FISCALPOLICYSTATEMENT200910

TableofContents
TableofContents............................................................................................................... i

Acknowledgements............................................................................................................ ii ListofAcronyms................................................................................................................. iii I. II. III. Introduction.......................................................................................................... FiscalPolicyStatement......................................................................................... PrincipalsofTaxandExpenditurePolicy.............................................................. IIIi:PrinciplesofTaxPolicy................................................................................... IIIii:PrinciplesofExpenditurePolicy.................................................................... FiscalPolicyDevelopments................................................................................... IVi:FiscalPerformanceduring200809............................................................... IVia:FBRTaxCollectionandRefundsduring200809........................................ DirectTaxes.................................................................................................. IndirectTaxes ............................................................................................... . SalesTax............................................................................................... CustomDuty......................................................................................... FederalExciseDuties(FED).................................................................. ProjectionsforFiscalYear200910...................................................... 1 4 5 5 6 7 10 13 15 18 18 20 21 22

IV.

V.

IVib:ReviewofExpenditureduring200809..................................................... 23 IVic:SlippagesinBudget200809...................................................................... 26 IVii:FiscalProjectionsfor200910...................................................................... 30 IViii:RevenueandExpenditureduringJulySeptember2009............................. 32 ReviewofPublicDebt........................................................................................... 34 ServicingofPublicDebt........................................................................................ 37

VI. VII. VIII. IX. X.

SustainabilityofFiscalPolicy................................................................................. 39 MediumTermBudgetaryFramework(MTBF) ..................................................... 39 . PublicPrivatePartnership.................................................................................. 40 ReportonCompliancewithFRDLAct2005.......................................................... 42 ConcludingRemarks.............................................................................................. 44

DEBTPOLICYCOORDINATIONOFFICE

Acknowledgements
ThisPolicyStatementhasbeenpreparedtofulfilltherequirementlaidoutunderSection6ofthe FiscalResponsibilityandDebtLimitationAct2005.Iwouldliketoacknowledgetheinputofvarious Ministries,Departments,DivisionsandAgencies,particularly,timelydataprovisionbyBudgetWing (MoF),CorporateFinanceWing(MoF),andtheFederalBoardofRevenue.Iwouldliketorecognize the effort put in by Syed Jaffer Askari, Economist (DPCO), and Mehwish Ashraf, Financial Analyst (DPCO) in the realization of this comprehensive document. This report also benefited from the inputofZafarulHassan,DSEF(Programme)andFahdZaidi,formerlyoftheDPCO.

MasroorAhmedQureshi
DirectorGeneral DebtPolicyCoordinationOffice MinistryofFinance

ii

FISCALPOLICYSTATEMENT200910

ListofAcronyms

AEDB AOP BOP CDNS CDR COD DSC DPCO FED FPS FRDLAct FY GDP GST IDPs IMF IPDF IPFF IPPs IRS KESC LTUs MOF MTBF MTDF NSS NTN PASSCO PIFRA POL PPIB PPP PRGF PSEs R&D RTOs SBA SBP SED TCP TPD USAS VAT VP WAPDA WHT AlternativeEnergyDevelopmentBoard AssociationofPersons BalanceofPayment CentralDirectorateofNationalSavings CurrencytoDepositRatio CollectiononDemand DefenceSavingsCertificates DebtPolicyCoordinationOffice FederalExciseDuties FiscalPolicyStatement FiscalResponsibilityandDebtLimitationAct FiscalYear GrossDomesticProduct GeneralSalesTax InternallyDisplacedPersons InternationalMonetaryFund InfrastructureProjectDevelopmentFacility InfrastructureProjectFinancingFund IndependentPowerProducers InlandRevenueService KarachiElectricSupplyCompany LargeTaxpayerUnits MinistryofFinance MediumTermBudgetFramework MediumTermDevelopmentFramework NationalSavingSchemes NationalTaxNumbers PakistanAgriculturalStorageandServicesCorporationLtd. ProjectforImprovingFinancialReportingandAuditing Petroleum,OilandLubricant PrivatePowerInfrastructureBoard PublicPrivatePartnerships PovertyReductionandGrowthFacility PublicSectorEnterprises ResearchandDevelopment RegionalTaxOffices StandbyAgreement StateBankofPakistan SpecialExciseDuty TradingCorporationofPakistan TotalPublicDebt UniversalSelfAssessmentScheme ValueAddedTax VoluntaryPayments WaterandPowerDevelopmentAuthority WithholdingTaxes

iii

FISCALPOLICYSTATEMENT200910

I.

