Discussion on Economic Policy and Reform in Pakistan

Recently, the IGC was approached by Mr. Asad Umar of the Pakistan Tehrik-e-Insaaf (PTI) to help think through critical economic policy issues facing Pakistan. To that end, a discussion was hosted by the IGC inviting independent and respected economists to help foster a mature and responsible debate on the difficult policy trade-offs and general direction of economic policy reform.

Key Discussion Points and Policy Recommendations

The main policy recommendations and reform suggestions that emerged out of the discussion are presented below.

A. How do we bring growth back to the economy? What would be the key drivers? Will employment come automatically with growth or do we need to take special measures?

The past few decades Pakistan had been seeing a trend growth rate of 5 and 6 percent per annum growth, which has now plummeted to around 3 percent. How do we go back to this? Pakistan should be looking towards a growth rate of 8 – 9 percent.

The area that constitutes Pakistan today has historically seen periods of sustained growth such as by opening up new frontiers like canal colonies that sustained growth for 5 decades, followed by industrial revolution and then green revolutions. All of these factors played an important role in pushing growth forward. More recently remittances has emerged as one of the key drivers for the economy. Even today the country continues to witness growth spurts with substantive investment and capital coming in followed by periods recession. It is fundamental that we start thinking about the drivers that can create structural change within Pakistan. In this regard it is also essential to look at the micro dynamics of macro level issues.

  • Address the energy crisis: The most significant challenge is the energy/power crisis. According to some estimates the growth in Pakistan is 1/3rd off to the on-going power shortage.
  • Open up markets and encourage trade: The region that is Pakistan can become a connector of markets like it has historically been. The country is surrounded by resource rich countries and it should take advantage of the complementarities that can arise in through the labor market, or through trade. If India and Pakistan can break a lot of economic and non-economic barriers, Pakistan will be put on India’s growth rate. Regional trade can be a potential driver for growth.
  • Invest in human capital: Two challenges arise here. First is that need to improve general education outcomes across all levels. Second is to improve the skillset of the Pakistani labor force.
  • Land reform: Land is very central to industry and to urbanisation (which has been uneven). Land issues remain central to what happens to the urban space. Property rights also need to be established while agglomerations are to be thought over. Most importantly the writ of the state to introduce a new system is essential. However land reform without financial market is useless
  • Reform the financial sector: Currently only 14 percent of Pakistanis have bank accounts; hence access to finance is very limited. The financial sector needs to be reformed with a keen focus on who it lends to, on what conditions, to what end and how it can be made more accessible across a wide array of stakeholders including individuals, the private sector and the public sector. System of creating/providing credit to these people engaged in small medium enterprises is very important. They require access loans bigger than what microfinance banks offer.
  • Improve service sectors such as Health and Education. While education has been responding well to a lot change the health sector is gravely under-performing. Even though human capital is there, but the organizations are not leveraging this or adding value to the human capital that is present. This has long-term implications on growth. Socio-economic growth means better health and better education – these are outcomes beyond simple economic growth and are essential for development.
  • Improve the security situation: Discussion on non-economic factors is also essential such as the War on Terror, Sectarian attacks and general law and order situation. The war on terror and other security issues cost the economy roughly 9 percent of the GDP. Investment rates have plummeted due to this as investment cannot be expected to take place unless security issues are addressed.
  • Reform SOEs: State owned enterprises are also in a crisis. SOEs need to be reformed. For example the railway sector has virtually collapsed and witnessed an almost 60 percent decline in the freight being carried. One way to reform state enterprises as suggested by PTI itself is to bring them out of the ambit of line ministries, and divide existing SOEs into three blocks, those that are ready for privatization, those that require clear reforms before privatizations and those that cannot be privatized at all such as national monopolies.
  • Improve the regulatory environment: The regulatory framework needs to be improved. Legislative and empowerment measures must be taken to strengthen existing institutions such as he Federal Board of Revenue and the Competition Commission of Pakistan.
  • Youth policy should be formulated: The youth bulge needs to be addressed. As unemployment among the youth is rising, direct intervention is warranted. Employment guarantee schemes like in India can be implemented in Pakistan. However that presupposes a functioning local government. So focus on making local governments work which will also improve local infrastructure.
  • Mobilise the private sector: The state has to play a role to incentivise private sector to grow as private sector savings need to be mobilised to bring the economy back on track. At the moment private sector confidence is zero due to the circular debt issue. Conditions don’t exist in Pakistan to allow the private sector to lead infrastructure led-growth.
  • Encourage female labor force participation: This is one of the hidden drivers of Pakistan and cuts across all dimensions and is also being documented empirically by Dr. Tahir Andrabi and his team. Female work force is much more compliant and disciplined and this pool needs to be tapped into. Private schools have been using that pool. Furthermore, the wage differential between males and females also needs to be addressed if economy is to move forward.
  • Create employment: Employment as a percentage of population has declined. Industry and formal sector Jobs are not being created and should be a deep area of focus. Several things are important under this. First female rates of participation is essential as they form 50 percent of the demographic dividend. Secondly employment creation through small scale manufacturing can be critical. Thirdly need to look at success stories such as lady health workers program that has created over 10,000 jobs and has had the greatest impact in terms of women’s empowerment, fertility rates, malnutrition etc.

