Thursday, December 04, 2008
ISLAMABAD: The government will have to increase average base power tariff within months as per the schedule to be agreed with World Bank by end of December to eliminate electricity tariff differential subsidies by June 30, 2009.
It was revealed in the Letter of Intent, Memorandum on Economic and Financial Policies (MEFP) and Technical Memorandum of Understanding (TMU) agreed with International Monetary Fund for 23-month $7.6 billion bailout program.
The program will be subject to quarterly reviews and quarterly performance criteria as set out in TMU.
Completion of the first two reviews scheduled for end-March 2009 and end-June 2009 will require observance of the quantitative performance criteria for end-December 2008 and end-March 2009
The government has implemented increase in power tariff by 18 percent from September 5, 2008 to this effect. However, authorities concerned are in agreement with the Fund to further increase tariff to waive electricity tariff differential subsidies by end of on going fiscal.
During 2008-09, the government has fixed tariff differential subsidy of Rs77 billion {Rs65 billion for Ex-Wapda power distribution companies, Rs12 billion for KESC}. In next fiscal, under the agreement with the Fund, government will extend zero subsidies in power sector.
This means that power tariff will gradually sky rocket in the remaining months till June 30, 2009 and after that.
The implementation of the electricity tariff increases will be followed up in the context of the program reviews. On the revenue side, further steps will be taken during the remainder of the fiscal year to strengthen tax enforcement. Moreover, fuel prices will continue to be adjusted to pass through changes in international prices.
The agreement posted by The Washington based lender in its websites also divulges Central Bank of Pakistan will raise discount rates more if the actual reserves for end-November and end-December 2008 fall short of the program monthly floors on the SBPs net foreign assets.
A further increase in the discount rate will be considered at the time of the monetary policy statement scheduled for end-January 2009.
In close collaboration with the World Bank, the government will develop a strategy and a time-bound action plan, by end-March 2009, for the adoption of specific measures to strengthen the social safety net and improve targeting to the poor.
The government will prepare a plan for eliminating the inter-corporate circular debt by end-March 2009. The transition to a single treasury account will be completed by end-June 2009.
The legal provisions relating to the operational independence of the SBP will be reviewed. These provisions will be strengthened based on the recommendations of an interagency committee that will be established by mid-November 2008, and taking into account technical recommendations from the IMF. The second program review will focus on specific details regarding required legislative changes in this area.
However, the agreement mentions no cut on defense expenditures and levy of income tax on agriculture sector meaning. It means that the government will not be bound to bring agriculture sector under the tax net to achieve the revised revenue target up to Rs1.360 trillion set for ongoing fiscal.
Under the agreement, the central bank SBP is committed to pursuing a flexible exchange rate policy. This means that central bank will not provide foreign exchange for the imports of oil products to make foreign reserves intact.
To achieve the target, SBP will not intervene in the open market and would also phase out the provision of foreign exchange for oil import during the period ranges from February 1, 2009 to Feb 1, 2010. The Central Bank promises IMF that it would erase facility of providing foreign exchange for import of furnace oil by February 1, 2009, diesel and other refined products by August 1, 2009 and crude oil by February 1, 2010.
The government under the agreement will prepare, by end-March 2009, a plan for eliminating the inter-corporate circular debt within the fiscal deficit target. The plan will clearly identify all elements of circular debt, including (i) the identification of all debts owed and due among the corporations, duly reconciled; (ii) the determination of the validity of the claims; (iii) a schedule by which respective entities will discharge their liabilities to each other; and (iv) a timeframe during which the Federal Adjuster will use his powers to make adjustments, in case of failure, to adhere to the approved schedule.
The Fund has fixed fiscal deficit target of 4.2 percent for ongoing fiscal 2008-09 and 3.3 percent for next fiscal 2009-10. The Fund says that the targeted reduction in the fiscal deficit in 2008/09 will help eliminate SBP financing of the budget. The fiscal effort will be facilitated by the full-year effect of the elimination of energy subsidies by end-2008/09 and declining interest payments, following large bullet payments in the three-year period ending in 2009-10.
Under the accord with IMF, the government will limit SBP financing of the budget to zero on a cumulative basis during October 1, 2008-June 30, 2009. It means that the government will zero the loan borrowing from the central bank during Oct 1, 2008 to June 30, 2009. During this period, the fiscal deficit will be fully financed by available external disbursements (which have already been committed), the acceleration of the privatization process, the issuance of treasury bills, and other domestic financing instruments, including Pakistan Investment Bonds, Ijara Sukuk, and National Savings Scheme (NSS) instruments.
