Pakistani authorities and IMF staff have reached a staff-level agreement on policies and reforms needed to complete the sixth review under the $6 billion Extended Fund Facility (EFF).
The agreement is subject to approval by the Executive Board, following the implementation of prior actions, notably on fiscal and institutional reforms, read an official press release.
Completion of the review would make available Special Drawing Rights (SDR) 750 million (about USD 1,059 million), bringing total disbursements under the EFF to about USD 3,027 million and helping unlock significant funding from bilateral and multilateral partners. An additional SDR 1,015.5 million (about US$1,386 million) was disbursed in April 2020 to help Pakistan address the economic impact of the COVID-19 shock.
Despite a difficult environment, progress continues to be made in the implementation of the EFF-supported program. All quantitative performance criteria (PCs) for end-June were met with wide margins, except for that on the primary budget deficit.
The completion of the National Socio-Economic Registry (NSER) update, parliamentary adoption of the National Electric Power Regulatory Authority (NEPRA) Act Amendments, notification of all pending quarterly power tariff adjustments, and payment of the first tranche of outstanding arrears to independent power producers (IPPs) to unlock lower capacity payments fixed in renegotiated power purchase agreements (PPAs) are all notable structural achievements.
The authorities have also made progress in improving the anti-money laundering and combating the financing of terrorism (AML/CFT) framework, although some additional time is needed to strengthen its effectiveness. Furthermore, to strengthen the medium-term outlook, increased focus is needed on the following:
- Boosting competitiveness, and exports
- Promoting financial deepening and inclusion
- Stepping up to climate change
The IMF has surmised that in accordance with available data, economic recovery looks to have gained a firm setting due to Pakistan’s timely fiscal response to the COVID-19 pandemic. The Federal Board of Revenue’s (FBR) tax revenue collection has been strong.
At the same time, external pressures have started to emerge: a widening of the current account deficit and depreciation pressures on the exchange rate—mainly reflecting the compound effects of the stronger economic activity, an expansionary macroeconomic policy mix, and higher international commodity prices.
As a result, policymakers have begun to make changes, including gradually reducing COVID-related stimulus measures. The State Bank of Pakistan (SBP) has also taken the necessary steps by beginning to reverse its accommodative monetary policy stance, strengthening some macroprudential tools to limit consumer credit growth, and providing forward guidance. In addition, the administration intends to introduce a package of fiscal measures aimed at reducing the primary deficit by a small amount compared to the previous fiscal year:
- high-quality revenue measures to make the tax system simpler and fairer (including through the adoption of reforms to the GST system); and
- prudent spending restraint, while fully protecting social spending
The IMF believes these initiatives will help to maintain the favorable short-term outlook, with growth expected to reach or exceed 4 percent in FY 2022 and 4.5 percent the following fiscal year. Inflation, on the other hand, remains high, though it should begin to fall once the rupee’s loss is absorbed and temporary supply-side limitations and demand-side pressures fade. Despite some export growth, the current account is likely to widen this fiscal year, indicating increased import demand and international commodity prices.
However, this economic picture continues to be hampered by increased domestic and external uncertainties, as well as fundamental economic issues.
In this regard, and looking beyond the near term, staff-level discussions with the IMF also focused on policies to help Pakistan achieve sustainable and resilient growth to the benefit of all Pakistanis. On the fiscal policy front, staying on course on achieving small primary surpluses remains critical to reducing high public debt and fiscal vulnerabilities. Continued efforts to broaden the tax base by removing remaining preferential tax treatments and exemptions will help generate much-needed resources to scale up critical social and development spending.
The financial regulator has summarized that it is critical to advance the power sector reform strategy, which has been agreed upon with foreign partners, in order to bring the industry back into financial viability and address its negative spillovers on the budget, financial sector, and real economy.
In this regard, strict adherence to the Circular Debt Management Plan (CDMP) will aid in the implementation of planned management improvements, cost reductions, timely tariff alignment with cost recovery levels, and better subsidy targeting to the most vulnerable. However, significantly cutting supply costs will necessitate a modern electrical strategy that:
- ensures that PPAs do not impose a heavy burden on end-consumers
- tackles the poor and expensive generation mix, including wider use of renewables
- introduces more competition over the medium term
Overall, the IMF preached focus on curbing inflation, safeguarding exchange flexibility, reinforcing foreign reserves. As economic stability improves and the SBP’s independence grows with the passage of the SBP Act Amendments, the central bank should move forward with preparations to formally adopt an inflation targeting (IT) regime in the medium term, backed by a forward-looking, interest-rate-focused operational framework.
The IMF team expressed its gratitude to the Pakistani authorities for open and constructive discussions.