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Opinion
Costly economic fault lines
Dr Muhammad Yaqub
Friday, October 10, 2014
By May 2013, when the PML-N government assumed office, Pakistan’s economic problems had multiplied and become very complex due to the mismanagement of the economy over a long time. The country’s growth rate had declined sharply, investment and saving rates were at their lowest levels, inflation was in double digits, the budget deficit was out of control, debt burden had become large and the country was faced with the potential of external debt default.
The PML-N leadership made promises during the elections to set the economy on the right path creating some hope that a break from the economic policies of the previous government would be forthcoming if the PML-N came to power. From a national viewpoint, the sound approach would have been to move on a politically difficult path of upfront economic policy reforms to improve the fundamentals of the economy on a durable basis. Under this choice, the government could face short-term political problems from interest groups that were benefitting from the status quo and were to be adversely affected by policy reforms. But in the long run, it would have served both national and political interests of the PML-N.
However, and based on a reading of the past history of the PML-N, there was a lingering fear that in spite of its election-time promises it could adopt the politically easy approach of economic patchwork as was done by the previous government. That is what it precisely did – and unfortunately, the IMF facilitated its movement in that direction.
Being stuck with a large outstanding debt of Pakistan, the IMF made a self-serving decision of quickly entering into an agreement with the PML-N government for a new financial programme based on whatever policies the government was willing to adopt, rather than insisting on needed policy reforms to put the economy on the right path. Thus, a meaningless policy programme based on fudged data and unrealistic targets, and virtually with no structural policy reforms in it, was adopted in a hurry to serve as a basis of an EFF arrangement with the PML-N government for a period of three years. It enabled the government to beg and borrow from abroad and pay back to the IMF the bulk of its outstanding debt and additionally build some foreign exchange reserves of the State Bank of Pakistan.
With the patchwork in place, the government also began to make tall claims that the economy was on its way to recovery, that there was a decline in the recorded rate of inflation and an improvement in the budgetary position of the government and foreign exchange reserve position of the SBP.
An ordinary person was not privy to the fact that official growth and inflation data were distorted to make them look good and the budget deficit was showing a decline due to accounting trickery. In addition to changing the concept and coverage of budget deficit, foreign grants and privatisation proceeds were recorded as if they were regular revenue receipts to show a lower budget deficit with the underlying trends in the structure of public finances showing no improvement.
In fact, the fundamentals of the economy continued to deteriorate. The rates of investment and domestic savings declined further. There was no improvement in the tax-to-GDP ratio and inflationary pressures were built up further with excessive government borrowing from the banking system. Private sector economic activity continued to be chocked by loadshedding and crowding out of the private sector from the credit market by the government. And there was a widening of the trade and current account deficits.
The lack of progress in addressing the underlying imbalances was accompanied by many institutional and political decisions to concentrate the policy-making authority exclusively in the hands of the finance minister, who assumed the role of an economic czar and began to make policy decisions on the basis of his personal hunches and political instincts rather than on solid economic analysis. He would brush aside contrasting views coming from anywhere with a certain amount of disdain and arrogance. Some independent economists who pointed out the errors in his data, analysis and policies were publically reprimanded.
The Planning Commission was sidelined from daily economic policy decisions and the SBP was handed over to incompetent persons who acted as yes-men to the finance minister rather than being able and willing to give him sound professional advice even if it was contrary to the minister’s views.
The Federal Bureau of Revenue was de facto degraded into an attached department of the Ministry of Finance to meet revenue targets by hook or by crook rather than to work on fiscal policy reforms. The Bureau of Statistics was pressurised to produce production and price statistics to suit the government’s political preferences.
The provincial governments were forced to generate surpluses in their budgets by depriving the health and education sectors of the needed resources. It was intended to offset the large imbalance in the federal government fiscal operations to meet the consolidated budget deficit target agreed with the IMF.
No progress was made in reducing the financial haemorrhage of loss-making public sector enterprises. Privatisation of profitable assets was used to generate proceeds for budget financing rather than as an instrument of improvement of efficiency and reduction in the financial loss of the government.
