Inflation in Pakistan is a combination of two things: politically-undermined governance structures and the lack of public confidence in the government’s ability to bring about a change. This has created a narrative that pushes the public towards losing its confidence in the economic future of the state.
The perception may not be accurate but it needs to be taken seriously as central banks around the world take inflation expectations as a precursor.
First, the governance structures are redundant and need adjustments to function optimally and enjoy confidence of the public.
Inflation is a symptom; the poorly-performing fiscal and governance structure is the disease; corruption is its syndrome. Now that the economy has slowed down to near stagnation, it is a double jeopardy, called stagflation, which may take years to stabilise (some say five years). Those at the helm of affairs want to control inflation as symptom, without addressing the other two factors.
If governance alone is adjusted structurally, the other two factors will automatically fall into place. That is what the IMF managing director, Kristalina Georgieva has said: “Pakistan needs to take steps to be able to function as a country and not to get into a dangerous place where its debt needs to be restructured (to avert default on sovereign debt liabilities). I want to stress that we are emphasising two things. Number one: tax those who are making good money, public sector, private sector they need to contribute to the economy. Two, to have a fairer distribution move subsidies only towards the people who really need those. It shouldn’t be that wealthy benefit from subsidies. There, the fund is clear. We want the poor people of Pakistan to be protected.”
We need to improve tax policy and tax administration simultaneously. The IMF has not asked the government to burden the poor. Instead, they want structural reforms to improve tax policy and make tax administration effective. The government, reluctant or afraid to push the vertical axis, has not shown compliance. Tax to GDP ratio which was about 13 percent some four decades ago has fallen below 9 percent.
Pakistan continues spending sprees beyond the revenue stream for the benefit of electable politicians and public servants. The gap is financed by loans, repayment of which is possible only by taking more loans. Had the Federal Bureau of Revenue been able to raise adequate taxes, there would be no need to tax the poor.
On electricity, investing in generation alone while transmission and distribution systems were not sufficient to carry the load was not sustainable.
Rising fuel and food prices in the international market have pushed inflation. The State Bank is using interest rate to curb it. This has resulted in slowing growth. Everyone is on a wait and see mode. Compounded by political uncertainty, this is eroding public confidence.
We need to improve tax policy and tax administration simultaneously. The IMF has not asked the government to burden the poor. Instead, they want structural reforms to improve tax policy and make tax administration effective.
Historian Yuval Noah Harari says that humans have a unique ability to create and believe in shared narratives, which he calls “inter-subjective realities.” These narratives, whether religious, political or cultural, help unify large populations by giving them a common purpose and identity. In 21 Lessons for the 21st Century, Harari discusses how the internet and social media have made it easier for groups to create and propagate their narratives, leading to increased polarisation and uncertainty. These narratives provide a framework for understanding the world and guide individuals’ actions and shared myths have been essential tools for humans to cooperate in large groups and build complex societies. Political uncertainty is inflaming the fire.
The situation has resulted in erosion of confidence in the future, followed by the flight of capital and brain drain. Pushing inflation by further weakening rupee against dollar, purely on sentiment.
Now, there is an indication that Gulf Countries, including Saudi Arabia, will invest in petrochemical industry, corporate farming and mining to the tune of $70 billion. We must remember that Greece was rescued by the European Union, only to save the Union from disintegration. Greece blamed the common currency, euro for its problems, as same currency valuation was draining productivity out of Greece to the rich member states, because of the difference in labour rates, putting a higher premium liability on its debt instruments, making development and living expensive. Greece is back to square one, as it did not do the painful structural adjustment reforms after that. Egypt is another case in point. The country was rescued by the Gulf states by providing cash to the tune of $60 billion, after the military takeover. Today, it is deep in trouble. Argentina is another country, where public immediately convert local currency into dollars after receiving every payment, to ward off the danger of value erosion. Dollar is the de facto currency there. The country has become a serial defaulter.
We must remember that investment in industry in lieu of purchasing assets might seriously impact long-term national income. However, the related rupee-dollar parity is linked to structural adjustment and continuation of economic policy and political dispensation. Pakistan cannot control inflation without structural and policy implementation transparently through administration measures. Meanwhile, public at the lower rung of the social ladder can be given relief by targeted subsidies, through the BISP.
If Pakistan fails this time, the IMF might link further disbursement with a huge slashing of labour force in the public sector. That might trigger civil unrest.
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