What Can Still be Done-II
by
Shahid Kardar 
    The first part of this article may have indicated that we are fast running out of options. Indeed, there are no easy and quick solutions to the crisis. Some of the corrections that have become essential for sustainability are discussed below. However, before we proceed to examine these we need to recognise that in the 1970s and the 1980s higher rates of growth were possible because of investments in industry, remittances of overseas Pakistanis, the Afghan war and the drug trade. The growth rate has slowed down because of the huge cuts in development expenditure, the decline in domestic purchasing power because of persistent inflation, the smuggling-under the cover of Afghan transit trade, and the reduced availability of external funds after the SE Asian crisis. It will take time to restructure the economy, particularly the industrial sector, and put it on sounder footing. This will be particularly true if more of the investment has to be financed from domestic savings, especially after the sanctions, and there is a slowing-down of domestic consumption.

    a) Until now the taxation structure has relied heavily on import related taxes, and on excise duties, and sales and income taxes for mobilising revenues, howsoever poor the enforcement. The capacity of this structure to raise adequate resources to meet the operational expenditures of the State machinery has been severely affected by the IMF imposed tariff reform programme and by the slow down in industrial activity (which is there to stay for some time to come). Hence, the need to tax the hitherto untaxed, or lightly taxed, sectors of agriculture and services. Therefore, we need to put in place a structure that taxes incomes from all sources equally.

    b) Driven by conviction that lower tax rates would enhance compliance, the government substantially reduced the rates of personal and corporate income tax. However, its pious hope that income tax receipts would rise in response to the tax cuts was ill founded. The rich, predictably, did not respond to the amnesty incentives offered. The rural and urban rich are neither willing to share their prosperity with the reset of the nation, no matter how many incentives, concessions and fiscal bounties is showered upon them as direct and indirect compensations. Under the prevailing environment only fools, misguided patriots and the helpless (whose deductions are made at source-e.g. the salaried classes) pay taxes!

    ? To begin with, therefore, a timetable should be prepared for eliminating the curse of whitening bearer bonds.

    ? Concrete steps also need to be taken to ensure documentation of the economy. Therefore, other than the introduction of a broad-based General Sales Tax, it should be mandatory that all transactions of more than Rs.50,000 be through cheques.

    ? We will seriously have to consider raising the income tax rates (there is little justification for having the maximum rate of as low as 20%).

    ? These measures may have to be supplemented with instruments like demonetization of 500 and 1000 rupee notes and tax raids to net black incomes.

    c) Contrary to popular belief, high rates of return on government issued instruments do not necessarily increase savings rates. They merely influence a switching from one instrument to another, besides encouraging the outflow of capital from the formal financial sector. There is also little justification to, on the one-hand provide such high rates of risk free returns, and, on the other-hand, grant tax exemptions to the incomes derived from such investments. Therefore, a practical proposition for pruning the size of the deficit would be for the government to lower the yields on its securities and savings schemes and include them in the tax net.

    d) The only chance of some recovery on the industrial front and of getting the economy moving lies in cutting interest rates.

    e) To enhance the competitive ability of the industrial sector it should be provided raw materials and other inputs at international prices. This would require a rationalisation of import duties.

    f) The efficiency of industry should be improved through a credible exit policy; we should allow sick units to die instead of trying to devise revival packages.

    k) The rupee continues to be substantially overvalued. This situation is simply unsustainable if the competitiveness of our exports is not to suffer further. The overdue correction in the value of the rupee has to be supplemented with a major revamping of the system for assessing duty drawback formulas and for processing drawback claims on a timely basis.

    l) The government needs to ensure policy consistency and predictability, and, not to forget, the need to ensure law and order and security to life and property.

    m) There is 1 government servant for every 53 Pakistanis. Therefore, we should not abandon our efforts to ‘right size” government. Although the outcome of such a measure may not include large savings in financial terms (if, for political and social reasons, it is not possible to immediately dismiss personnel surplus to requirements), it would have symbolic significance and would also enhance the efficiency and effectiveness of government expenditures that would come from reducing both the size of government and the multiple layers of processing.