Moreover, input began to be sought from those businessmen who had a conflict of interest and absentee landlords who were living lavishly in posh areas of large cities on tax-free agricultural income. Several opportunists from among them were inducted in various economic advisory groups, policy committees and panels and in executive positions in public sector enterprises knowing very well that some of them were tax-dodgers, loan defaulters, and underground operators and rent seekers, and were interested in preserving the status quo of the existing policy framework that benefited them.
In such a suffocating environment, in which decisions were made by one or two individuals and were not based on institutional research and input or advice by experts who had no conflict of interest, there was little chance of developing and implementing sound economic policies.
With the passage of time, it became obvious that the PML-N government was not serious about tackling the fundamental problems of the economy. Its obsession with launching mega prestige projects and the tilt in its policies in favour of the ruling elite raised some serious questions about the economic priorities of the PML-N government.
The above fault lines in economic management by the PML-N government have been recently overshadowed by disruptions created by the sit-ins of the PTI and the PAT, the devastating rains and floods and increased defence expenditure on Operation Zarb-e-Azb.
Taking advantage of these developments, the government is trying to shift the blame for its poor economic performance to the floods and sit-ins. While floods and sit-ins have had their economic repercussions, it would be wrong to suggest that in the absence of these events the economy could have done much better under the economic policies pursued by the PML-N government.
If the PML-N government is serious about improving the poor state of the economy and ameliorating the economic sufferings of the majority, the most important change it should bring about in its economic management is to institutionalise the economic decision-making process. There is a need to develop macroeconomic policies carefully and with full awareness of their inter-links and impact, as well as ensuring their internal consistency.
This can be done only by a professionally solid and cohesive economic management team. It is equally important that vital economic institutions like the SBP are manned by competent people who provide solid input in the process of policy formulation. Economic decisions made by one or two political leaders based on their whims and personal prejudices and preferences will prove very costly – economically for the country and politically for the PML-N government.
The writer is a former governor of the State Bank of Pakistan.
Email: doctoryaqub@hotmail.com
Costly economic fault lines
Dr Muhammad Yaqub
Friday, October 10, 2014
By May 2013, when the PML-N government assumed office, Pakistan’s economic problems had multiplied and become very complex due to the mismanagement of the economy over a long time. The country’s growth rate had declined sharply, investment and saving rates were at their lowest levels, inflation was in double digits, the budget deficit was out of control, debt burden had become large and the country was faced with the potential of external debt default.
The PML-N leadership made promises during the elections to set the economy on the right path creating some hope that a break from the economic policies of the previous government would be forthcoming if the PML-N came to power. From a national viewpoint, the sound approach would have been to move on a politically difficult path of upfront economic policy reforms to improve the fundamentals of the economy on a durable basis. Under this choice, the government could face short-term political problems from interest groups that were benefitting from the status quo and were to be adversely affected by policy reforms. But in the long run, it would have served both national and political interests of the PML-N.
However, and based on a reading of the past history of the PML-N, there was a lingering fear that in spite of its election-time promises it could adopt the politically easy approach of economic patchwork as was done by the previous government. That is what it precisely did – and unfortunately, the IMF facilitated its movement in that direction.
Being stuck with a large outstanding debt of Pakistan, the IMF made a self-serving decision of quickly entering into an agreement with the PML-N government for a new financial programme based on whatever policies the government was willing to adopt, rather than insisting on needed policy reforms to put the economy on the right path. Thus, a meaningless policy programme based on fudged data and unrealistic targets, and virtually with no structural policy reforms in it, was adopted in a hurry to serve as a basis of an EFF arrangement with the PML-N government for a period of three years. It enabled the government to beg and borrow from abroad and pay back to the IMF the bulk of its outstanding debt and additionally build some foreign exchange reserves of the State Bank of Pakistan.
With the patchwork in place, the government also began to make tall claims that the economy was on its way to recovery, that there was a decline in the recorded rate of inflation and an improvement in the budgetary position of the government and foreign exchange reserve position of the SBP.
