The debt debate

An exhaustive article written by Federal Finance Minister Ishaq Dar appeared in various national dailies last week. Through this article, he tried to explain the primary contours of country’s public debt profile as well as incumbent government’s public debt management strategy in general. He severely criticised some economic analysts in the country for always predicting a doomsday scenario by “misinterpreting the facts and figures of extremely important indicators”. He also maintained that the government had succeeded in making the public debt portfolio more sustainable through its Medium Term Debt Management Strategy (MTDS) and strict finical discipline. So he himself chose to paint a typical all-is-well picture when it comes to describing the general public debt profile of Pakistan.

Carefully reading Finance Minister’s article, once can easily infer that the incumbent government is currently adhering to a sort of two-prong ‘public debt management strategy’ to improve country’s risk profile vis-à-vis both domestic and external debt. In the first place, the government is focusing on extending the average time to maturity of domestic debt after reducing the refinancing risk of various government investment bonds and treasury bills in the country. Secondly, the government is also endeavouring to improve country’s external liquidity by increasing the FX reserves to efficiently manage its external debt. Apparently these measures have somehow reduced the default risks of Pakistan domestically and internationally. However, at the same time, they will hardly help reduce the volume of accumulated public debt in real terms.

It is quite worrisome that Pakistan’s accumulated public debt has simply doubled during the last decade. Admittedly, the external public debt has been growing at the rate of 6.3% annually during the last three years. The current Rs20 trillion gross public debt figure has observably surpassed the statutory limit set by Fiscal Responsibility and Debt Limitation Act, 2005. This Act required the federal government to let the public debt not cross the 60% of the GDP threshold in any case. However, now the incumbent government has somehow managed to recertify this legal anomaly by simply extending the original deadline until the year 2018 through an amendment in the said Act.

Pakistan’s public debt profile cannot be properly evaluated in terms of typical debt-to-GDP ratio alone. In fact, there are a number of macro-economic factors in the country that must also be taken into consideration while analysing this complex phenomenon. These factors essentially determine its very economic capacity to efficiently manage its public debt portfolio. To begin with, the net revenues primarily define government’s ability to fulfill its basic obligations towards the public debt, ranging from debt serving to debt repayment and retirement. Just like any other country in the world, taxes are the primary source of revenue for the government in Pakistan. Therefore, the tax-to-GDP ratio is very well relevant to Pakistan’s public debt profile.

To precisely elaborate this point, let us consider a case of two countries-UK and Pakistan. Presently the macro-economic indicators of both countries are entirely different. UK and Pakistan have the debt-to-GDP ratio of approx. 84% and 65% respectively. On the other hand, the tax-to-GDP ratio in UK and Pakistan are approx. 34% and 10% respectively. So the UK is three times more competitive and efficient to manage its public debt portfolio than Pakistan. In fact, Pakistan is one of those countries in the world which have the lowest tax-to-GDP ratio. Therefore, Pakistan, with its current net federal revenues, cannot afford to let its public debt cross the 40% of its GDP threshold.

Fiscal deficit is the next important macro-economic factor, which is very well relevant to Pakistan’s current public debt profile. This single factor is also primarily responsible for a surge in its accumulated public debt. Among other things, a heavy debt-servicing cost is one of the major reasons behind the current large fiscal deficit in Pakistan. Consequently, the federal government mostly needs more public borrowing for the deficit-financing. Thus Pakistan has eventually caught in an economic vicious circle.

Compared to many other developing and developed countries in the world, Pakistan has a large fiscal deficit. In the proposed budget for FY 2016-17, the fiscal deficit has been projected at 4.3% of the GDP. This Rs1.3 trillion fiscal deficit is more than one-fourth of the total budget outlay, which is quite alarming. The incumbent government also boasts about reducing the fiscal deficit form 8.2% to 4.6% of GDP in three years through some structural reforms and remedial measures. However, last year, the federal government sought parliament’s ex post facto approval for an Rs261 billion supplementary budget to cover the extra governmental expenditure of the outgoing financial year. This fact simply speaks volumes about the ‘strict fiscal discipline’ on the part of incumbent government.

Pakistan’s dismal economic growth is another relevant factor. Its current low GDP growth rate is further aggravating things when it comes to efficiently managing its public debt portfolio. The government has projected the target of GDP growth rate at 5.7% during the current fiscal year. It is very pertinent to mention that last year’s 5.5% GDP growth rate target has already been missed. So, this year, the government it is also unlikely to achieve this fiscal target due to multiple reasons. The misplaced economic priorities, lack of economic vision, lack of resolution, administrative mismanagement, volatile internal security situation, public sector corruption and crippling energy crisis are the major hurdles in the way of achieving high economic growth rate in Pakistan. At present, the CPEC project and its accompanying foreign investment is the only silver lining in Pakistan’s dismal state of economy.

In his article, the Finance Minister essentially recognized the ‘inevitability’ of fiscal deficit for a developing country like Pakistan since it essentially stimulates economic growth to enhance job creation and reduce poverty in the country. Undeniably, the Keynesian economists generally favour to adopt the typical expansionary macroeconomic policies in order to stimulate growth by increasing government spending and decreasing taxes. So these policies ultimately make any country to experience fiscal deficit. Moreover, the Keynesian economists also believe that government’s infrastructural expenditures have a multiplier effect on the economy. In the Federal Budget 2016-17, Rs800 billion were earmarked for the Public Sector Development Programme (PSDP) against the Rs3.8 trillion non-development expenditure including the debt servicing, defence, civil administration etc. Obviously the Rs1.3 trillion fiscal deficit is largely due to government’s non-development expenditure. So how can the government justify this large fiscal deficit in the Keynesian perspective? And how can the non-productive government expenditure stimulate economic growth in Pakistan?

At present, the aforementioned macro-economic factors are significantly impairing the very financial capacity of Pakistan to efficiently manage its public debt portfolio. Therefore, without seriously addressing these primary economic woes, Pakistan can’t strive economically. In order to break the current economic vicious circle, Pakistan certainly needs to reach an ‘escape velocity’. It needs to carefully set some short and long term promising but pragmatic fiscal targets. At this stage, a sustainable 7-8% GDP growth rate and up-to 15% tax-to-GDP ratio will certainly help Pakistan overcome its most pressing problem of fiscal deficit. Having successfully achieved these fiscal targets, Pakistan can easily manage to contain its accumulated public debt below the 50% of its GDP threshold.

Instead of naively treating the symptoms, our economic managers should try to cure the economy of its chronic maladies. For this purpose, they should focus on improving the general state of the economy through prudential fiscal regulation and structural reforms, rather than managing it on an ad-hoc basis. Therefore, Pakistan seriously needs to improve its economic fundamentals as the all-is-well mantra and statistical gimmickry can by no means help substantially improve its public debt profile.

The writer is a lawyer. He can be contacted at mohsinraza.malik@ymail.com. Follow him on Twitter

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