Introduction
Theeconomicpolicyofagovernmentiscenteredonensuringmacroeconomicprosperityinorder to uplift the living standards of its people. Thus, sustainable economic growth is an essential ingredientforjobcreation,povertyalleviationanddevelopingphysicalandhumaninfrastructurein the country. Given this backdrop, it is vital for a country like Pakistan to achieve macroeconomic stability over the long term through a prudent fiscal policy that instills the responsibility of fiscal disciplineforfuturegovernmentsaswell. Countriesthatenjoyfiscalfreedomhaveadoptedvigilantfiscalregulationsandimplementedthem effectively.Thesenationshavealsomadetheirsystemmoretransparentwhichcanbereflectedby cheaper access to financial markets and greater electoral support. Emerging market economies oftenfaceconsiderablygreatermacroeconomicvolatility,asisthecasewithPakistan.Thisinherent volatilitycombinedwithpoormacroeconomicmanagementcanhavedevastatingconsequencesfor economic activity, employment, and the overall welfare of the state. Accordingly, the establishmentofrulessignalsacommitmenttosoundfiscalpolicyandtomacroeconomicstability thatbothpresentandfuturegovernmentswillberesponsiblefor. GiventheoverwhelmingneedtoinculcatefiscaldisciplineinPakistan,theFiscalResponsibilityand Debt Limitation (FRDL) Act 2005 was passed in Parliament in June 2005. The Act requires the governmenttocommittofiscalprudenceandareductioninthedebtburden.Therulesstressthe need for achieving objectives of macroeconomic stability, longterm sustainability of growth, support for and the harmonization between different government policies, as well as policy transparencyandcredibility. Fiscalyear200809sawsomemitigationinthemacroeconomicimbalancesthatwerecarriedfrom the legacy of previous years, which yet again reinforces the importance of fiscal prudence for sustainable economic growth. The overlooking of power sector over the years has piled up immensepressureonthefiscalaccountanditcouldnotbeabruptlyundone.Fiscalyear200809 saw elimination of many subsidies but fiscal year 200910 has been assigned to undo all power tariffs. Fiscal adjustment to the tune of 2.4 percentage points was done amidst crucial developments.Fiscalconsolidationeffortsonbehalfofthegovernmentwereconstantlychallenged by deteriorating security environment; domestic political uncertainties; deepening of the global financial crisis; persistent inflationary pressures in the economy; monetary overhang of previous years; supplyside shocks; massive exchange rate adjustment; and an uncertain macroeconomic environment.Laxfiscalstanceofthelasteightyearshasadefinitebearingnotonlyonthefiscal adjustmentprocessbutmacroeconomicstabilityaswell.Theperiod200007wasthebestperiod 1

DEBTPOLICYCOORDINATIONOFFICE forexpenditurerationalizationandresourcemanagementeffortswhichwasnotcapitalizedupon andhence,putadditionalstrainonfiscalpolicyin200809.Theoutgoingfiscalyearwasnotbest suited for fiscal adjustment because all sorts of internal and external pressures were testing resilienceoftheeconomy. The monetary tightening started since April 2005 but fiscal expansion neutralized gains from tightening. The loose coordination between monetary and fiscal policies as well as shortfall in government revenues complicated the macroeconomic stabilization efforts. The maturity of high costzerocouponDefenceSavingsCertificates(DSCs)soldintheaftermathofNucleardetonationof 1998,underminedthefiscaldeficitinthepastbutoverstatedthefiscaldeficitinrecentyears.Ina bid toreviveastruggling economy,Pakistanenteredintoastabilization programwiththe IMFin November 2008 as major macroeconomic indicators were at precarious levels. The government recognizes the consequences of fiscal indiscipline and has committed to a policy of fiscal consolidation,whichisplacedatthetopoftheiroverallmacroeconomicstabilizationagenda. The need for fiscal discipline cannot be overstated as many years of fiscal profligacy in the past ultimately led to unsustainable macroeconomic imbalance in 200708. Had there been rationalizationofsuperfluousexpendituresduringthefiscalcomfortperiodof200007,theextent of adjustment seen during 200809 could have been less painful. The fiscal response and crisis management measures and the subsequent improvement in macroeconomic stability have been remarkable.However,thereisaneedtoreorientpolicytowardsresourcemanagement.Successful resource management, as opposed to adjustments made in response to crises, will play a fundamentalroleinaddressingstructuralweaknessesoftheeconomy.Suchpolicyorientationwill also limit the need for adjustments in times of distress as these adjustments pose serious implications for investmenthungry infrastructure bottlenecks. Economic growth fell drastically in 200809 owing to factors like widening of the fiscal and current account deficits, doubledigit inflation, high cost of doing business associated with high interest rates, low levels of foreign exchangereserves,aneverrisingdebtburdenandwidespreadpovertyandunemploymentinthe county. Going forward, we need to strike a balance in development expenditure on account of infrastructure and improvement in social sector indicators to align expenditure with social responsibility. In fiscal year 200809, under the IMFSBA, the government took several budgetary measures to achievefiscalconsolidation.SuchmeasuresincludedanetzeroborrowingstrategyfromtheState BankofPakistan(SBP)forbudgetarysupportattheendofeachquarter,thegradualremovalofoil and power subsidies by partial passon to endusers, and curtailing of development expenditure. 2

