A failure to reform the tax system, losses in the public sector and the flight of foreign investment have been compounded by the negative economic impact of a series of natural disasters and continued security concerns. But with cross-party cooperation there is a strong chance that the economy can be turned around.
Three years after President Asif Ali Zardari took charge of the country and began a transition to civilian rule, Pakistan’s democratic future hinges on a vital factor – the economy. In sharp contrast to the period immediately before Zardari stepped in as president, some of Pakistan’s most significant economic indicators are out of control. The country’s budget deficit has repeatedly overshot the targets laid down by the government itself, new investments – notably foreign ones – have virtually dried up in the past three years, and the government’s ability to invest in key social services has clearly been eroded.
The outlook for Pakistan’s economy has in large part been affected by the country’s decade-old security crisis, unleashed in the wake of the US-led invasion of Afghanistan following 9/11. Zardari and Prime Minister Yusuf Raza Gilani – both elected in 2008 – face criticism for having failed to sustain some of the positive economic trends that were in place when they came to power. Yet, Abdul Hafeez Shaikh, the finance minister, appears keen to note the underlying elements that provide stability to the country’s economy.
Taking encouragement from a 28 percent rise in Pakistan’s export earnings during the last financial year (July 2010-June 2011) and a continued robust inflow of remittances from the country’s expatriate workers worldwide, Shaikh believes that the consolidation of the democratic environment will aid future economic prospects. “With the help of a united parliament, we can be assured of a strong implementation of the programme and policies that we have presented to you today,” he told MPs in June 2011 during the annual budget speech. “It is this quality of unity that is required to accelerate us out of a current recession into a high growth trajectory of over 7 percent per annum to employ our youth,” he added. Yet, the government’s critics warn that promises made by the finance minister have little hope of becoming reality.
One critical area in need of reform is Pakistan’s dilapidated tax system. The community of income tax payers is less than 1 percent of the country’s population of 180 million. In his last budget speech, Shaikh promised to target up to 700,000 individuals who are currently out of the tax collection net but are suspected to have significantly large incomes. Tax reforms have also been blocked by a constitutional bottleneck that provides immunity to landowners paying tax on their farm incomes. To date, little appears to have been done to try to resolve these problems.
The failure to reform the tax collection network in 2010 contributed to the International Monetary Fund (IMF) halting its loan programme after Pakistan and the IMF were unable to resolve a dispute surrounding the country’s out-of-control budget deficit. The loan, agreed in 2008, eventually ended in 2011 after Pakistan was allowed to draw approximately two thirds from the agreed amount of around US$11billion.
This latest experience with the IMF has reinforced Pakistan’s image as a country unable to balance its books. Shaukat Tarin, the former finance minister, who negotiated the IMF loan programme and subsequently resigned from Gilani’s cabinet over disagreements related to the carrying out of economic reforms, says that “the reforms which are necessary to begin dealing with some of Pakistan’s biggest challenges are far from even beginning to come together. Clearly, the economy is in trouble and you need to tackle different dimensions to revive confidence.”
Other analysts note that the challenges to be tackled include the sharp increase in losses suffered by Pakistan’s more essential public sector firms, notably power generation and transmission companies, gas suppliers and large industrial units such as the steel mills in Karachi. “The losses in the public sector are a drain on the economy and you have to reform this area,” adds Tarin.
In addition to these structural challenges, Pakistan has had more than its fair share of humanitarian tragedies in the past two years that have caused a drain on the economy. Large-scale floods in the northern Khyber Pakhtunkhwa province, the Punjab and parts of Sindh provinces in 2010 and the mainly Sindh-focused floods in 2011, have all taken their toll on agricultural output. These catastrophes have directly brought down the expected level of economic growth and led to an increase in the number of Pakistanis living in impoverished conditions.
Yet, Shaikh claims credit for some elements of the reforms already put in place, such as raising the tariff for electricity and gas to bring it closer to one that is commercially viable. Previous Pakistani governments have failed to raise the price of energy over the years, considering the matter to be politically sensitive and potentially volatile.
While global confidence in Pakistan’s economic future remains weak, due to the many internal gaps suffered by the country, liquid foreign currency reserves of approximately US$16 billion held by the central and private banks give confidence to policy-makers. This is especially a source of confidence given the recent crises surrounding some of the world’s more developed economies and the risk of instability to stocks and currencies.
But going into 2012 amid expectations of approaching national parliamentary elections, Pakistan will likely go through a period of uncertainty, with implications for the country’s economy. On the positive side, the country’s main political parties appear to share a common policy objective of following free market principles and encouraging the growth of the private sector. Yet, the litany of challenges – ranging from security to the operating environment for businesses – continues to undermine Pakistan’s prospects as a destination for investors. And, in the words of Tarin: “Unless the government begins to deal with difficult issues surrounding the economy, the conditions will not change.”
