Pakistan is facing pressure on its external account, where the trade deficit is surging and making a balance of payment crisis. Even though exports and remittances are increasing, import payments are soaring high. Averting such a situation, inflow of Dollars is very important and for the said reason, positive assessment from International Monetary Fund (IMF) is imminent not only for final trench but to lodge Bonds in International Financial Markets. For this final trench and assessment, the IMF has imposed some conditions so that Pakistan may fulfill its repayment commitment. Out of these commitments, one is to raise tax collection and the second is to give the State Bank of Pakistan more autonomy. Therefore on January 13, 2022, the Government of Pakistan passed the Supplementary Budget and SBP autonomy bill from the National Assembly where tax exemptions of Rs 350 Billion have been withdrawn together with asserting the power to SBP for curtailment of Refinance Facilities and complete ban to lend money to Government. According to the opposition, a new wave of inflation is to hit Pakistan if these bills may be passed from the Upper house i.e. Senate whereas the Finance Ministry stated that it will not affect the lives of the lower-income class rather it is to get tax from luxury items used by higher-income class with tax refund options.
First, let us discuss the most important part of these amendments i.e. SBP autonomy. Upon approval from Senate, the SBP will be powerful to make its own decision about government borrowing from the central bank and refinance schemes. It is to be noted that the government has already minimised its borrowing pattern from SBP when it first went for IMF present Extended Fund Facility due to conditions imposed. And, it has already increased the finance cost of the Government of Pakistan (GOP) making a fiscal account to face pressure for more revenue collection. Another power is to decide about refinance schemes, which are presently available to exporters and precisely speaking to Textile Industry, participating more than 55 per cent in exports for Pakistan. GOP, in consultation with SBP, decides to what extent an industry requires a less costly liquidity push. But, now the GOP will not be able to dictate the SBP for the same. It is to be noted that cotton prices locally rose to double from last year i.e. from Rs 10,000 to Rs 20,000 per maund. Prices in the international commodity market are already at an all-time high making input costs costly. Exporters can use 50 per cent of their export performance of the financial year to avail Export Finance Scheme where the rest of the working capital exigencies meet either by cash generation from operations or borrowing from Banks on the full cost. The same will be the issue with Capital expenditures for the import of new plants and machinery which is also available to exporters at subsidized rates. Now, when input cost has increased to double, and if SBP may curtail the refinance schemes, pressure on Net Profit Margins will be very obvious; making these industries think for alternatives.
Every 10 per cent increase in petrol prices impacts Consumer Price Inflation by around 70BPS.
Now, let us talk about the withdrawal of tax exemptions amounting to Rs 350 Billion from specific sectors and its impact on the economy. Upon passage of this mini-budget and such withdrawals, these industries pass on the increased cost to consumers, which will soar inflation numbers. Mainly, these tax measures relate to the auto sector where 2.5 per cent FED is imposed up to 1300 CC cars, five per cent on 1300 to 2000CC cars, and 10 per cent on above 2000CC cars. Sales tax of 8.5 per cent is also imposed on locally manufactured electronic vehicles up to 1800 CC and 12.75 per cent from 1801 CC to 2500 CC cars. These measures will increase the end-user price and a burden on middle-class buying for cars up to 800 CC. Imported Vehicles are now subject to 17 per cent tax, which will support local assembling/manufacturing companies. General Sale Tax is being increased from 0 per cent to 17 per cent on the imported raw material at the import stage whereas end-product will be subject to the zero-rated regime, i.e. allowing input tax adjustment. This will increase the receivables of Pharmaceutical companies for which companies use funded lines from banks making borrowing costs increase. Proper government monitoring is required if such cash flow pressure may be passed on to consumers. GST is increased from 10 per cent to 15 per cent on cellular services that will make it expensive for end-user, which also includes the IT service professionals and education sector, especially when it goes online due to COVID19 lockdowns. Raw Cotton and sugar supplies to industries are also now subject to 17 per cent GST, which is negative for the textile sector and manufacturers of juices and beverages. Gross profit margins of Textile will be impacted as the input cost increases. The GoP has also agreed with IMF to increase Petroleum Levy by atleast Rs 4 each month to achieve targets but rising international oil prices will compel the government to not increase such levy that can add fuel to fire for inflation. Every 10 per cent increase in petrol prices impacts Consumer Price Inflation by around 70BPS. It is also imperative to mention here that the government, according to some reports, collected Rs 36Billion in five months of the fiscal year 2022 i.e. 5MFY22 against the revised target of Rs 300 Billion from Rs 600 Billion, initially set, for FY22.
If inflation will increase, it will increase the discount rate factor, which is a measure of rising prices. Upon an increase in the discount rate, the borrowing cost of companies dependent on funds from banks will increase until macroeconomic factors may be stabilized; giving breathing space to PKR vs Dollar parity. GOP needs to focus on increasing exports from other potential sectors rather than depending on Textile products but in the long run. Boosting the economic activities of China Pakistan Economic Corridor is a major key in the short run to improve the position of foreign exchange. Recently Mr Khalid Mansoor, Special Advisor to Prime Minister for CPEC, stated that the Special Economic Zones would open up for the entire world. Hope the pace increases as this is the crucial time for Pakistan for the balance of payment where it is also important to note that China posted a trade surplus of $676.4 Billion-the highest since 1994. There is much to do in a free trade agreement with China to support our exports and the fact that China’s need for the CPEC route will intensify for further growth and outreach for her economic activities.
The writer is a Corporate Finance Specialist and a Chartered Banker (UK). He tweets @syedaliimran75.