Islamabad  - The Asian Development Bank (ADB) on Tuesday warned of increase in inflation rate in Pakistan as a result of further adjustments to electric and gas tariffs, as well as a levy to support gas infrastructure development in the upcoming months.

The ADB also cautioned about hike in inflation rate in the months to come mainly due to the commitments made with International Monetary Fund for $6.4 billion extended fund facility, like adjustments to electric and gas tariffs, and a levy to support gas infrastructure development.

The ADB projected that inflation rate would be nine percent during ongoing financial year 2013-2014, which would be marginally increase next year to 9.2 percent.

 The Bank noted that inflation averaged at 8.6 percent during eight months (July-February) of the current fiscal year (FY2014) reflecting the increase in the general sales tax rate by 1 percentage point to 17%, increases in power tariffs in August and October 2013 for commercial and bulk residential and industrial users, and significant currency depreciation against the major currencies.

According to the ADB’s Outlook 2014, Macroeconomic and security challenges continue to weigh on the economy. Growth is expected to remain modest in FY14, largely reflecting fiscal consolidation to deal with high deficits that have caused macroeconomic imbalances.

The Asian Development Bank has projected Pakistan’s economic growth at 3.4 percent, slighter higher than estimation of IMF of 3.1 percent for the FY14. GDP growth is expected to be higher in FY2015, at 3.9pc, as the impact of fiscal consolidation eases somewhat, energy supplies improve, and the global economy strengthens.

However, the Bank forecasted that agricultural sector is expected to be weaker due to a drop in cotton output, which partly offset the improvement in sugarcane and rice crops. Ongoing rains, however may benefit the upcoming wheat crop, despite a reduction in the sowing area this year. However, the weak agriculture will be partly compensated by the pickup in large-scale manufacturing, which grew by 6.7pc during the first six months (July-December) of FY2014, three times the rate during the same period a year earlier. Larger and more reliable power supply, partly reflecting better controls on unscheduled load shedding, as well as increasing use of alternative fuels is helping to revive the production of food, fertilizers, chemicals, electronics, and leather products, while petroleum refinery output continued its robust growth.

According to the report, monetary policy was tightened in response to a depreciating currency and rising inflation during the first half of the FY2014. The State Bank of Pakistan (SBP) raised the policy interest rate by 50 basis points in September 2013 and again in November, bringing it up to 10pc from 9pc in FY2013. While inflation eased in January 2014, the SBP kept the policy rate unchanged in its monetary policy meeting that month.

During 1 July 2013 to 21 February 2014, government borrowing from the SBP increased to Rs890 billion, against net retirement of Rs184 billion to commercial banks. Credit to the private sector picked up to Rs280 billion during this period from Rs107 billion a year earlier, largely reflecting credit to private businesses.

Meanwhile, the government has to control budget deficit at 5.8 percent of the GDP under the 3-year extended fund facility agreed in September 2013 with the IMF.

The fiscal deficit was contained at 2.1pc of GDP during the first half of the FY2014 mainly by higher sales tax and non-tax revenues from CSF receipts ($322 million), as well as by containing expenditure. The increase in tax revenues partly reflects measures already taken under the federal budget for FY2014, including raising the general sales tax rate and eliminating some tax exemptions. Tax collection of Rs1.031 trillion during first 6 months is broadly consistent with the fiscal framework target of Rs2.3 trillion for FY2014.

Consolidated expenditure for the first half of FY2014 was contained partly by reduced interest payments following the earlier clearance of accumulated power sector arrears-the circular debt. Interest payments are likely to be high in second half of FY2014 as domestic borrowing finances the deficit. In addition, the risk of a rebuild of circular debt in FY2014 remains high. Public sector development spending was subdued (Rs243 billion) in the first 6 months of FY2014 and is likely to remain so to contain the budget deficit due to high current expenditures. This will have negative implications for long-term investment and growth.

Regarding GSP plus status, the ADB stated that textiles are expected to recover from existing weak growth as they benefit from Generalized Scheme of Preferences Plus status granted by the European Union from January 2014. Meanwhile, performance in transport and communication will, however, continue to be affected by financial losses incurred by Pakistan Railways and Pakistan International Airlines.

On the demand side, the Bank estimated that private consumption would remain the main driver of economic growth, supported by the sustained inflow of remittances, low real interest rates, and better credit availability at banks. Government spending will be contained by fiscal consolidation to bring down the budget deficit, but accelerated credit flows to the private sector during the first seven months of FY2014 indicate an uptick in private investment.

According to ADB report, the federal government would need fiscal discipline from the provincial governments to restrict budget deficit. Provinces would have to generate surplus budget of Rs 23 billion during FY2014. A slower-than-expected progress towards the issuance of 3G spectrum licences and issues around pending proceeds from telecom privatisation, raise concerns over whether these receipts will be realised during FY2014. The delays in expected CSF receipts ($878 million) could also be a challenge for the fiscal target.

The report stated that deficits in trade and services accounts worsened with revived imports and delays in CSF receipts, widening the current account deficit during the first seven months (July to January) of FY2014 to $2.1 billion. Imports grew by 4.2pc, compared with negligible growth in the corresponding period a year earlier. Export growth also picked up to 3.3pc in the first seven months of the fiscal year, stimulated by 8pc growth in textile exports. With worker remittances showing a 10.1pc increase in the first seven months of FY2014, the current account deficit is projected at 1.4pc of GDP. The current account deficit for FY2015 is forecast to be marginally lower at 1.3pc of GDP.

Key risks emanate from low official foreign exchange reserves as weak official inflows and high debt repayments outweighed IMF disbursement during the first half of FY2014. Gross official reserves having plunged from $6.0 billion at the end of June 2013 to $3.1 billion in January 2014, equal to less than 1 month of imports, resurged to $3.9 billion at end February reflecting foreign inflows during this month. The Pakistani rupee, as a result appreciated to Rs100.3/$, following a 6.5pc depreciation during the first 7 months of FY2014.

The report also highlighted the challenges faced by Pakistan including achieving fiscal sustainability with the persistent need to finance expanding energy sector subsidies, growing losses incurred by state-owned enterprises, and high expenditures for security.

Foreign debt fell by 4.6pc of GDP in FY2013, mainly as IMF debt was repaid. Total public debt (including external liabilities) at the end of FY2013 amounted to 63.3pc of GDP, exceeding the legal limit of 60pc set under the Fiscal Responsibility Debt Limitation Act, 2005.