Policy Measures for the Economic Challenges Ahead

Abstract

Pakistan faces economic challenges in the summer of 2011 with regard to its balance of payments and its public finances, resulting primarily from the suspension of an ongoing International Monetary Fund (IMF) program, the associated cessation of program lending by other multilateral financial institutions, and the termination of the US’s cash logistics support. This paper argues that these challenges can be met without resorting to a new program with the IMF. The policy measures recommended with regard to the balance of payments are: (i) to allow the orderly depreciation of the exchange rate in the foreign exchange interbank market by about 5–15 percent or to PKR90–100/US dollar, (ii) to impose import surcharges of 10–20 percent on nonessential imports, and (iii) to re-impose measures originally imposed to increase the cost of import letters of credit. Public finance-related policy measures recommended on the expenditure side are: (i) to gradually reduce the State Bank of Pakistan’s policy rate by 300 basis points in the fiscal year (FY) 2012 from its present level of 13.5 percent, thereby reducing the interest burden on public debt; and (ii) to utilize these savings to restart the stalled public sector infrastructure development program. These measures will also stimulate economic activity. On tax policy, the paper recommends that: (i) the sales tax rate be increased from its present 16 percent to 18 percent, (ii) custom duties be increased by 10–20 percent on nonessential imports (as also recommended for the balance of payments, and (iii) regulatory and excise duties be increased and their original (FY2011) coverage restored.