An ordinary person was not privy to the fact that official growth and inflation data were distorted to make them look good and the budget deficit was showing a decline due to accounting trickery. In addition to changing the concept and coverage of budget deficit, foreign grants and privatisation proceeds were recorded as if they were regular revenue receipts to show a lower budget deficit with the underlying trends in the structure of public finances showing no improvement.
In fact, the fundamentals of the economy continued to deteriorate. The rates of investment and domestic savings declined further. There was no improvement in the tax-to-GDP ratio and inflationary pressures were built up further with excessive government borrowing from the banking system. Private sector economic activity continued to be chocked by loadshedding and crowding out of the private sector from the credit market by the government. And there was a widening of the trade and current account deficits.
The lack of progress in addressing the underlying imbalances was accompanied by many institutional and political decisions to concentrate the policy-making authority exclusively in the hands of the finance minister, who assumed the role of an economic czar and began to make policy decisions on the basis of his personal hunches and political instincts rather than on solid economic analysis. He would brush aside contrasting views coming from anywhere with a certain amount of disdain and arrogance. Some independent economists who pointed out the errors in his data, analysis and policies were publically reprimanded.
The Planning Commission was sidelined from daily economic policy decisions and the SBP was handed over to incompetent persons who acted as yes-men to the finance minister rather than being able and willing to give him sound professional advice even if it was contrary to the minister’s views.
The Federal Bureau of Revenue was de facto degraded into an attached department of the Ministry of Finance to meet revenue targets by hook or by crook rather than to work on fiscal policy reforms. The Bureau of Statistics was pressurised to produce production and price statistics to suit the government’s political preferences.
The provincial governments were forced to generate surpluses in their budgets by depriving the health and education sectors of the needed resources. It was intended to offset the large imbalance in the federal government fiscal operations to meet the consolidated budget deficit target agreed with the IMF.
No progress was made in reducing the financial haemorrhage of loss-making public sector enterprises. Privatisation of profitable assets was used to generate proceeds for budget financing rather than as an instrument of improvement of efficiency and reduction in the financial loss of the government.
Moreover, input began to be sought from those businessmen who had a conflict of interest and absentee landlords who were living lavishly in posh areas of large cities on tax-free agricultural income. Several opportunists from among them were inducted in various economic advisory groups, policy committees and panels and in executive positions in public sector enterprises knowing very well that some of them were tax-dodgers, loan defaulters, and underground operators and rent seekers, and were interested in preserving the status quo of the existing policy framework that benefited them.
In such a suffocating environment, in which decisions were made by one or two individuals and were not based on institutional research and input or advice by experts who had no conflict of interest, there was little chance of developing and implementing sound economic policies.
With the passage of time, it became obvious that the PML-N government was not serious about tackling the fundamental problems of the economy. Its obsession with launching mega prestige projects and the tilt in its policies in favour of the ruling elite raised some serious questions about the economic priorities of the PML-N government.
The above fault lines in economic management by the PML-N government have been recently overshadowed by disruptions created by the sit-ins of the PTI and the PAT, the devastating rains and floods and increased defence expenditure on Operation Zarb-e-Azb.
Taking advantage of these developments, the government is trying to shift the blame for its poor economic performance to the floods and sit-ins. While floods and sit-ins have had their economic repercussions, it would be wrong to suggest that in the absence of these events the economy could have done much better under the economic policies pursued by the PML-N government.
If the PML-N government is serious about improving the poor state of the economy and ameliorating the economic sufferings of the majority, the most important change it should bring about in its economic management is to institutionalise the economic decision-making process. There is a need to develop macroeconomic policies carefully and with full awareness of their inter-links and impact, as well as ensuring their internal consistency.
This can be done only by a professionally solid and cohesive economic management team. It is equally important that vital economic institutions like the SBP are manned by competent people who provide solid input in the process of policy formulation. Economic decisions made by one or two political leaders based on their whims and personal prejudices and preferences will prove very costly – economically for the country and politically for the PML-N government.
The writer is a former governor of the State Bank of Pakistan.
Email: doctoryaqub@hotmail.com
