The IMF programme dilemma

Pakistan is halfway into the ongoing $7 billion 36-month long Extended Fund Facility (EFF) approved in October 2024 by the International Monetary Fund (IMF) board.

This austerity programme like all previous IMF programmes is causing jitters across Pakistan's political and media landscape. Former and current ministers including economic commentators are openly blaming the IMF-mandated policies for being anti-growth and worsening the country's financial health and increasing social distress. Recently, even the SIFC national coordinator said that the "country's growth plan was missing" and that "we have made a mess of our fiscal situation".

This does not come as a surprise to a supply-side economist. Economics is all about incentives and economic policy is about the right policy choices. Anti-growth IMF programmes have always centered on raising taxes and/or spurning tax rate reductions, balancing the budget at all costs by setting unrealistic and unachievable tax collection targets, devaluing the currency and increasing interest rates. These wrongheaded policies delivered with brutal IMF diktats are anti-growth and espouse only slow-growth stabilisation. Macroeconomic stabilisation at the expense of high growth is based on a false premise. Those who advocate stabilisation set a benchmark for debt sustainability, foreign exchange reserves, primary budget surplus and tax revenue targets.

Pro-growth advocates focus on a set of supply-side economic policies: low tax rates on a broad tax base, government spending restraint, free trade, sound money, deregulation and privatisation. These policies are the six pillars of sustainable economic growth. GDP growth has shown to be powerful in improving the lives of all classes of citizens, whereas a low GDP growth has shown a standard of living in decline, especially if you factor in the annual population growth rate of Pakistan. Unless and until Pakistan embarks on a supply-side economic growth agenda, we will continue to see this vicious cycle and surely this will not be our last IMF programme. The six pillars for economic growth are the ideal policies for sustainable growth and each has a degree of importance.

Taxation

The goal of taxation is to have a tax system that collects the requisite revenue to fund government while doing the least damage to the economy. The best structure of taxation is to have the lowest possible tax rate on the broadest possible tax base. The lowest possible tax rate provides the least incentives for people and businesses to avoid, evade, or otherwise not report taxable income. Furthermore, there should be no deductions, exemptions, exclusions, credits and other omissions and preferences (ie, SROs, etc).

Evidence shows that taxes which are inherently excessive are not paid. High tax rates inevitably put pressure on the taxpayer to withdraw his capital from business and invest in non-productive assets (ie, property etc). The more taxes increase, the more they undermine the market economy. Every specific tax as well as a nation's whole tax system becomes self-defeating above a certain height of tax rates.

Spending restraint

Government spending should be limited to provide products and services that the government alone produces more efficiently than the private sector. The role the government plays in how it spends its revenues is central to prosperity. A government that is too small will definitely hold back prosperity, as will a government that is too large. The government, like any other provider of goods and services, has an optimal size. It should produce as efficiently as possible what it does produce using the least number of resources as is feasible to get the job done.

Sound money

There is little that can bring an economy to its knees fast than unsound money, unhinged paper currencies and the accompanying inflation and high interest rates that invariably attend bad monetary policy. A key function of sound money is to provide a stable valued medium of exchange where all participants know what the numeraire value is and also what its value will be. Secular inflation and excessive high interest rates destroy the information content of the unit of account and damage markets in the present and capital markets where future goods and services are exchanged. Unsound money is a major cause of poverty, despair and economic underachievement, while sound money is the antidote.

Regulations

Regulations cover enormous area of activities and take on a vast array of forms. Regulations exist to minimise negative market externalities that would result from unregulated private activity and to maximise positive market externalities, also resulting from private activity. Excessive regulations can be stifling to economic prosperity and growth. In all, regulations should be directed to specific externalities at hand and avoid as much as possible unintended deleterious consequences and collateral damage. As a general rule, regulations and oversight have been justified by overstating benefits and understating costs. Virtually every regulation should have a sunset provision where its effects can be evaluated before it is renewed, removed or reformed.

Free trade

Tariffs, quotas and non-tariff trade barriers are anathema to economic growth, prosperity and the elimination of poverty. Tariffs placed on foreign products are a tax on imports. If you tariff imports, you reduce the demand for imports which, in turn, reduces the need for proceeds from the sale of exports and thus reduces exports. Tariffs, therefore, reduce both imports and exports. The relation between exports and imports among countries is no different than the relationship between income and spending amongst individuals. Tax income and there will be less spending. Tax spending and there will be less income.

Privatisation

Rule number one is that the role of the government is to govern and not run a business. A comprehensive plan for wholesale privatisation of state-owned enterprises (SOEs) needs to be developed and, more importantly, implemented on an urgent basis. The massive losses incurred by these entities over the years have been a huge drain on Pakistan's fiscal solvency. Every few months, the government renews its claim that privatisation of loss-making SOEs is just around the corner, yet these entities continue to drain more than Rs800 billion from the exchequer every year. These losses calculated over a period of three years are more than the current IMF's Extended Fund Facility (EFF) and Resilience and Sustainability Facility (RSF) combined. There is much talk about how to move forward from stabilisation to economic growth. A plan is in the making in consultation with the Special Investment Facilitation Council (SIFC), the business community and the Ministry of Finance. A roadmap for such a plan was best presented by the SIFC national coordinator: reducing tax rates and cutting down the interest rate – a policy taken from the supply-side playbook. It is reported that the plan is considering reducing the corporate income tax from 29% to 25%, the maximum individual rate from 45% to 25%, abolishing 10% super tax, ending 15% inter-corporate dividend tax and cutting the sales tax from 18% to 15%.

If the plan genuinely is to succeed for a growth agenda, it is imperative that all tax cuts should be enacted in year one and not phased over a period of years. The logic behind this is that tax cuts phased over time delay private investments, savings and consumption. Another way to look at it is why would anybody shop a month before when there is a huge sale announced for the following month. Go figure! Now, we come to the elephant in the room. Will the IMF show any flexibility on this plan? The answer is a "big no"! The idea of tax cuts is anathema to the IMF. So, the question to ask is what to do about this dilemma? Wait till the end of EFF in 2027 or end it prematurely before the upcoming budget for 2026-27 in June 2026.

The writer is a philanthropist and an economist based in Belgium