FISCALPOLICYSTATEMENT200910 Thesemeasuresbroughtdownthefiscaldeficitto5.2percentofGDPfor200809ascomparedto 7.6 percent of GDP in 200708. It is pertinent to note that out of the total fiscal deficit of 5.2 percentofGDP,0.9percentagepointswerecontributedbyexogenousexpendituresthatwerenot budgeted.Forinstance,0.7percentagepointswereaddedbecausethePunjabgovernmentover draftedRs99billionfromtheStateBankofPakistaninthelastquarteroffiscalyear200809,while 0.2 percentage points were added to accommodate expenditure on Internally Displaced Persons (IDPs)duetotheongoingoperationagainstterrorisminthecountry.Otherwise,thegovernment remainedcommittedtounderlyingfiscaldeficitof4.3percentofGDPfor200809. However, there remains much room for improvement; given its potential, Pakistan needs to significantlyincreaseitsrevenuesfrombothtaxandnontaxsources.TheFederalBoardofRevenue (FBR)missedbothitsoriginalandrevisedcollectiontargetsinfiscalyear200809.TheFBRcollected Rs440.3billioninDirectTaxesascomparedtotherevisedtargetofRs461billionwhileSalesTax (Rs452.3billion)alsomisseditsrevisedtarget(Rs457billion)mainlyonaccountoflesscollection from oil. On the other hand, Federal Excise Duty (Rs 116.1 billion) and Customs Duties (Rs 148.4 billion)surpassedtheirrevisedtargetsofRs116billionandRs145billion,respectively.Overall,the FBR missed its revised target of Rs 1,179 billion and ended the year with a total collection of Rs 1,157billionprimarilyduetoerosionofbase. Being a developing economy, Pakistan needs to augment its development efforts. Development efforts crucially hinge upon additional resource mobilization that can be generated by extending thetaxnettountappedareasoftheeconomy.FBRisresponsibleforamajorportionofrevenues andcurrentlyitisundergoingataxreformsprogram.TherestructuringoftheFBRhastakenplace and the establishment of the Inland Revenue Service (IRS) will serve as a single entity within the FBR that will merge the tasks of all domestic taxes, namely the sales tax, income tax, and excise taxes.Thisharmonizedtaxadministrationwillincludeanintegratedtaxmanagementstructureand a unified database that will improve efficiency and help increase the taxtoGDP ratio in the mediumterm. This Fiscal Policy Statement (FPS) will review the overall fiscal developments during fiscal year 200809inordertofulfillthelegalrequirementofSection6oftheFRDLAct2005.Furthermore,the Act requires the FPS to analyze the performance of some key fiscal indicators such as the total revenues,overallfiscaldeficit,primaryandrevenuedeficits,aswellasthepublicdebtburden.The ActalsorequiresthattheFPSanalyzewhethertherewasanydeviationfromthefiscaltargetsandif federal government policies have remained in conformity with the principles of sound fiscal and

DEBTPOLICYCOORDINATIONOFFICE debtmanagement,andthetargetssetforthinthemediumtermbudgetarystatementinSection5 oftheAct.

II.

