An IMF-guided budget

Amid its preparation for its 24th IMF programme, the Pakistan government presented an IMF-guided budget for FY2024-25 in June. The crux of the budget is to keep the primary balance in surplus along with curtailing the power sector’s circular debt.

To cope with the power-sector crisis, the government has significantly raised tariff rates for electricity along with raising the petroleum development levy (PDL). Similarly, on the directives of the IMF, the government has substantially changed income tax slabs with a view to raising domestic revenue. Both measures are likely to significantly affect the lives of ordinary people, especially the salaried class.

Pakistan’s power sector is facing a severe financial crisis with its circular debt currently at Rs2.73 trillion (as of April 30, 2024). In the final review of the 23rd standby arrangement (SBA), the IMF targeted to contain circular debt to Rs2.31 trillion by the end of the outgoing fiscal year (June 2025).

Keeping in view this condition, the government has decided to pass on the additional burden of more than Rs700 billion to electricity consumers during the current fiscal year. Accordingly, the government has significantly increased power tariffs from July 1, ranging from Rs7 to Rs12, depending upon the use. On average, the increase for protected consumers stands at 46 per cent, compared to an average increase of 23.13 per cent for non-protected consumers, though protected consumers have been granted a one-time three months’ exception from the revised tariffs.

This will increase the electricity bill of protected consumers with 200 consumption units to Rs4,836 and non-protected consumers with 200 consumption units to Rs9,030 after the incorporation of GST, FCAs, and other taxes. Likewise, the electricity bill for consumption units of 300, 500, and 700 will jump to approximately Rs15,051, Rs29,880, Rs44,268, respectively, excluding the fixed capacity charges. Similar would be the case for agricultural, industrial, commercial, and other consumers.

In the Finance Bill 2024, the government raised the PDL to Rs80 per litre on petroleum products to collect Rs1.28 trillion, up from the Rs960 billion target for the outgoing fiscal year. Similar price hikes are expected in the case of gas products. These measures are likely to have severe implications for inflation in the country, as power prices have a cumulative impact of up to 30 per cent on inflation in Pakistan. The most seriously impacted would be the prices of daily consumption products, affecting the living standards of a majority of the population, 40 per cent of which are below the poverty line and are currently faced with an inflation rate of 24.5 per cent.

As far as keeping the primary balance in surplus, the government has approved new income tax slabs in the Finance Bill 2024, which will significantly increase the effective rate of taxation across the board. The upper slabs for income from salaried and income from non-salaried are taxed at 35 per cent and 45 per cent, respectively. This is added by a wide-spread imposition of general sales tax (GST) (18-25 per cent), federal excise duty (FED), and customs duties (CD).

Overall, the cumulative incidence of indirect taxes ranges from 21 per cent to 23 per cent, depending upon income decile, with the highest range applicable to the lowest income decile. If we incorporate the total incidence of all indirect taxes, the effective rates for upper slabs reach 40.38 per cent and 47.37 per cent for salaried and non-salaried classes, respectively. Likewise, the effective tax rate for the lowest decile of income is 19.98 per cent even though there is no direct tax on this category. The average effective tax rates for the other nine income deciles are 33.1 per cent and 39.8 per cent for salaried and non-salaried classes, respectively. So, taxpayers are being overburdened amid a cumulative federal spending of less than 5.0 per cent of the GDP on health and education, which matter much to ordinary taxpayers.

The minimum wage in Pakistan has been raised to Rs37,000, but in reality a majority of unskilled labourers in the informal sector are earning less than this amount. The population in the lowest income decile is liable to 19.98 per cent incidence of indirect taxes and paying an electricity bill of more than Rs2,000 if they are protected and consuming less than 100 units of electricity. So, the lowest income decile group is paying more than 25 per cent of their earnings in taxes and electricity bills.

Is this sustainable in a country where 40 per cent of the population is still living below the poverty line? I would say no, and Pakistan has to initiate structural reforms to come out of the vicious circle of persistent macroeconomic imbalance and low growth trajectory. Yes, we need more revenue, but it must be augmented by measures like removing preferential tax credits and exemptions, enhancing tax base and registration by simplifying the mechanism, introducing agricultural income tax, harmonizing the sales tax regime, etc.

For instance, tax expenditure, which includes the revenue foregone due to various exemptions and concessions in tax laws, amounts to around Rs3.9 trillion for the outgoing fiscal year (2023-24), amounting around 54 per cent of the tax revenue. The exemptions are mostly awarded to the elite section of society.

The United Nations Development Programme (UNDP) in its National Human Development Reports (NHDR), 2020 estimates that around Rs.2.6 trillion are spent each year on the privileges and benefits enjoyed by the powerful interest groups in Pakistan.

Second, raising power tariffs is not the only solution to circular debt; other aspects such as renegotiating contracts with IPPs vis-a-vis fixed capacity charges, reducing generation cost, removing transmission and distribution losses, and competitive practices in the energy market are the alternatives that would provide durable solutions to the problem of circular debt. Third, why do we keep injecting money in inefficient SOEs even when their annual losses reach around Rs.2 trillion?

Reforms like corporate governance, market-based induction of CEOs, joint ownership structure, and privatization of irremediable SOEs must be initiated to have a permanent solution to the inefficient footprint of the state in the economy.

Fourth, we need sustainable export-led growth that can upscale our revenue potential along with coping with our external sector shortages. In short, we need to move to durable solutions to mitigate our macroeconomic imbalances, on the one hand, and look for sustainable export-led growth, on the other.

The writer is an associate

professor at the Pakistan

Institute of Development

Economics (PIDE), Islamabad.