Pakistan’s Weak Fiscal Framework Macroeconomic Implications Sakib Sherani Comsats │ October 2013

Fiscal Framework Marked by structural rigidities:

Fiscal Framework Marked by structural rigidities: Revenue

Fiscal Framework Marked by structural rigidities: Revenue –Narrow tax base

Fiscal Framework Marked by structural rigidities: Revenue –Narrow tax base Reliance on indirect taxes

Fiscal Framework Marked by structural rigidities: Revenue –Narrow tax base Reliance on indirect taxes –Low tax buoyancy and elasticity

Fiscal Framework Marked by structural rigidities: Revenue –Narrow tax base Reliance on indirect taxes –Low tax buoyancy and elasticity –Tax assignment & provincial fiscal effort

Fiscal Framework Marked by structural rigidities: Revenue –Narrow tax base Reliance on indirect taxes –Low tax buoyancy and elasticity –Tax assignment & provincial fiscal effort –Governance issues & exemptions regime

Fiscal Framework Marked by structural rigidities: Expenditure

Fiscal Framework Marked by structural rigidities: Expenditure –Generous fiscal transfers regime (NFC Award)

Fiscal Framework Marked by structural rigidities: Expenditure –Generous fiscal transfers regime (NFC Award) –Debt servicing & defense-related

Fiscal Framework Marked by structural rigidities: Expenditure –Generous fiscal transfers regime (NFC Award) –Debt servicing & defense-related –Untargeted subsidies

Fiscal Framework Marked by structural rigidities: Expenditure –Generous fiscal transfers regime (NFC Award) –Debt servicing & defense-related –Untargeted subsidies Consumption-oriented rather than Investment-driven

Pakistan’s Tax Culture 14

Pakistan’s Tax Culture 180 million people 15

Pakistan’s Tax Culture 180 million people 3.7 million tax registered 16

Pakistan’s Tax Culture 180 million people 3.7 million tax registered 711,000 file return 17

Pakistan’s Tax Culture 180 million people 3.7 million tax registered 0.7 million file return (0.9 mn salaried) 18

Pakistan’s Tax Culture 180 million people 3.7 million tax registered 0.7 million file return (0.9 mn salaried) X% actually pay 19

Pakistan’s Tax Culture 180 million people 3.7 million tax registered 0.7 million file return (0.9 mn salaried) X% actually pay Z% pay honestly 20

Pakistan’s Tax Culture 776,000 people in 3 cities with assets, property, >1 car, bank accounts, foreign travel ≠ not on tax register –Expanded to 3.2 million in 2012 (FBR/NADRA) 61% of parliament reportedly filed “nil” taxable income in last filed income tax return 21

Tax vs GDP Growth 22

Context Stagnant Tax revenues …. 23 Tax to GDP (%) Source: FBR

Context Stagnant Tax revenues …. 24 Tax to GDP (%) Source: FBR Avg = 9.2%

Object Classification (B) % of Total Principal repayment of loans7,562 71% Interest payment928 9% Operating expenses884 8% Grants, Subsidies & Loan write offs725 7% Employees related Expenses486 5% Civil158 1% Military328 3% Investment30 0.3% Physical assets14 0.1% Civil Works10 0.1% Repairs & Maint.9 0.1% Transfers8 0.1% Total Expenditure10, % 25

Object Classification (B) % of Total Principal repayment of loans7,562 71% Interest payment928 9% Operating expenses884 8% Grants, Subsidies & Loan write offs725 7% Employees related Expenses486 5% Civil158 1% Military328 3% Investment30 0.3% Physical assets14 0.1% Civil Works10 0.1% Repairs & Maint.9 0.1% Transfers8 0.1% Total Expenditure10, % 26 = 80%

Context Rising losses of Power sector …. 27 Rs bnTariff Capital InjectionsTotalAs % GDP Total1, , Source: MoF; Sakib Sherani

Fiscal deficit vs Target 28 Year Rs billionAs % GDP TargetActualTargetActual , *8261, ,1052, * includes 1.9% of GDP of power sector debt consolidation

Context Record fiscal deficits …. 29 Source: MOF

Macroeconomic Implications

A weak fiscal framework impacts:

Macroeconomic Implications A weak fiscal framework impacts: –Public debt

Macroeconomic Implications A weak fiscal framework impacts: –Public debt –Growth and investment

Macroeconomic Implications A weak fiscal framework impacts: –Public debt –Growth and investment Pernicious long run impact

Macroeconomic Implications A weak fiscal framework impacts: –Public debt –Growth and investment Pernicious long run impact –Inflation

Macroeconomic Implications A weak fiscal framework impacts: –Public debt –Growth and investment Pernicious long run impact –Inflation –Balance of payments

Macroeconomic Implications A weak fiscal framework impacts: –Public debt –Growth and investment Pernicious long run impact –Inflation –Balance of payments –Public service delivery

Macroeconomic Implications Fiscal weakness... –Inability / unwillingness to tax –Inability / unwillingness to limit spending... leads to excessive borrowing/money creation Leading to inflation + BoP pressure... AND, to a rapid build-up of public debt 38

A vicious spiral Fiscal deficit Govt borrowing Public debt Monetary expansion Inflation BOP stress 39

Impact on Growth & Investment Source: SBP; Sakib Sherani

Domestic constraints Expanding Firm Benchmark Firm Severity of Constraints Reported by SAR Benchmark and Expanding Firms Urban Formal Sector Source: World Bank

Domestic constraints Expanding Firm Benchmark Firm Severity of Constraints Reported by SAR Benchmark and Expanding Firms Urban Formal Sector Source: World Bank No. 4

Govt Borrowing & Inflation 43 Source: IMF

Public debt

Conclusion I. M. F.

Conclusion I ts M ostly F iscal

Thank You