FiscalPolicyStatement
The Fiscal Policy Statement is presented to fulfill the requirement in Section 6 of the Fiscal Responsibility and Debt Limitation (FRDL) Act 2005. The statement provides an overview of government revenues and expenditures during the course of the fiscal year and explains the changesinkeymacroeconomicindicatorsduring200809.Section6oftheFRDLAct2005requires that: 1) TheFederalGovernmentshallcausetobelaidbeforetheNationalAssemblytheFiscal PolicyStatementbytheendofJanuaryeachyear. 2) The Fiscal Policy Statement shall, inter alia, analyze the following key macroeconomic indicators,namely: a) Totalexpenditures; b) Totalrevenues; c) Totalfiscaldeficit; d) Revenuedeficit;and e) Totalpublicdebt 3) TheFederalGovernmentshallexplainhowfiscalindicatorsaccordwiththeprinciplesof soundfiscalanddebtmanagement. 4) TheFiscalPolicyStatementshallalsocontain: a) The key measures and rationale for any major deviation in fiscal measures pertaining to taxation, subsidy, expenditure, administrated pricing and borrowing; b) Anupdateonkeyinformationregardingmacroeconomicindicators; c) The strategic priorities of the Federal Government for the financial year in the fiscalarea; d) The analysis to the fullest extent possible of all policy decisions made by the FederalGovernmentandallothercircumstancesthatmayhaveamaterialeffect

FISCALPOLICYSTATEMENT200910 onmeetingthetargetsforeconomicindicatorsforthatfiscalyearasspecifiedin theMediumTermBudgetaryStatement;and e) An evaluation as to how the current policies of the Federal Government are in conformity with the principle of sound fiscal and debt management and the targetssetforthintheMediumTermBudgetaryStatement.

III.

PrinciplesofTaxandExpenditurePolicy
For a developing country like Pakistan, resource mobilization is vital for economic and social developmentoverasustainedperiodoftime.However,throughoutitseconomicpast,likeatypical developing country there has almost always remained a revenueexpenditure gap that hinders social welfare programs while stifling development projects. This requires additional resource mobilizationthataddstothepublicdebtstock.Thecurrentexpenditureofthegovernmentdepicts aninelasticbehaviorbecauseofsomecommittedexpendituressuchasdefencespendinganddebt servicing. Consequently development spending has always borne the brunt of fiscal adjustment whichisacounterproductivestrategyasithampersgrowth.Goingforward,thegovernmentneeds to boost its revenue generation capacity, streamline and prioritize its expenditures while overcomingstructuralweaknessesandinternalinefficiencies.

IIIi:

PrinciplesofTaxPolicy

InPakistan,theFederalBoardofRevenue(FBR)isprimarilyresponsibleforlevyingandcollectionof almostallfederaltaxes.Overtheyears,gradualchangestothetaxstructurehaveproducedmixed resultswhicharefarfromthedesirableobjectivesandpropertiesofanefficienttaxsystem.Inthe recentpast,somenewinitiativeslikethedevelopmentofastrongtaxpayerfacilitationculturewith a view to promote voluntary tax compliance in a selfassessment system of tax administration; taxpayer education and facilitation; development of IT systems in some critical areas; significant progress in efilling and establishment of a modern Large Taxpayer Units (LTUs) / Regional Tax Offices(RTOs)withupgradedinfrastructureatmanycentershaveraisedthestandardsofthetax system.Butdespitethesechanges,thesystemcontinuestounderperformasthechallengetoraise adequate revenues each year falls short of expectations, mainly because the bases of major revenue spinners personal and corporate income taxes and the General Sales Tax (GST), continuetobeverynarrowinadditiontotheleveloftaxevasion. The Inland Revenue Service (IRS) will include a harmonized tax management structure and an integrated database that will improve efficiency and help increase the taxtoGDP ratio to 1214 5

DEBTPOLICYCOORDINATIONOFFICE percentinthemediumterm.Thepurposeofthisharmonizedstructureistoincreasetheefficiency oftaxadministrationandlaythefoundationfortheimplementationoftheValueAddedTax(VAT). The implementation of the VAT is a central component of the governments revenue enhancing strategy over the medium to long term to help finance the needed increase in public outlays withouthavingtorecoursetowardsexternalborrowingorcrowdingoutprivatesectorinvestment. Thegoalofthesemeasureswillbetoboostrevenuecollectionintheshorttermwhilereinforcing the longterm objectives of increasing the effectiveness, efficiency, fairness and flexibility of the overalltaxsystem

