Averting default, inviting stagflation

August 14, 2022

The least the government can do is to consult all stakeholders

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“There were serious worries about Pakistan heading the way of Sri Lanka and getting into a default-like situation, but that seems to have been averted after significant changes were made”— Federal Finance Minister, Miftah Ismail, in a recent interview with CNBC.

Some macro-economic adjustments, mentioned by the federal finance minister, have helped Pakistan forestall the risk of external default. However, the same measures have created difficulties for the local economy.

The policy rate went up to 15 percent and inflation to around 24.9 percent on a year-on-year (YOY) basis in July 2022. The current tsunami of inflation is getting gigantic and it seems that Pakistan’s economy is sliding towards a stagflation. There are several reasons behind this situation. The current situation is a product of increasing international commodity prices, especially the oil and food prices; supply shocks; and the declining value of rupee.

After the recent amendments in the State Bank of Pakistan (SBP) Act, 1956, the primary objective of the central bank is to achieve and maintain domestic price stability, i.e., low and stable inflation. Food and energy-based inflation is triggered by multiple factors like global commodity prices, local and international tariffs, duties and demand and supply mechanics. For example, the ongoing conflict between Ukraine and Russia has caused major disorders in the supply of energy and food commodities in the global markets due to which prices are moving upwards. In this scenario, the SBP cannot curb the rising prices.

Enactments like the Price Control and Prevention of Profiteering and Hoarding Act, 1977, place managing prices in the domain of federal and provincial governments. Hence, assigning this role to the SBP is futile. The central bank appears to be a mere spectator in this situation. It neither has the administrative paraphernalia nor the intent to address this issue.

The feebleness of the government and the SBP can be corroborated by the recent inflation estimates by the International Monterey Fund. According to the IMF, “global inflation [estimate] has been revised up due to food and energy prices as well as lingering supply-demand imbalances”. It is anticipated to reach 6.6 percent in advanced economies and 9.5 percent in the emerging markets and developing economies this year.

The inflation level estimated by the central bank, however, is twice as high for Pakistan. The recent monetary policy statement by the State Bank of Pakistan states: “Inflation is likely to remain elevated around current levels for much of FY23 due to the large supply shock associated with the necessary reversal of fuel and electricity subsidies. As a result, inflation during FY23 is forecast at around 18-20 percent before declining sharply during FY24”.

It is unfortunate that to date no concrete efforts have been made by the governments to facilitate low-income groups. The only thing worth mentioning in this regard is the flagship Benazir Income Support Programme, launched by the coalition government of Pakistan Peoples Party and Pakistan Muslim League (Nawaz) in 2008.

Recently renamed, the project extends unconditional cash transfers and support packages. However, these measures alone are not sufficient to combat inflation and poverty. A study on the State of Poverty in Pakistan by the Pakistan Poverty Elevation Fund provides statistical details claiming that in Pakistan around 22 percent of people live below the poverty line, out of which 5.5 percent can be categorised as “ultra-poor”. While 16 percent of the population borders the poverty line, around 20 percent are vulnerably poor, placed slightly above the poverty line.

The recent steps taken by the government, including raising the policy rate by 125 basis points to 15 percent and imposition of selective embargoes and increasing cash margins to reduce import bill, are making the business environment challenging.

Given the alarming situation, the government needs to recognise that it cannot simply pass on the impacts of global and local economic shocks to the common man. Rather, it must act to safeguard the vulnerable segments.

Successive governments have instead been surrendering their administrative role to regulators. This might sound like a progressive measure but in the absence of supporting apparatus and technically robust and qualified human resources, most of these steps have not delivered desired results. These have miserably failed also to demonstrate a move towards an equilibrium between commercial decision-making and public interests.

The energy sector is a prime example of this. The State of Industry report by the National Electric Power Regulatory Authority (NEPRA) for fiscal year (FY) 2021 indicts the government for its negligence in the under-utilisation of most efficient re-gasified liquefied natural gas (RLNG) power plants as well as some other cost-efficient power plants. The under-utilisation of efficient power plants is one of the major reasons behind the higher price of electricity.

The report mentions that RLNG demand had been conveyed to concerned quarters well ahead of time. Still, the government failed to acquire the required volume of RLNG. As a result, on several occasions, various RLNG power plants were either unutilised or under-utilised and reliance was placed on more expensive power plants.

The Pakistan Tehreek-i-Insaf government, acting at the behest of the IMF, had made certain amendments to the Regulation of Generation, Transmission, and Distribution of Electric Power Act, 1997, to automate the process of notification of the tariff changes and adjustments. By virtue of this amendment, introduced in 2021, the NEPRA appears to be more powerful than the government. Chapter IIIB Regulation 31(7) clearly states that “the Authority’s approved tariff or uniform tariff, as the case may be; rates, charges, and other terms and conditions for the supply of electric power services shall be made in the official Gazette, by the Federal Government within thirty days of intimation of the same by the Authority. In the event that the Federal Government fails to notify the tariff so determined by the Authority, or refer the matter to the Authority for reconsideration, within the time period specified, the Authority may direct immediate application of its recommended and approved tariff or uniform tariff as the case may be, by way of notification of the same, subject to adjustment which may arise on account of reconsideration”.

The astonishing increase in energy bills is reflective of a poor power management policy that needs to be corrected urgently as it has already started taking its toll on the common man and has increased the cost of doing business in the country.

The steps taken recently by the government, includes raising the policy rate by 125 basis points to 15 percent, imposition of selective embargoes and increasing cash margins to reduce the import bill; are also making the business environment challenging. The fallout of the macro-economic adjustments is reaching the businesses and there is no protection or support available to them to help ensure sustainability and long-term progress.

Importers, traders, and manufacturers are facing shortage of industrial raw materials. These are causing undue disruptions and may trigger a wave of business shutdowns and unemployment.

With little hope and limited economic buffers available for immediate relief, the least government can do is to realign its policy direction in consultation with the stakeholders and policy experts. There may be an argument for bringing some untaxed sectors into the ambit of taxation and undertaking a comprehensive cost-benefit analysis to gauge the financial viability of preferential treatment extended to a few industries. This will help reduce the burden of businesses that are currently absorbing the cost of these benefits. Meanwhile, the government will have more funds at its disposal to spend on social protection.


Abdul Rauf Shakoori is a corporate lawyer based in the USA

Dr Ikramul Haq, an advocate of the Supreme Court and writer, is adjunct faculty at Lahore University of Management Sciences



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