B. What would be the key ingredients of a comprehensive tax reform at the Federal, Provincial and Local levels?

Restoring the tax base is essential to any effort at tax reform. It is also important to ensure mechanisms to tax the very rich in the country. If you can demonstrate states’ credibility, willingness to pay taxes will increase. Hence service delivery needs to be improved.

  • Develop a tax directory. All tax-payers return and assets should be put on a tax directory as a first step towards transparency.
  • Reintroduce the wealth tax: Wealth tax such as the minimum assets tax of the American variety can be levied. Revenue impact could be 0.5 percent of the GDP. This can also help to capture the assets through agriculture income and is one way of getting around people who are into agriculture and have assets abroad. It also strengthens income tax.
  • Introduce tax on agriculture: The provincial government must play a role in having this executed. Agriculture income should be clubbed with with other income for tax purposes.
    Implemented the law of pre-eminent domain such as already implemented in custom.
  • Revamp the Board of Revenue: Set up a new autonomous revenue authority with no link with the government and hire employees at market wages. The board of revenue is one of the most important organizations for Pakistan’s economy. Practical lessons can be learnt from Latin America.
  • Bring the informal economy into the tax bracket: Small scale informal sector is engaged in unrecorded or undocumented economic activity and hence remains unregulated and untaxed. This sector ends up using resources from other sectors and not paying back. They need to be taxed.

C. What would be the most effective steps for achieving sustainable poverty reduction? What can the state do to empower landless peasants and the urban poor?

  • Job creation is essential for poverty alleviation. Experience in the past 4-5 years, opportunity to work has arisen in the informal sector which has seen a growth rate of 4.5 percent growth in the last 10. The formal sector has actually suffered. Important to understand if we are redistributing poverty at some level?
  • Asset transfer from the rich to the poor can occur through taxation.
  • Land reforms without financial market is useless.

D. Do we need an industrial policy? If yes, what should be the conceptual framework of this policy?

  • Governance Reform: Industrial policy doesn’t work unless you have a governance reform, which requires a well functioning civil service that monitors, evaluates and calibrates and knows when to exit when an intervention fails. They need to work with industrial units just like in Malaysia and Korea. Hence any industrial policy without attaching it to the core element of reform will make it difficult to implement.
  • Industry interventions need to be context specific and detailed. There are certain clusters, industry or geographical clusters that have a lot potential. This can be addressing bottlenecks of each industry. Such as the soccer ball industry in Sialkot. China and Thailand has new technology. Sialkot needs time to get these resources by becoming efficient and reducing costs. The Gujarat fan industry for instance has issues with labor contracts. So productivity can be enhanced by improving labor contracts. Such interventions have pay offs in the short run.
  • Across the board policy framework for manufacturing is also needed.
  • Review the tariff structure.
  • Trade with India context needs to there as an anchor for the industrial policy.

Concluding Remarks

It seems as if Pakistan’s economy is stuck in a state of Multiple equilibria and in order to get out of this exceptional adjustment needs to be made. Overall public sector net growth is essential for any long-term sustainable growth in Pakistan. Private sector must accompany and not replace the public sector. Furthermore, any resultant growth will be impacted by how the transition happens and whether for instance it is accompanied devaluation, balance of payments problem etc. therefore it is critical that the transition is less painful.

Political coalitions must be strengthened, as they are required to push reform. Any reform that is passed must be accompanied by legislative reforms by provincial governments. There must also be a clear political calculus on how to change and bring reform. All of this needs to be strategically thought out by the parliament.