IIIii:

PrinciplesofExpenditurePolicy

Publicexpenditureisoneofthecriticalcomponentsofacountrysdevelopmentgoalsthatinclude economicandsocialobjectives.Tomakeexpenditurepolicyeffective,itisnecessarythatresource allocation decisions are based on the availability of timely and precise financial data, a set frameworkoffinancialandaccountingprinciplesthatarerecognizedinternationally,andasystem of public accountability that is backed by audit legislation. The government is committed to strengthen its expenditure controls through implementing the MediumTerm Budget Framework (MTBF) where policies are considered in a medium term context which will provide greater predictabilityinthebudgetaryprocess. The government is also committed to extending the operations of the Project for Improving Financial Reporting and Auditing (PIFRA) to monthly federal and provincial fiscal reporting. PIFRA wasintroducedtocomputerizethewholeaccountingandauditingsystemofthecountry.Theidea istogeneratetimely,accurateandreliablefinancialstatements;monitorthefiscaldeficit;forecast the flow of cash; manage public debt; achieve effective financial controls and the auditing all transactionsoftheFederal,ProvincialandDistrictgovernmentsrelatingtoPublicAccountsthrough theAuditorGeneralofPakistan.Also,thetransitiontoaTreasurySingleAccountwillbecompleted gradually. The government has already introduced key elements of a Treasury Single Account, requiring that all disbursements pass through a zero balance assignment account. The private sector can also aid the government in development projects through PublicPrivate Partnerships (PPP)whereeachhasacomparativeadvantageintheirspecificareas. Anexpansionarypublicexpenditure policyisonlysustainableifitisfinanced byhigherrevenues. Given the current level of the fiscal deficit, any additional expenditure without commensurate increaseinrevenuecouldleadtomacroeconomicinstability,aswitnessedintherecentpast,which inturnwillreducethegrowthprospectsoftheeconomy. 6

FISCALPOLICYSTATEMENT200910

IV.

FiscalPolicyDevelopments
For every government, achieving high economic growth rate is a primary national objective as it helps in accomplishing the extremely important socioeconomic goals of expanding employment and reducing poverty. Fiscal Policy should focus on generating primary surplus and ensuring that realrateofgrowthofrevenuesshouldbehigherthantherealgrowthindebtservicingobligation. The fiscal policy should explore opportunities for augmenting the resource envelop rather than cutting down the expenses, however the expenses should be rationalised and nonproductive expenditureshouldbecurtailedthatbringimprovementinthenationalinvestmentclimate,saving incentivesandopportunitiesandcompetitivenessoftherealeconomy.Institutionalizationofpolicy coordinationcannotbeoveremphasizedforgrowthandsustainabilityofnationaleconomy. Pakistansfiscaldeficitvastlyimprovedovertheyearsafteraveraging7.0percentofGDPduringthe 1980sand1990s,to4.0percentonaverageduring20002007.Giventhepredicamentbeingfaced byPakistanseconomyduringfiscalyear200708anditseffectscarriedforwardinto200809,the fiscal policy stance of the government remained geared towards fiscal consolidation and stabilization. Revenue growth in real terms has been an underlying concern over the past years. While real growthinnoninterestexpenditurehasremainedsubstantial,growthofrevenuesinrealtermshas lagged behind (See Table1), contributing to the high deficit registered in the 200708. Furthermore,thepersistenceofahighsavinginvestmentgaphasmeantthatcrucialinvestments have had to be financed through debt creation as opposed to access to increased savings. The impact of these two vital developments is not only reflected in the fiscal deficit, but also the increasingdebtburdenofthecountry.Additionally,astheoutstandingstockofdebtincreasesata faster pace than real revenues, the drain placed by debt servicing on government resources has also become more severe. The presence of significant primary and revenue deficits further illustratestheconsequencesoflacklusterperformanceofrevenuesandtheinabilitytoincreasethe nationalsavingspoolinordertomeettheinvestmentneedsoftheeconomy. The artificially maintained fiscal prudence exploded in 200708 and absence of policy response furthercomplicatedtheproblemoffiscaladjustmentin200809.Thefinancialimprovementplan ofmajorpowercompaniesduring20002004underPovertyReductionandGrowthFacility(PRGF) was seriously jeopardized by the premature withdrawal from PRGF program with the IMF in December 2004, contributing to the abandonment of restructuring program of the power sector

