PAKISTAN'S ECONOMIC CRISIS

Context

Key points

• Pakistan's foreign exchange reserves have been depleting during the last year and have come down to $8.9 billion in June 2022.
• The new government has already increased the fuel price in late May and early June.
• The new budget has proposed resuming the petroleum development levy.
• This would mean increased oil and electricity prices, which has the potential to bring people to the streets.
• Earlier this month, citing heightened external vulnerability risk and the ability to secure additional external financing, the rating agency Moody downgraded Pakistan's outlook to negative.
• The government-International Monetary Fund (IMF) talks remained complicated.

Pakistan's relation with IMF

• The immediate future of Pakistan's economy would depend on IMF resuming its support.
• Despite an intense discussion between the two, there has not been a breakthrough until now.
• Pakistan's relationship with the IMF has remained complicated. it has been negotiating with the IMF repeatedly, there has been an economic nationalism, mostly battling against approaching the IMF in recent years.
• Imran Khan, the former Prime Minister made statements and fuelled the sentiments against the IMF.
• After becoming the PM in 2018, the preferred approach is to friendly countries (China and Saudi Arabia) and avoid the IMF.
• The new government is now back to the IMF; it expects the IMF to release the payments, expand the support for the programme and give a longer rope to repay.

IMF aid

• The IMF is willing to support Pakistan but has some conditions regarding macroeconomic reforms.
• This was highlighted in the IMF statement after the last meeting in May 2022.
• The IMF wants Pakistan to address high inflation and the elevated fiscal and current account deficits while ensuring adequate protection for the most vulnerable.
• The IMF does not want any deviations from what has been agreed to concerning fuel and power subsidies.
• The IMF wants Pakistan to be transparent about its debt situation, including what Islamabad owes to China, as a part of the China-Pakistan Economic Corridor (CPEC).
• Subsidies are politically sensitive and with elections ahead, it would not be an easy decision.
• The new budget also has proposed resuming the petroleum tax levy.
• The government expects that the IMF may agree to support after a few more promises by the government.
• But the relief may be less than what Pakistan would hope for.
• Without macroeconomic reforms, the IMF is less likely to expand its support programme or provide a longer rope to Pakistan.

 Pakistan macroeconomic reforms

• This has been a million-dollar question. Economists within Pakistan and elsewhere have been arguing for macroeconomic reforms, including the independence of financial institutions.
• It is a political question that the successive governments led by the Pakistan Peoples Party (2008-13), Pakistan Muslim League-N (2013-18) and Pakistan Tehrek-e-Insaf (2018-22) were unwilling to address.
• Instead, all governments continued to borrow from global institutions and friendly countries.
• The budgets have remained populist; the economic governance declined due to corruption, lack of financial institutions' independence and the export decline.
• The subsidies in the energy sector for fuel, oil and electricity remain high.
  With the present government led by the PML-N and PPP combined facing elections, they are less likely to take any further bold decisions.
• Successive governments, especially the previous ones would instead look for external bailouts and support from friendly countries.
  
  

 countries supporting Pakistan

• Saudi Arabia and China have been supporting Pakistan.  The Prime Minister, Shehbaz Sharif visited Saudi Arabia to secure a loan.
• In early May 2022, Riyadh agreed to provide $8 billion in December 2021, and Imran Khan secured $3 billion in support.
• A similar understanding was reached in October 2021. Riyadh's support was not unconditional.
• An editorial in Dawn in November 2021 highlighted that Riyadh can ask Pakistan to return the money at any time if the two countries have divergent views regarding their relationship or ties with a third country or some other issue.
• China has been another significant source for Pakistan. Islamabad has been regularly seeking loans from China within and outside the CPEC projects.
• The CPEC projects kept expanding and were projected as a panacea for Pakistan's economic problems, there are many questions over the hidden costs.
• Pakistan also had to raise the security for the CPEC projects after a series of militant attacks.
• Pakistan has created a Special Security Division to provide security exclusively for the CPEC projects, increasing the cost further.
• A larger question is whether Pakistan would divert external aid to pay its debts to China?
• This has been one of the questions raised by the IMF, way back in 2018 and remains relevant even today.
• During the latest Financial Action Task Force (FATF) meeting, there was an understanding that Pakistan has met its requirement. The FATF has agreed to explore the possibilities of removing Pakistan from the grey list.
• The IMF had been holding talks with Pakistan. The big two China and Saudi Arabia were not constrained by Pakistan's listing in the FATF.
• The relaxation is less likely to open gates for big investments.

 Pakistan go the Sri Lankan Way

• The situation was similar in Sri Lanka with the falling value of the rupee, declining foreign exchange reserves, differences with the IMF, and rising fuel prices.
• All of them led to public protests in Sri Lanka against the government.
• The economic and energy crises in Pakistan have not snowballed into a political storm as they had happened in Sri Lanka in April-May.
• Politically, unlike in Sri Lanka, there is a coalition at the federal level.
• The main partners have a strong presence and control over the two big provinces, Punjab and Sindh.

Conclusion

• Pakistan's economic and energy situation is serious and demands blod decisions.
  The situation will worsen in the short term before it gets better, but this has been Pakistan's history in the last 75 years.
• With relief from the IMF, after a protracted negotiation, a few band-aids and the U.S. intervention.
• Pakistan may muddle through this time as well, until the next crisis.