File photo of the World Bank Headquarters. Tim Sloan—AFP
The World Bank on Tuesday projected Pakistan’s GDP growth to recover to 1.7 percent in the ongoing fiscal year, while warning that the country’s economy will remain vulnerable to domestic and external shocks unless it undertakes sharp fiscal adjustment and broad-based reforms.
The projected GDP growth, read the World Bank’s Pakistan Development Update: Restoring Fiscal Sustainability report, was predicated on robust implementation of the IMF Stand-By Arrangement, new external financing and continued fiscal restraint. The growth forecast is slightly lower than the 2% forecast by the World Bank in June, and less than half the 3.5% target set by the government.
Referring to the previous fiscal year’s GDP growth of 0.6%, it said this was the result of various domestic and external shocks, including last year’s floods, government restrictions on imports and capital flows, domestic political uncertainty, surging world commodity prices, and tighter global financing.
These factors, it said, had significantly increased poverty to 39.4% of the national population in the last fiscal year, with 12.5 million more Pakistanis falling below the Lower-Middle Income Country poverty threshold. “Careful economic management and deep structural reforms will be required to ensure macroeconomic stability and growth,” said Najy Benhassine, World Bank Country Director for Pakistan. “With inflation at record highs, rising electricity prices, severe climate shocks, and insufficient public resources to finance human development investments and climate adaptation, it is imperative that critical reforms are undertaken to build the fiscal space and public means to invest into inclusive, sustainable, and climate-resilient development,” he added.
If Pakistan failed to implement broad-based reforms, the report warned, the country’s economy would remain vulnerable to domestic and external shocks. It further noted that recent easing of import restrictions would boost the current account deficit in the near term, while weaker currency and higher domestic energy prices would maintain inflationary pressures. Additionally, it said, while the primary deficit was expected to narrow as fiscal consolidation takes hold, the overall fiscal deficit would decline only marginally due to substantially higher interest payments.
“These macroeconomic challenges can be addressed through comprehensive fiscal reforms of tax policy, rationalization of public expenditure, better management of public debt, and stronger inter-government coordination on fiscal issues. The deepening of reform efforts to regain fiscal and debt sustainability are imperative for a longer-term recovery,” said Aroub Farooq, an economist at the World Bank who authored the report.
The report has suggested Islamabad drastically reduce tax exemptions and broaden the tax base through higher taxes on agriculture, property and retailers to boost recovery. It has also proposed improving the quality of public expenditure by reducing distortive subsidies, improving the financial viability of the energy sector, and increasing private participation in state-owned enterprises. Similarly, it has advised strengthening management of public debt through better institutions and systems, and by developing a domestic debt market.
The World Bank has proposed a fiscal consolidation plan aimed at saving around Rs. 1.124 trillion through reforms for fiscal expenditure rationalization; Rs. 862 billion fiscal space through reforms in reducing debt servicing cost and state-owned enterprises’ control; and about Rs. 737 billion through revenue enhancing reforms.
It also questioned the viability of the government’s tight fiscal policy and central bank’s high policy rate, noting the government had increased borrowing from commercial banks, diluting the impact of monetary policy tightening. It said government allowances over salaries, including vehicles and pensions, should be rationalized, and the minimum retirement age revisited. It notes Pakistan’s expenses on pensions are among the highest in South Asia and this should be reduced through automatic indexation to inflation, subject to a cap, instituting a minimum retirement age to receive benefits and circumscribing dependents eligible for survivorship benefits.
The report has also recommended Pakistan reduce the threshold for the maximum income tax rate—currently pegged to individuals earning over Rs. 500,000/month—and also start to impose taxes on salaries below Rs. 50,000/month, which are currently exempt. It further advises Islamabad to limit federal spending in areas devolved to provincial control by the 18th Amendment, adding the 7th National Finance Commission Award should be revisited to ensure financing is aligned with functions for provincial and federal governments.
It said tax-free allowances, tax brackets, and tax rates differ significantly between salaried individuals and other taxpayers, risking economic distortions and creating opportunities for tax avoidance through income shifting. It proposed broadening the tax base by bringing individuals and individually owned businesses, including retailers, into the tax system, reducing the tax-free threshold, and simplifying the structure of personal income tax. It said the tax schedules for salaried and non-salaried taxpayers should be merged to eliminate opportunities for tax arbitrage.
For the agriculture sector, the global lender suggested reducing the current tax-free slab of 12.5 acres; currently farmers owning 12.5-25 acres pay just Rs. 100 per acre tax.
To reduce expenses, the World Bank has recommended conducting a review of Public Sector Development Program expenditures and cancelling all projects pending proper vetting. Even projects that have been fully vetted, it said, should be delayed if they unlikely to bring any benefits to the poor.