While forecasting risks to the economy, the central bank has decided to maintain the discount rate (DR) at 14 percent. It says, “Risks to the economy may increase if meaningful economic reforms are not initiated to address the structural weaknesses.” What it means by “economic reforms” include a major cut in government spending, reducing the size of the burgeoning bureaucracy, bringing the big farmers and retail businesses into the tax net and no subsidies on energy and food.
Many of these measures, reflecting also the IMF’s conditions for the ongoing $ 11.3 billion Standby Agreement (SBA), are considered essential. But they will raise the prices of essential consumer goods further and squeeze government spending, which the present weak rulers are unable to undertake. This is also true of other reforms.
The benchmark DR will be maintained at 14 percent for April and May, the State Bank of Pakistan (SBP) has announced. The private sector, on the contrary, has been demanding the slashing of the DR substantially so that the cost of bank credit comes down. The present level of DR is at 14 percent, which translates into 18 percent commercial banks’ lending rate to the private sector.
At this rate, it is getting impossible to do business, continue and enlarge exports and sell in the domestic market at high prices.
However, the SBP insists, the DR should be maintained at this level in order to curb the ongoing inflationary spurt. However, business and independent economists point out that inflation continues to be spurred by a high level of government borrowing from the SBP and the commercial banks. The government justifies this high volume borrowing in order to meet its yawning budgetary deficit. The deficit is attributed to the high cost in the war on terror, low federal and provincial government tax collection and reduced inflow of foreign assistance.
Pakistan received just Rs 48 billion in external resources to finance the budget in the first half of fiscal year (FY) 2011, against the budget estimate of Rs 230 billion for the entire year. “If these external resources are not released in a timely manner, there is a risk of further substantial government borrowing from the banking system and can make liquidity management more challenging,” the SBP says.
The GDP growth in FY 2011 was projected at 2.5-3.0 percent. The fiscal deficit in the first half of FY 2011 has been 2.9 percent, but if the IMF tranches under SBA and external inflows do not materialise, there is talk that it may go up to 5.0-5.5 percent.
The central bank claims a decline in year-on-year inflation from 15.5 percent in December 2010 to 12.9 percent in February 2011. It attributes this to a gradual dissipation of the effects of the summer 2010 floods on food prices, reduced pass-through of international imported oil prices to the consumers, a small adjustment in electricity tariff and a reduction and containment of government borrowing. Islamabad’s stock of borrowing has, by now, come down to around Rs 1,200 billion. Government debt growth had spiralled by 14.8 percent at end-December 2010.
Forty-five percent of the government’s tax revenue is used for debt repayment. On the other hand, the year-on-year growth of bank credit to the private sector was merely 5.0 percent up to March 12, 2011.
This proves the private business point, and resulting protest, against the high cost of bank credit, and its reduced availability, as the commercial banks prefer to lend to the government. But the rapidly rising prices contradict claims of inflation easing up. The price of staple wheat flour and sugar have nearly tripled in three years, cooking oil going up by 150 percent, and there are big increases in oil, fuel, electricity, utility prices and cost of commuter and inter-city travel.
The SBP points out: “The risks to economic stability seem to have subsided due to an improved current account position and relatively disciplined government borrowing.Inflation persistence still remains high.” The current account deficit in July-February of FY 2011 was $ 98 million down from $ 3.027 billion in the like period of FY 2010. The balance of payments was plus $ 1.55 billion. It was $ 496 million in the like period of FY 2010.
The current stability in the financial markets provides “valuable time to initiate structural reforms”. It also underlies the fact that “urgent measures are required to address the energy crisis to increase productive activity, but the fiscal position also needs considerable strengthening to cope with the rising debt obligations and to ease borrowing pressure on the banking system.”
Private business and industry complain that the present high volume of government borrowing to plug its budgetary deficit has not only led to a high cost of credit but the resulting liquidity squeeze has starved the private sector of bank credit.
The situation also calls for a transparent rationalisation of subsidies, and development of a forward-looking debt management strategy “through support from across the political divide”. But the poor governance of the present rulers has triggered a reduction in foreign aid inflows, and the opposition political parties point out that foreign debt has skyrocketed to an all-time high of $ 58.39 billion.Does this mean more hardships may have to be faced by all sectors before things take a turn for the better – or the worst?
The writer is an Islamabad-based journalist and former Director General of APP