An integrated tax administration organization on a functional basis will be established at the Federal Board of Revenue (FBR) (integrating both the income tax and sales tax administration). In addition, audits will be reintroduced as part of a risk-based audit strategy that will be implemented by end-December 2008. A full description of the required reforms, together with an action plan will be provided to the IMF by end-December 2008.
The government will submit legislative amendments to parliament by end-June 2009. In addition, the excises on tobacco will be increased in the context of the 2009-10 budget. The government will initiate a process to implement a full VAT (value added tax) with minimal exemptions, to be administered by the FBR. Draft legislation for the VAT is expected to be ready for public debate by end-2009. The first program review will focus on the progress in developing the governments tax reform agenda.
The governments fiscal consolidation efforts will continue over the medium
term. The governments fiscal framework assumes a further reduction in the fiscal deficit to 2-21/2 percent of GDP by 2012-13. Fiscal consolidation will be supported by a strong tax effort, which will allow for higher spending in infrastructure and the social sectors.
The government is under the accord to increase tax revenue by at least 3.5 percentage points of GDP over the medium term as a result of measures to broaden the GST base, significantly reduce income tax exemptions, and further improve tax enforcement.
If the government manages to implement the agreement in true spirit the Fund paints rosy future of Pakistan economic landscape. It projected the real GDP growth would increase to 5 percent in 2009-10, which is projected to rise gradually to 6.5-7 percent a year by 2012-13, based on a significant increase in investment and further progress in structural reforms.
However, average inflation is targeted to decline to 13 percent in 2009-10, and to 5 percent by 2012-13. Prudent demand management policies would contribute to a gradual decline in the external current account deficit to 5.7 percent of GDP in 2009/10, and further to 3.6 percent of GDP by 2012-13. This, along with the expected pickup in capital inflows, would help increase gross international reserves to $14.5 billion (2.6 months of projected imports) by 2012/13, while reducing the external debt to 29 percent of GDP. The external financing gap for 2009-10, which is projected at $3.6 billion, will be covered by disbursements from the IMF and GDR (global depository receipts) proceeds. External financing gaps will be fully eliminated by the end of the SBA.
As a result of these policies during the ongoing fiscal, the 12-month inflation rate is projected to decline to 20 percent at end-June 2009, even after taking into account the impact of significant increases in administered energy prices. Real GDP growth would slow further to 3-3.5 percent in 2008/09 in response to the tightening of macroeconomic policies and a deceleration of growth in Pakistans trading partners.
The conduct of monetary policy will be facilitated by significant improvements in liquidity management, including by improving the forecasting of the governments cash flow position. As part of these efforts, the SBP and the Ministry of Finance have agreed on quarterly volumes of Treasury bill placements consistent with zero SBP financing of the budget during October 1, 2008-June 30, 2009. The SBP has issued an auction calendar for November-December 2008 on November 1st, 2008, and in the future will issue a calendar every quarter one month in advance. In addition, the SBP will review the current procedures for liquidity management, and will adopt and publicize a transparent liquidity management framework by end-July 2009 as part of its Monetary Policy Statement.
State bank of Pakistan will eliminate the exchange restriction on advance import payments against letters of credit will be eliminated by end-January 2010, subject to a marked improvement in the balance of payments position. No intensification of existing restrictions and no new exchange restrictions or multiple currency practices will be introduced during the program period.
The SBP will prepare a contingency plan to deal with problem private banks by end-December 2008. The plan will contain criteria for SBP liquidity support, assessment of bank problems, and intervention procedures. The SBP has already dealt with problem banks through mergers. Looking ahead, if there are severe strains in the interbank market and interbank lending guarantees appear necessary, these guarantees will be provided in limited amounts only to solvent banks.
For the purposes of monitoring under the program, all assets and liabilities as well as debt contracted, denominated in SDRs or in currencies other than the U.S. dollar, will be converted into U.S. dollars at the exchange rates prevailing at test dates, as posted by the State Bank of Pakistan (SBP) on its web site.
Net external budget financing and external cash grants will be converted into Pakistani rupees at the exchange rates prevailing at the day of the transaction, as posted by the SBP on its web site, unless otherwise indicated.
