With more than half of its tenure now complete, the current government is well entrenched, and seems to have its sights on the next elections. The state of the economy is being touted as one of the feathers in its cap, with the purportedly successful conclusion of the IMF program being held up as an example of good economic management. This is a good time to pause to reflect on what the government has done so far, and what could have been done better.
The government began its tenure in 2013 with negotiations to start another cycle of borrowing from the IMF’s Extended Fund Facility, a situation to which Pakistan is no stranger. Each successive IMF program comes in with more or less similar broad conditions—reducing the budget deficit almost always being the key condition. The IMF’s last review mission concluded in August and on the face of it, it gave Pakistan a clean chit, predicting that growth for the current fiscal year (ending in June 2017) will hit 5%, inflation will remain in the low single digits (the Fund places it at about 5.2%), and international reserves will remain in the range of $18 billion or so. The review statement said that Pakistan had exceeded its fiscal deficit target (which was 4.3% of GDP) by a small amount, but it does not see this as a major transgression. In other ways also, the tone of the review statement is conciliatory. An improved energy sector performance is said to have “slowed the accumulation of arrears”. And “despite some delays” the government is said to have continued to “work toward” divestment of some public sector enterprises. These gains, so says the Fund, have to be consolidated.
In effect, the tax regime seems to have become quite efficient at recovering more tax from the same small base that existed several years ago, but has not really succeeded in significantly increasing the number of people who file
While getting the macroeconomic indicators right is important, it’s also important to see how those results were achieved. After all, this government was sworn in after a five-year period of slow growth, and came in with sufficient strength in parliament to implement a bold reform agenda. Has it done so? Let’s pick up just two headline indicators to assess this: the fiscal deficit and the external account.
First, the fiscal deficit. There is no doubt that this has been reduced significantly from the high of over 8% experienced in 2012. The tax collection effort has been extraordinary, with a 19% increase in federal taxes in this last fiscal year. But the government was committed to expanding the tax net, and this indeed, was supposed to be the cornerstone of the tax reform effort. According to the Federal Board of Revenue’s (FBR) own data, Pakistan has 3.6 million registered taxpayers, out of which 1.08 million were on the Active Taxpayers List in 2016. In 2015, this number had dropped below one million, as in 2014, it was recorded at 1.16 million.
To cut a long story short, it’s roughly the same one million people in Pakistan who are filing tax returns. Yet direct tax revenues have jumped by a cumulative 75% or so over the last three years, from Rs736 billion in 2013 to Rs1,288 billion in the fiscal year that has just closed. Of this, only about Rs1.4 billion has been collected from “new” taxpayers, according to a submission made by the FBR to the Senate Standing Committee on Finance and Revenue. Much of the increase in tax revenues has come about due to significant increases in tax rates and withdrawal of exemptions. Pakistan’s most lucrative tax, of course, is the sales tax, an indirect tax paid by all consumers, the collections of which exceed all direct taxes combined. The increase in the sales tax rate, from 16% to 17% in 2014 has also helped boost revenue.
The picture that emerges is thus a little less sanguine than would appear from the data alone. In effect, the tax regime seems to have become quite efficient at recovering more tax from the same small base that existed several years ago, but has not really succeeded in significantly increasing the number of people who file. The increase in the sales tax rate is of course essentially regressive.
Proponents of the government’s tax reform efforts point to the institution of variable tax rates for filers and non-filers, and cite this policy as an example of a successful effort to bring more people under the tax net. If this policy were to be truly successful, the number of active taxpayers would have increased far beyond what has currently been observed. As it happens, it is the big fish who choose to opt out of the tax regime in Pakistan, and they can well afford the difference in the tax rates. Paying an extra Rs50,000 to register a 1600cc motor vehicle which costs about Rs2.3 million is hardly a big issue, when you take into account the benefits of staying outside the tax collector’s radar. There are no random queries, no possibility of being picked for audits, and no paperwork.
Next, let’s take the external account. The government has received plaudits for the increase in the value of foreign exchange reserves. But where has this increase accrued from? Exports have been stagnant at about $24 billion for some years, and are being projected (by the IMF) to fall to just over $22 billion in the current fiscal year. While the global fall in commodity prices has dealt a blow to the country’s largely agro-based manufacturing, matters are not being helped by the continued over-valuation of the exchange rate (it is mind-boggling why maintaining the exchange rate at a certain level is considered a matter of national pride).
The most buoyant item in the current account is worker remittances which have been increasing at more than 15% per annum for the last five years, and are now close to $20 billion—almost as high as export revenues. In an environment where exports have stagnated and foreign direct investment was falling (till CPEC came on line in the last year), remittances have been a boon in no uncertain terms. The extent of Pakistan’s dependence on remittances is such that a wave of layoffs in the Middle East, possibly fueled by further slowdowns in those oil-dependent economies, could wreak havoc with the external account. Remittances are a great source of foreign currency, but hardly a solid base for the country’s balance of payments.
The current government has been helped by falling oil prices (which have helped to bring down inflation and check growth in the value of imports), the international community’s vigilance in checking informal money flows (which has helped to channel remittances into banks), and by a taxpayer base that has little recourse when faced with ever more stringent taxation schedules. Luck seems to be with them, but this can’t be depended upon.
The writer is a researcher based in Islamabad