Moody's Investors Service in its reaction on Pakistan's general elections, has said thatthe Pakistan Tehreek-e-Insaf government will have to walk a tight rope, as its plan to increase development and social spending as well as reduce taxes will clash with the need to further tighten monetary and fiscal policies to reduce economic vulnerabilities. One of top three credit rating agencies in the world, Moody's has warned that some tough policy decisions may have to be delayed due to implementation of election manifesto of the PTI.
Among other things, the agency has described "heightened external vulnerability" as a key economic challenge for the new government. In its view, possible policy options would include monetary and fiscal policy tightening, further exchange rate depreciation and turning to the IMF for external financing. Moody's has also pinpointed the wide range of risks that may further delay policy tightening and PTI moves to fulfil election pledge which includes increasing social spending, reducing taxes - as part of tax reform plans - and lowering energy costs. To get out of the logjam, the new government may have to turn to the International Monetary Fund (IMF) to overcome these challenges. Asad Umar, the man nominated to lead the finance ministry, has already hinted at the IMF option.
On the basis of past experience it can be inferred that the IMF will also ask for a steep cut in expenditures, an increase in interest rates and further devaluation of the rupee against the US dollar. The rupee has already shed its value by close to 22% against the US dollar since December 2017. In this context it is important to keep in mind that the PTI government will face a challenge in the upper house of parliament where it does not enjoy a majority. It may have to reach a compromise with opposition parties in order to introduce legislation. Right now, Pakistan has to tackle a serious challenge to arrange around $11 billion in order to meet the external financing gap in the ongoing fiscal year.
Pakistan faced its highest current account deficit of $18 billion in the last fiscal year, which was equal to 5.8% of gross domestic product (GDP). The Ministry of Finance has not yet officially released the budget deficit figures, but provisional estimates suggest the deficit would remain close to 7% of GDP or Rs2.4 trillion.Both the budget deficit and current account deficit have reached unsustainable levels, which Pakistan cannot afford due to low level of official foreign currency reserves at $9 billion and low tax-to-GDP ratio, standing at only 11.1% by the end of 2017-18.PTI's plan to lower the number of taxes and their rates to improve the country's competitiveness will make it difficult to achieve fiscal consolidation in its initial years. PTI also plans to lower the cost of doing business by decreasing energy cost.
In the longer term, Pakistan's credit challenges include the country's very low global competitiveness, institutional weaknesses relating to governance, rule of law and control of corruption and a narrow tax base. However, the silver lining on the horizon is the ongoing implementation of the China-Pakistan Economic Corridor which will bring about improvements in power supply and infrastructure. This in turn will raise economic competitiveness and boost industrial activity. Another plus point is the anti-corruption platform on which PTI contested the election. The anti-corruption policy has the potential to address some long-standing institutional weaknesses and improve governance.