Government borrowing By ANJUM IBRAHIM

ARTICLE (April 26 2010): For most major policy decisions - be they in the realm of monetary or indeed fiscal policy - it has become almost routine for the government officials to refer to the commitments made to the International Monetary Fund (IMF) under the Stand-By Arrangement (SBA) as the raison d'etre.

There is little manoeuvrability, so argues the present government, given the huge triple deficits that it inherited - budget deficit, current account deficit and the trade deficit. All require cash injections to successfully turn the economy around, so goes the argument, and the international community has not been supportive in that regard with the exception of the IMF. And yet while this forced us to follow the IMF prescriptions yet reliance on deficit financing or borrowing internally remains a component of Pakistani government's attempts to meet its annual expenditure.

The IMF, in turn, is fairly immune to public criticism of its prescriptions and relies on economic theory to provide the required justification. Many analysts have challenged the IMF prescriptions with the main criticism being that the prescriptions are not poor friendly. It is, perhaps, for this reason that the IMF has been at pains to support the Benazir Income Support Programme - a programme that is grossly inadequate to meet the financial needs of a family of four, conservative by Pakistani standards, for one week leave alone one month.

Be that as it may it is a first for a Pakistani government and does reflect to some extent the human face of the government expenditure and the IMF's SBA. The devil will, of course, be in the implementation and the World Bank has already voiced objections about the selection of beneficiaries of this programme - an objection which has led to some delays as the government tries to resolve these objections.

So what would the government need to do to appease the IMF concerns with respect to following a reform agenda - reforms that would require borrowing domestically? One major IMF prescription on which there is unanimity in this country is the need to bridge the budget deficit gap, though there is no unanimity on how to best achieve this objective. Budget deficits are neither new nor indeed unique to Pakistan. However, there is intense debate on how to finance these deficits in the country. Post 9/11 for a period of five to six years, the Musharraf government did not have to deal with huge budget deficits as money to fight the Taliban began to flow in.

However, aid injections, inclusive of grants and loans, were not used to develop the critical infrastructure sectors notably energy, and were diverted to current expenditure. Proof of this contention is evident from the statistics released by the State Bank in its 2008/09 annual report: expenditure rose from 1001 billion rupees in 2005 to 1364.5 billion rupees in 2007 (364 billion rupee rise) while development outlay increased from 149 billion to 299 billion rupees for the two years. The tax-to-GDP ratio, however, remained appallingly low, indicating that the Musharraf government did not bother with reforming the tax system like its predecessors and unfortunately its successor.

In the past, the governments relied on borrowing from the State Bank, which is a highly inflationary policy. In the first letter of intent (LoI), submitted by the government of Pakistan to the IMF Board in November 2008, a prerequisite for the approval of the SBA, the government "committed to limiting SBP financing of the budget to zero on a cumulative basis during October 1, 2008-June 30, 2009. During this period, the fiscal deficit will be fully financed by available external disbursements (which have already been committed), the acceleration of the privatisation process, the issuance of treasury bills, and other domestic financing instruments, including Pakistan Investment Bonds, Ijara Sukuk, and National Savings Schemes". So how did the government reduce the budget deficit? It certainly did not increase its revenue collection significantly and the tax-to-GDP ratio remains appallingly low.

External disbursements, consisting of the April 2009 Tokyo pledges, have yet to find their way into Pakistan. Senior members of the country's executive, including the President, appear to have abandoned their sole focus on these pledges as a means to resolve the country's poor resource mobilisation capacity even though these pledges were included as part of revenue in the budget for fiscal year 2009/10.

This is indicated by recent statements of the President of Pakistan, who in the early days of his electoral victory, had in international as well as domestic fora argued that the democracy dividend must include grant assistance of the fantastic amount of 100 billion dollars. More recently, the President is on record arguing that Pakistan needs trade and not aid.

In fiscal year 2006, around 135 billion rupees were borrowed from the State Bank of Pakistan. This was brought down to 58.6 billion in 2007. However, in 2008, the first year the PPP government came to power reliance on borrowing from the State Bank rose to a mammoth 688 billion rupees. The PPP stalwarts would be at pains to blame the Musharraf government for this rise by pointing out that he endorsed the policy of heavy subsidisation of oil as a deliberate attempt to win the February 2008 elections. As the international price of oil continued to rise till July of 2008, so did the subsidy payable by the government, which raised the government's indebtedness to the SBP.

However, the PPP needs to take blame for this policy attributable to their procrastination with respect to lifting the heavy oil subsidy, which accounted for a major increase in borrowing from the SBP. The government did not go on the IMF programme till November of the same year and it is indeed unfortunate that it relied so heavily on borrowing from the State Bank - a highly inflationary form of borrowing.

But so argue many an analyst the inflationary impact on the common man of the IMF programme was more and certainly not less than the borrowing from the State Bank. There is some credence to this view even though total inflationary statistics prove otherwise as inflation has come down from over 20 percent to less than 13 percent. With the rise in utilities, notably energy (due to steady withdrawal of all subsidies) and transport (due to increased reliance on petroleum levy to meet the budget deficit), the common man's income continues to erode to this day. And with the failure of the government to contain the profiteers and smugglers of essential items food, inflation continues to be high.

In 2009, the government in line with the IMF condition reduced reliance on borrowing from the State Bank to 130 billion rupees and in the current year reliance has been further curtailed to 128.5 billion rupees. Those who argue that this implies lower borrowing need to be reminded that Pakistan was recently placed in third position globally with respect to the riskiest sovereign credit.

So where did the government borrow from if not the State Bank? Not from commercial banks either - data shows that there was a doubling of this debt from 2006 to 2007 - 68 to 160 billion rupees. But by 2008, the government borrowed 134.2 billion rupees from commercial banks, 185.5 billion rupees in 2009 and 172.8 billion rupees up to March of this year.

The government's main source of additional borrowing was from NSS schemes - the least inflationary form of borrowing: from 6 billion rupees in 2006 to 267 billion rupees in 2009 and the government had borrowed 149 billion rupees from July-February in the current fiscal year. This was made possible through enhancing rates of return on these schemes as well as aggressively marketing NSS products. While borrowing from the NSS is less inflationary than the borrowing from the SBP or from the commercial banks, yet to argue that this has no inflationary impact is not correct.

Money borrowed from the NSS is injected right back into the economy by the government, thereby increasing the money supply in circulation and the higher rate of return translates into extra income allowed to those who placed their money in the NSS schemes, which also increases the circulation of money. Loadshedding, however, is responsible for a decline in output. The result: inflation remains high.

Pakistan's total domestic debt has risen from 2601 billion rupees in 2007 to 3851 billion rupees in 2009 - an unprecedented rise even for our debt ridden past governments. And total external debt rose from 33.3 billion dollars in 2004 to 50.7 billion dollars in 2009. If this is a reflection of what the present government claims is home-grown remedy, then there is an urgent need to revisit the definition of home-grown, which must contain a large element of a massive slash in current expenditure, and a rise in the tax-to-GDP ratio.

Source: http://www.brecorder.com/index.php?id=1049548&currPageNo=1&query=&search=&term=&supDate=