PHOTO: REUTERS
“A potential blacklisting by FATF could result in a freeze of capital flows and lower investment to Pakistan,” stated the staff-level report that was finalised during the visit of the IMF team to Pakistan.
The report, released on Monday, also disclosed significant increase in electricity prices from next month, in addition to re-introduction of debt servicing surcharge in power bills on account of circular debt-related fresh borrowings.
The report admits that the quality of fiscal adjustments under the IMF programme was not high in the first quarter (July-September).
First-quarter budget targets were met by blocking Rs40 billion payments to the Benazir Income Support Fund beneficiaries and severely curtailing health and education spending by Rs92 billion across Pakistan by federal and provincial governments.
FATF risks
The IMF programme continues to face significant risks, both from domestic and external factors, the report added.
Potential external risks include blacklisting by FATF that could result in a freeze of capital flows to Pakistan, slow progress in refinancing/re-profiling loans from major bilateral creditors, and increasing headwinds from a weaker global economic backdrop.
The IMF report added that Pakistan continues to be included in the FATF's list of jurisdictions with serious AML/CFT deficiencies.
The Asia Pacific Group on money laundering also discussed Pakistan's Mutual Evaluation Report, noting that existing efforts were inconsistent with the level of risks and greater effectiveness needs to be demonstrated.
Due to a delay in completing the 27-point Action Plan, the IMF has also accordingly adjusted a programme condition to complete the work from October 2019 to June 2020.
But Pakistan has to show a substantial level of effectiveness to the IMF by end-March 2020 that should be consistent with FATF Immediate Outcome 9 on terrorism financing investigations and Immediate Outcome 10 on targeted financial sanctions, according to the IMF.
While discussing the domestic risk, the report noted that pushback on policy initiatives was expected from the vested interest groups and the lack of majority by the ruling party in the upper house may also affect the approval of new legislation.
The resistance to reform from vested interest groups could undermine the programme's fiscal consolidation strategy and put debt sustainability at risk.
“[The] failure to meet programme objectives could jeopardise the availability of external financing,” cautioned the IMF.
The IMF staff flagged the risks stemming from the composition of fiscal adjustment and cautioned that fiscal consolidation must be achieved on the back of high-quality measures to ensure the sustainability of the adjustment.
Weak growth
Economic “Growth is currently weak and significant fiscal adjustment is needed in the coming years”. Economic growth has slowed in recent months with weaker large-scale manufacturing activity.
The IMF has kept the economic growth rate target unchanged at 2.4% for the current fiscal year but added net exports are now expected to provide a larger contribution to growth mainly due to greater import compression. Growth is projected to strengthen to around 3% in the next fiscal year as policies take hold and confidence and investment strengthen.
The IMF has also kept medium-term economic growth rate prospects unchanged at 4.5% to 5%.
“Anecdotal evidence suggests unemployment is rising, but this may be masked by considerable underemployment in the informal sector”.
The social conditions remain challenging and poverty remains a significant concern and there is a large gender gap. The IMF has once again not given the poverty figures and instead referred to UNDP’s four-years-old data.
Average CPI inflation is projected to decelerate slightly to 11.8% in this fiscal year as administrative and energy tariff adjustments are expected to offset the effects from weak domestic demand, said the IMF.
Thereafter, inflation is expected to converge to SBP's 5% to 7% in medium- term.
Despite signs that inflation has started to stabilize, headline and core inflation remain high and are expected to decline only gradually as upcoming energy tariff adjustments and the pass-through from volatile international oil prices put upward pressure on inflation, stated the report.
Rising debt
The general government debt, including guarantees and IMF borrowing, rose to 88% of GDP by end of last fiscal year, which was higher by 8.7% of the GDP against the IMF’s own estimates, according to the report. The significant increase in public debt also puts a question mark on the working of the IMF that had prepared the initial estimates after the close of the last fiscal year.
The IMF said that debt in the previous fiscal year increased a consequence of the fiscal slippages, the exchange rate depreciation and the government's decision to increase cash deposits considerably to provide a financing cushion against potentially unfavourable market conditions.
For this fiscal year too, the IMF has upward revised its public debt and liabilities projections to 84.7% of the GDP or Rs37.6 trillion, showed the report. The IMF had earlier projected public debt and liabilities at Rs35.7 trillion or 80.5% of the GDP. It has now increased the estimates by 4.2% of the GDP or Rs1.9 trillion.
The IMF said that the government has now agreed to draw down some of the cash buffers and in October it used Rs1.4 trillion to retire short-term government securities held by the private sector.
But it said, overall, IMF staff continues to assess that debt remains sustainable over the medium-term, given the broadly unchanged macroeconomic framework, the policies to date, and the authorities' policy commitments ahead.
“However, debt sustainability has become subject to somewhat higher risks due to the fiscal underperformance in FY 2019, a higher debt outturn, and higher financing needs”.
Pakistan's capacity to repay its IMF obligations in a timely manner remains adequate but subject to higher than usual risks., it added.
There are “elevated risks” to Pakistan's repayment capacity on account of the low reserves and delayed adoption of adjustment policies. Moreover, higher public debt and gross financing needs are adding to these risks.
Power Sector
The IMF report stated that in the last fiscal year Rs465 billion were added into the power sector circular debt. The total debt as of end-September 2019 increased to Rs1.69 trillion.
The IMF report revealed that the government will further increase the electricity prices in January to pay the idle capacity payments to the power producers. The report said that the government has already increased by 5% prices in September and then 2% again in November.
The government will also amend the NEPRA Act to re-introduce the powers to slap debt servicing surcharges. This will be done before the end of this month, according to the report.
The IMF has estimated annual circular debt servicing costs in excess of Rs100 billion, which it wants to be recovered from honest consumers and to compensate for theft.
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