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Program note

Pakistan

Last Updated: April 07, 2014

Current IMF-Supported Program

A 36-month extended arrangement under the Extended Fund Facility (EFF) for SDR 4.393 billion (US$6.68 billion, 425 percent of quota), approved by the Executive Board of the IMF on September 4, 2013.

Background

Macroeconomic imbalances and longstanding structural impediments to growth have prevented full realization of Pakistan’s potential. Problems in the energy sector, security concerns, and a difficult investment climate have combined with adverse shocks to undermine economic performance in the past decade. As a result, GDP growth has only averaged 3 percent over the past few years, well below what is needed to provide jobs for the rising labor force and to reduce poverty. With the population still increasing rapidly, per capita income growth has lagged behind many emerging economies. The fiscal deficit has widened, driven by weak tax collections, energy sector subsidies, and increased provincial government spending. Domestic deficit financing has crowded out private sector borrowing and has contributed to inflation. Private sector credit has become negative in real terms, while monetary aggregates continue to be driven mainly by the government’s financing needs. The external position has weakened significantly, and central bank reserves have declined to critical levels.

Role of the IMF

The democratically elected government, with a majority in parliament, came to power with a strong mandate to implement ambitious economic reforms to stabilize the economy and put Pakistan on the path to growth and prosperity. The government’s plan focused on strengthening macroeconomic and structural policies to shore up confidence, reduce economic imbalances, foster sustained inclusive growth, and provide employment opportunities.

To support the government’s economic program and to avoid sharp adjustment that could adversely affect growth and hurt the most vulnerable part of the population, Pakistani authorities requested a 36-month extended arrangement under the Extended Fund Facility (EFF) from the International Monetary Fund, which was approved on September 4, 2013. The extended arrangement, together with other multilateral and bilateral program support,  provides needed external financing for Pakistan, and signals the authorities’ determination to implement sound policies, thereby bolstering market confidence and catalyzing private investment and other inflows. The key objectives of the authorities’ program are to address short-term vulnerabilities and boost inclusive growth through macroeconomic stabilization and structural reforms over the course of the program.

The Challenges Ahead

  The key challenges facing the authorities are to:

Ensure medium-term fiscal sustainability. While the reduction in the headline deficit from 8.8 percent of GDP in 2012/13 to 5.5 percent of GDP in 2013/14 is an important achievement, further efforts will be needed in subsequent years to secure medium-term fiscal sustainability. In particular, the tax-to-GDP ratio must be raised significantly, to allow for needed social and investment expenditures while lowering the deficit.

Rebuild external buffers and maintain price stability over time. In the short term, the central bank must stabilize and rebuild its foreign exchange reserves, making use of Fund disbursements, financial support from other donors, foreign exchange intervention, and exchange rate flexibility. Once reserve cushions begin to be restored, the central bank should increasingly focus on maintaining low and stable inflation.

Implement structural reforms to achieve inclusive growth. The authorities’ energy policy is geared to addressing the longstanding problems in the sector, which constitute the most critical constraint on growth and have generated large fiscal costs. Reforms in the trade regime, restructuring or privatizing public sector enterprises, and measures to improve the business climate, should also boost medium-term growth prospects.

Protect the most vulnerable. Throughout the program it is a top priority of the government to protect the poor from direct and indirect impacts of fiscal consolidation and price adjustments by means of targeted income support.