DEBTPOLICYCOORDINATIONOFFICE which continues to pose serious implications for fiscal deficit as well as elimination of tariff differentialin200910. Table1:SelectedFiscalIndicators RealGrowthofDebt RealGrowthofRevenues RealGrowthofTaxRevenue RealGrowthinNoninterestExp. RealGrowthofGDP SavingInvestmentGap PrimaryBalance RevenueBalance PublicDebt/GDP Debt/Revenue DebtService/Revenue

FY06 3.2% 9.1% 11.4% 16.5% 5.8% 4.4% 2.3% 0.6% 57.2% 405.3 39.4%

FY07 2.6% 12.9% 3.0% 6.7% 6.8% 5.1% 1.5% 0.9% 55.5% 370.8 41.5%

FY08 8.5% 0.7% 1.9% 9.0% 4.1% 8.6% 2.8% 3.5% 58.4% 400.2 45.3%

FY09 1.7% 1.5% 10.2% 19.2% 2.0% 5.4% 0.3% 1.5% 58.1% 410.5 43.5%

Source:BudgetWing,andDPCOStaffCalculations

Fiscalyear200809alsosawthefiscaldeficittargetbeingmissed.Initiallysetat4.7percentofGDP, thefiscaldeficittargetwasreviseddownto4.3percentofGDPbuteventuallystoodat5.2percent ofGDPbytheendoftheyearowingtocombinationoffactorslikeintensificationofwaronterror and overdraft from Punjab government in the final quarter. If it were not for these additional expenditures,thefiscaldeficitcouldhavebeencontainedat4.3percentofGDPfor200809. Table2illustratesthehistoricaltrendofsomeimportantfiscalindicatorswithrespecttoGDP.On therevenueside,thetaxtoGDPaswellasrevenuetoGDPratioshaveeitherremainedstagnant or shown a steady decline because of structural deficiencies in the tax system and the way it is administered, both in federal and provincial governments. Being a developing country, Pakistan needs resources that can contribute towards uplifting physical and human infrastructure. In this regard,thetaxtoGDPratiomustimproveto1214percentoverthemediumterm.Theprovincial governments contribution to taxtoGDP is stagnated at 0.4 percent which is well below their potential.Nevertheless,withreformsinthetaxsystemenvisaged,thisratioshouldimproveby0.6 percentagepointseachyearoverthenextfewyears. During19992000to200809,revenuesdepictedtopsyturvybehaviorwithfluctuationsfrom14% to 15% of GDP while spike in expenditures remained unabated from 200304 to 200708 with consequentpersistentriseinthefiscaldeficit.Theonusoffiscaladjustmentindiscriminately 8

FISCALPOLICYSTATEMENT200910 Table2:FiscalIndicatorsasPercentofGDP Year FY91 FY92 FY93 FY94 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10(T) RealGDP Growth 5.4 7.6 2.1 4.4 5.1 6.6 1.7 3.5 4.2 3.9 1.8 3.1 4.7 7.5 9.0 5.8 6.8 4.1 2.0 3.3 Overall Fiscal Deficit 8.8 7.5 8.1 5.9 5.6 6.5 6.4 7.7 6.1 5.4 4.3 4.3 3.7 2.4 3.3 4.2* 4.3* 7.6 5.2 4.9 Expenditure Total 25.7 26.7 26.2 23.4 22.9 24.4 22.3 23.7 22.0 18.7 17.2 18.8 18.6 16.7 18.4 18.7 20.2 22.2 19.3 19.4 Current 19.3 19.1 20.5 18.8 18.5 20.0 18.8 19.8 18.6 16.5 15.5 15.9 16.3 13.5 14.5 14.4 15.8 18.1 15.6 14.2 Develop ment 6.4 7.6 5.7 4.6 4.4 4.4 3.5 3.9 3.4 2.2 1.7 2.9 2.3 3.2 3.9 4.3 4.4 4.1 3.5 5.2 Total 16.9 19.2 18.1 17.5 17.3 17.9 15.8 16.0 15.9 13.5 13.3 14.2 14.9 14.3 13.8 14.2 14.9 14.6 14.1 14.5 Revenue Tax 12.7 13.7 13.4 13.4 13.8 14.4 13.4 13.2 13.3 10.7 10.6 10.9 11.5 11.0 10.1 10.4 11.0 10.6 9.2 10.5 NonTax 4.2 5.5 4.7 4.1 3.5 3.5 2.4 2.8 2.7 2.8 2.7 3.3 3.4 3.3 3.7 3.8 3.9 4.0 4.9 4.0

Note1:ThebaseofPakistansGDPhasbeenchangedfrom198081to19992000,therefore,whereverGDPappearsin denominatorthenumberspriorto19992000arenotcomparable.

