Feb 8, 2011

Fiscal and debt-policy statements

Dr Ashfaque H Khan
The Debt Policy Coordination Office of the ministry of finance released two policy statements, namely the Fiscal Policy Statement and the Debt Policy Statement in January. These statements were released with a view to fulfilling the requirement of Sections 6 and 7 of the Fiscal Responsibility and Debt Limitation (FRDL) Act, 2005. Through these statements, the Debt Office reviews the country’s fiscal and debt situation of the country and provides a compliance report on the various elements of the Act.

Keeping in view the macroeconomic difficulties faced by Pakistan in the 1990s as a result of the persistence of a large fiscal deficit (7 per cent of GDP, on average) with the consequential rise in public debt, at that time the government put together a rule-based fiscal policy in 2002-03, which was later approved by parliament on June 13, 2005, as the Fiscal Responsibility and Debt Limitation Act. The Act was meant to inject financial discipline in the country.

There are five key elements of the Act, designed specifically to inject financial discipline. These include: (i) Pakistan’s public debt not to exceed 60 per cent of GDP beyond June 2013; (ii) Public debt to reduce at least 2.5 percentage point of GDP each year; (iii) revenue deficit eliminated by June 2008 and a surplus to be maintained thereafter; (iv) guarantees to the borrowings of the public-sector enterprises not more than 2 per cent of GDP in a given year by the government; and (v) expenditures on social sector and poverty-related programmes not to be reduced below 4.5 per cent of GDP in a given year and expenditures on education and health to be doubled in terms of percentage of GDP by June 2013.

Several elements of the Act have been in violation for the last three years and there are indications that these will be violated in 2010-11 as well. It is a pity that no member of parliament has ever raised the issue of perpetual violation of the Act in either house of parliament despite the Debt Office submitting over 500 copies of each statement to parliament for their members.

The two statements released by the Debt Office clearly pointed out that the government has failed to eliminate revenue deficit; that the public debt, instead of declining and moving towards 60 per cent of GDP, has in fact surged from 55.5 per cent in 2006-07 to 60.6 per cent in 2009-10, and that the government has provided guarantees of more than 2 per cent of GDP in 2009-10. Thus, four elements of the Act have been in violation, but no member of parliament has bothered to raise the issue in any of the houses of parliament.

Pakistan’s public and external debt have grown during the last three years at a pace never witnessed in the country’s history, and as such it has reached an unsustainable level. Public debt (both the rupee and dollar components of the debt) rose by an average of 28.4 per cent per annum between 2007 and 2010 as against an average rate of 6.6 per cent per annum from 2000 to 2007. External debt and liabilities (EDL), on the other hand, grew by an average rate of 12.7 per cent in the last three years, compared with a negligible increase (0.9 per cent per annum) during 2000-07.

Many factors have contributed to the recent surge in debt. These include the persistence of large fiscal and current-account deficits (6.3 per cent and 5.4 per cent of GDP on average, respectively), sharp depreciation of exchange rate (over 30 per cent) and unrestrained borrowing with pride and pleasure. The depreciation of exchange rate added almost Rs1200 billion, or 30 per cent, to the increase in public debt alone. It is horrifying to note that the total stock of public debt that stood at Rs4802 billion in end-June 2007 surged to Rs9473 billion in end-September 2010. In other words, the country added Rs4671 billion in over three years. It had taken 60 years for the public debt to reach Rs4802 billion, but we added almost the same amount in just over three years.

Why should we worry about the rising trend in debt? It is well-known that the high and rising trend in debt constitutes a serious threat to growth and development. It is a major impediment to macroeconomic stability and thus to investment, growth, employment generation and poverty alleviation. It is also a discouragement to foreign investment, because it creates uncertainly about the government’s policy, and accordingly generates a high-risk environment for doing business in the country.

Pakistan’s current state of the economy is a mirror image of the development on the debt front. Its economic growth has slowed to an average of 3 per cent per month, investment has decelerated from as high as 22.5 per cent to 16.6 per cent of GDP, theunemployment has risen, poverty must have increased compared with 2007-08 (17.2 per cent people were living below the poverty line in 2007-08), the exchange rate has depreciated by over 30 per cent, and inflation persisting at double-digit. Pakistan can reduce its debt burden by maintaining financial discipline, that is, by keeping budget deficit in the range of 2.5 per cent to three per cent of GDP, current account deficit in the range of 1.5 to 2 per cent of GDP, maintaining stability in exchange rate, relying on grants rather than on loans, accelerating the pace of privatisation and by avoiding unnecessary borrowing.

Pakistanis are born free but they are in debt everywhere. In recent years, Pakistan has borrowed heavily from the future and is enjoying a living standard that is unsustainable. The unprecedented surge in debt is the road to ruin and the failure to repay will be the breach of trust. Ours is “spend now and tax later society.” Reckless lenders have further aggravated Pakistan’s debt situation.

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