has to climb out of a deep hole over the programme period, show the projections contained the document. Where net reserves are estimated to be negative $17.7 billion at the end of June, they are projected to come in negative $10.8bn by the end of the current fiscal year. On this basis, the programme aims to take foreign exchange reserves from $6.824bn this fiscal year to $11.187bn next year, equal to 1.4 months of imports this year to 2.2 months of imports next year.

The data contained in the document also shows that China has now become the largest holder of Pakistani debt. Of the $85.482bn in total external debt and liabilities of the government, slightly over one quarter of it at $21.891bn is owed to China through a combination of bilateral and commercial loans. The Fund programme requires Pakistan to repay up to $37.359bn on its external debt by the end of the programme, of which nearly 40pc at $14.682bn will be paid to China. The commercial component of debt owed to China is to be brought to zero by the programme end, whereas the bilateral debt will be reduced from $15.155bn today to $7.946 by the programme end.

The government has also given an undertaking to privatise at least seven small state-run entities in the short run and rollout by September 2020 a complete roadmap for the remaining entities that will detail which ones are to be privatised and which ones to be improved upon. The authorities have given an undertaking to the IMF that Pakistan had received firm commitments from China, Saudi Arabia and the UAE to keep rolling over their existing loans over the course of the programme.

In the conference call from Washington DC, Mr Rigo said the country would need to improve a number of laws, including those relating to SBP’s independence, debt limitation, money laundering, terror financing, SOE’s governance and so on. Responding to a question, he said the government did not have a majority in the upper house of parliament and would therefore need to work on consensus with other parties.

Reading the IMF programme

The government committed that the current year’s budget had set rolling a decisive fiscal consolidation to reduce public debt and build resilience that would be supported by comprehensive efforts to drastically improve revenue mobilisation, both at the federal and provincial levels, and generate 4-5 percentage points of GDP in additional tax revenue. The IMF agreed that these measures will place general government debt on a declining path, reaching 67pc of GDP by FY2024, after peaking at 80.5pc in FY2020.

The authorities also committed with the IMF that they would keep on removing tax exemptions and preferential treatments in the tax system and broaden the tax base and over time transform GST into a broad-based value-added tax (VAT). They said the GST exemptions would end in the near future, except for basic food and medicines, to significantly improve revenues. Greater inter-provincial harmonisation and coordination of GST will also simplify filing procedures and increase compliance.

In addition, other tax policy measures include further strengthening taxation on real estate and on agricultural turnover or income by the provinces, ensuring equivalent taxation of all sources of income and eliminating distortionary withholding taxes.

The government said it had “signed a formal written agreement with the provinces on the fiscal strategy and the required provincial surpluses, including revenue and fiscal surplus targets by province for FY2020 and implications in case of missed targets”. It said the progress toward these goals would be assessed in quarterly meetings of the Fiscal Coordination Committee, whose legal basis would be strengthened to make its decisions binding.

Under this agreement, the provinces will deliver surpluses of around 1pc of GDP in FY2020, gradually increasing them to 2.7pc by the end of the programme, by saving the additional revenues generated through tax policy and administration reforms. To support these efforts, the provinces will aim to increase collection of property and sales taxes, and to assume more spending responsibility.

The government has also promised that as part of ongoing dialogue on the National Finance Commission Award, the federal and provincial governments will “make progress on measures aimed at better rebalancing inter-governmental relationships and improve inter-provincial horizontal equity”.

The IMF asserted that the effectiveness of Pakistan’s AML/CFT regime must be urgently strengthened to support its exit from the Financial Action Task Force (FATF) list of jurisdictions with serious deficiencies. The authorities are stepping up efforts to implement all measures committed to in an action plan with the FATF by end-October 2019 which has also been made structural benchmark of the IMF programme. The authorities will work with technical assistance providers, including the IMF, to complete the action plan and further strengthen the effectiveness of the AML/CFT regime.

Under the agreement, Pakistan agreed that SBP financing of budget deficit will be completely eliminated and it has also been made a performance criteria to support the new monetary policy framework. The Fund noted that direct SBP financing of the budget had increased from around Rs3.6tr in FY2018 to over Rs7.7tr (around 20pc of GDP) now. This fiscal dominance has greatly compromised the SBP’s operational independence, jeopardising the achievement of the inflation objective.

The authorities said they stand committed to refrain from any new direct financing of the budget by the SBP and to gradually reduce the SBP stock of net government budgetary borrowing. Moreover, the SBP and the government would re-profile the stock of mostly short-term government debt held by the SBP into short- and long-term tradable instruments of various maturities (one, three, five and 10 years) at interest rates close to market levels.

The authorities have also given a commitment that electricity rates would be adjusted on a quarterly basis and the second quarterly adjustment will take place before end-August. Moreover, the FY2020 electricity tariff schedule will be notified as determined by the regulator by end-September 2019. The laws relating to electricity and oil and gas regulators would be amended to ensure immediate notification of tariffs determined by them to ensure full cost recoveries.

Published in Dawn, July 9th, 2019