Statisticaldiscrepancy(bothpositiveandnegative)hasbeenadjustedinarrivingatoverallfiscaldeficitnumbers. *Includeearthquakerelatedexpenditureworth0.8and0.5percentofGDPfor200506and200607respectively.

fellonthedevelopmentexpenditurein200809withrigidityincurrentexpenditureandstagnancy in revenues. Fiscal year 200809 saw a consolidation of the governments fiscal position at the expense of development expenditures. Encouragingly, the revenue deficit improved considerably andgoingforward,thegovernmentwillneedtoensurethattotalrevenuesshouldbeenoughtoat leastfinancetheircurrentexpenditures.Inthecomingyears,agreatereffortisneededtoreduce the fiscal deficit through higher revenues, generated primarily through an efficient and well structuredtaxsystem,asopposedtocuttingbackondevelopmentexpenditures. 9

DEBTPOLICYCOORDINATIONOFFICE Fig.1:TotalExpendituresandRevenuesas%ofGDP 52.0 47.0 42.0 37.0

199091to200910(T)
TotalExpenditures

% 32.0
27.0 22.0 17.0 12.0
TotalRevenues

BUDGETDEFICIT

Fig.2:TrendsinFiscalIndicators (As%ofGDP) 9.0 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 1.0 2.0 3.0 4.0 5.0 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FiscalDeficit DevelopmentExpenditure RevenueBalance

IVi:

FiscalPerformanceduring200809

Pakistans economy faced headwinds like political instability, a deteriorating law and order environment, supply shocks, a weakening of external demand, turmoil in international financial marketsandhighpricesforoil,foodandothercommoditiesduringfiscalyear200809resultingin modestGDPgrowthof2.0percentwhichisrelativelysatisfactory,whenlookedatinthecontextof 10

FISCALPOLICYSTATEMENT200910 theprevalentglobalfinancialcrisisandeconomicslowdown.Inaddition,monetaryoverhangfrom previousyearsduetoexcessivegovernmentborrowingfromthecentralbanktofinancethelarge fiscal deficit led to inflationary pressures in the economy and the crowding out of the private sector. The fiscal deficit was financed mainly through combination of nonbank and commercial banksfinancingwhichreplacedSBPfinancing.However,duetononexistenceofappetitefromthe privatesector,thecrowdingoutimpactwasnotacauseforconcern.Afterkeepingexchangerate artificially low during 200408, the exchange rate plunged by around 22 percent in the period of JulyOctober2008.Suchamassivedepreciationhadpotentialthreattoculminateintoabalanceof payment crisis. The depreciation of the rupee and a rapid drawdown of reserves at a pace of almostover$1billionpermonththreatenedmacroeconomicstabilityofthecountry. A weak Rupee compounded the problem of inflation which also posed a serious threat to the economyandsocietyatlargeduring200809.Theinflationrateaveragedasubstantial20.8percent forthefiscalyearasagainst12.0percentinthelastyear.Thefactorsthatcontributedtothesurge and then persistence of high inflation in 200809 included monetary overhang from the previous years;supplyshocksincommoditymarkets;anupwardadjustmentinthesupportpriceofwheat; depreciationoftherupeeagainstthedollar;andthegradualwithdrawalofsubsidiesongas,POL productsandelectricity.Pakistanneedsalowandstableinflationtopersistoverasustainedperiod inordertostayonadesirablegrowthpath. Fiscal consolidation crucially hinges upon improvement in the power sector. Pakistan has to rationalizethegenerationmixforprovisionofcosteffectiveenergysupplies.Thegovernmenthas to eliminate power tariff differential either through financial improvement, cost efficiency and completepassthroughtoattractmoreinvestmentinthesector.Thefiscalcostofthepowersector mayjeopardizethemacroeconomicstabilityinthecountry;devastateprudentdebtmanagement and result in unbearable consequences for economic growth. The power sector has become a thornyissueofeconomicmanagementandtoleapforwardweneedtoresolvethisissueasearlyas possible. Pressure on fiscal account may also be lowered through increasing savings ratio in the country. Savings is a vital component of a countrys economy in terms of creating a pool of available resources to finance macroeconomic objectives. Pakistan has historically witnessed a substantial savinginvestmentgap.OvertheyearsthisgapasapercentofGDPhaswidenedfrom1.6percentin 200405 to 5.4 percent in 200809 (See Table3). A low level of savings has contributed to this vacuumovertheyearsandthisdeclinereflectsabuildupofinflationarypressuresintheeconomy. This plunge also speaks of the non availability of innovative financial instruments and 11