    Another benefit of cutting the size of government, by getting it to do fewer things, would be the reduced and more manageable team size to be led by the chief executive of the country.
 
    n) A problem far bigger than corruption is the lack of competence in the public sector. The most critical requirement for ensuring the adoption and implementation of good policies is the availability of high-quality human capital. Thus, there is a need to induct specialists in the key economic ministries and dispense with a system in which generalists can be called upon to man positions requiring professional expertise.

    o) We currently spend twice as much as Sri Lanka and India per student at the primary and secondary levels. Hence, the need to improve the efficiency in the social sectors through decentralisation and of public sector utilities through restructuring.

    p) There has to be greater transparency in defence expenditures. After the acquisition of nuclear capability, we need to review our defence strategy, the size of the standing army and the expenditure on conventional weapons.

    q) We need to establish independent institutions and procedures for conducting a thorough accountability.

    r) We need to improve the quality of leadership by reducing the incentive for public office. This objective can be achieved by:

    ? Further decontrolling and privatising the economy.

    ? Taking away discretionary powers to give tax concessions, etc.

    ? Ensuring and expanding the scope of provincial autonomy and by devolving administrative and financial powers to lower levels of government.

    ? Requiring that the income and wealth tax returns of parliamentarians, government secretaries, senior ranking officers of the armed forces and their families (including married daughters) should be public documents for the period during which they hold these positions and for 3 years thereafter.

    ? Passing the Freedom of Information Act.

    ? Making all key positions-e.g Auditor General, Attorney Generals, Chief Election Commissioner, Governor State Bank, Heads of radio and television, etc. subject to ratification by the Senate.

    s) Financial institutions still in the public sector should be privatised quickly- even if it means giving away some of them free (in a few months we may even have to give some money to the successful bidder!). For those in the private sector, efforts to strengthen their financial health through mergers and acquisitions should be encouraged.

    t) Capital is not a constraint if there is an educated labour force that can deploy this capital productively. The major constraint    to growth is the lack of human capital that can absorb technology and the experiences of other countries to help the nation leapfrog several stages of development. It is people that make the difference and not the assets that they are managing, since assets are only a means to an end. Whereas expanding good-quality general education will take time, islands of excellence can be created, where important skills in different disciplines can be developed so that the growth rate can be pushed up through the utilisation of this capital. To support such endeavours, all investments in and incomes from education should be exempted from taxation.

    u) A major error in the official analysis of the problem of external debt is that it views it essentially as a liquidity problem rather than a solvency problem. The external debt cannot be repaid, since there continues to be no improvement in the country’s capacity to finance its servicing. This error in the analysis of the problem has resulted in Islamabad continuing its attempts to find easy solutions to the shortage of liquidity actually arising from the perennial problem of the low domestic rate of savings- which, as pointed out earlier, is 5 to 6 percentage points lower than the, albeit poor, rate of investment.

    For economic survival, therefore, there has to be a solution to the massive costs of servicing the external debt. In the opinion of this writer, the only solution for us is a combination of debt relief and debt restructuring, such that the cost of debt servicing is not more than 10% of our export earnings, for say the next 5 to 7 years. Rather like a heroine addict, this patient hooked to aid can only be weaned off slowly from the drug. However, relief will only come if we sign CTBT, NPT and FMCT immediately.

    Some of the savings made from the reduction in the annual spending on debt servicing (both external and domestic) would have to be used for financing re-prioritised infrastructure related development programmes, focusing on the deprived areas, particularly in the smaller provinces, and for financing social safety nets for the less privileged segments of the population. A material proportion of the remaining savings would be earmarked for public sector investments in agriculture to enhance yields per acre, thereby checking the drain of foreign exchange taken up by imports of agricultural commodities, like wheat and edible oils. Investments in agriculture are also critical because it continues to be the mainstay of the economy and provides a livelihood for the majority of the population. It can also play a strong role in supporting small-scale industry and in checking rural-urban migration.
 
    The members of our ruling elite, based on their experience of first accessing credit on easy terms and then repeatedly getting their debts rescheduled from the domestic banking system, may just be labouring under the mistaken belief that the restructuring of the external debt will be an easy option. Unfortunately, the response of our creditors to such a request, especially with our poor record of meeting commitments, is going to be a rather harsh one. The political cost of inflicting the kind of perseverance and single-minded determination required to weather the storm we find ourselves in, especially the long postponed pain of reconstruction, will be massive. Nevertheless, there are no easy options left. Only the painful ones remain. It is also important that the pain of reform is distributed equitably, and not borne largely by the social classes that had no hand in the indulgence. There are tough times ahead. Unfortunately, however, there is little evidence to support the belief that the Pakistani ruling elite is aware of the gravity of the situation and has what it will take to steer the nation out of this mess.