DEBTPOLICYCOORDINATIONOFFICE underdeveloped secondary markets in the country. The government has been a primary contributor to this mismatch between saving and investment. The private sector has, to some extent, compensated for this dissaving behavior of the government. However, efforts should be made to reduce government dissaving on one hand while increasing the pool of private sector savingintheeconomyontheother.Thecashdepositratio,calculatedbydividingthecurrencyin circulation by the total deposits in the banking sector of a country, is a true measure of the idle resourcesbeingpiledupoutofthesystem. Table3:SavingInvestmentGap,FY05FY09 (InpercentofGDP) TotalNationalSavings PublicSector PrivateSector GrossTotalInvestment ChangesinStock TotalFixedInvestmentPublicSector TotalFixedInvestmentPrivateSector SavingInvestmentGap

FY05 17.5 3.4 14.1 19.1 1.6 4.3 13.1 (1.6)

FY06 17.7 2.3 15.4 22.1 1.6 4.8 15.7 (4.4)

FY07 17.4 0.8 16.6 22.5 1.6 5.6 15.4 (5.1)

FY08 13.4 (1.8) 15.1 22.0 1.6 5.4 15.0 (8.6)

FY09 14.3 1.2 13.2 19.7 1.6 4.9 13.2 (5.4)

Source:SBPandDPCOStaffCalculations

Pakistan has experienced a surge in the currency to deposit ratio (CDR) since 200708, indicating significant funds lying in the informal sector (see Table4). Soaring inflation coupled with a relatively weak intermediary role of banks resulted in a deceleration in deposit growth and an increase in currency in circulation growth during 200708 and 200809. The returns offered on deposits appeared negative in real terms and led to a liquidity preference of holding currency amongthe masses.Therefore,alargeamountofresourcewasavailableoutofthesystemwhich wasnotcapitalizedupon. Inordertolowerthecostofborrowingandbroadenthefinancialresourcebaseofthecountry,a strongneedisfeltonthepartofthebankstoofferinnovativeordiversifiedinstruments. Tothis endpositiverealinterestratesoverasustainedperiodareverycrucial.Thebankingsectorenjoys highearningspreadsalongwithshrinkingliquidityandmaycapitalizeupontheidleresourcesofthe economy by increasing financial penetration and outreach and incentivizing the high rural populationtounlocktheirpotentialsavings.Thereisadireneedtointroducemortgagerefinancing schemes, funded pension plans, Islamic financial products and property tax proposals. Moreover, theinstitutionalizationoftheinformalsectorsofeconomywillhelpaugmentthebankingsystem. Withacurrentmoneymultiplierof3.14(asofDecember5,2009),transferofevenasmallamount 12

FISCALPOLICYSTATEMENT200910 ofoutofthesystemmoneytotheformalbankingchannelswillenhancetheregenerationcapacity of the monetary system to more than three times. Such efforts will help bridge the saving investmentgap,makefiscalandmonetarypolicymoreeffective,whilesimultaneouslydeveloping theresourceenvelope.Goingforward,areasonablecompensationforsavingsisaprerequisitein thisregard. Table4:CurrencytoDepositRatioandMoneyMultiplier FY05 FY06 CurrencyinCirculation(RsBillion) 666 740 TotalPrivate&PSEDeposits 2,291 2,662 CurrencytoDepositRatio(%) 29.1% 27.8% BroadMoney(RsBillion) 2,961 3,407 ReserveMoney(RsBillion) 909 1,001 MoneyMultiplier 3.26 3.40

FY07 840 3,218 26.1% 4,065 1,210 3.36

FY08 982 3,703 26.5% 4,689 1,480 3.17

FY09 1,152 3,980 28.9% 5,137 1,508 3.41

FY10P 1,308 4,445 29.4% 5,753 1,732 3.32

P:ProjectionsSource:StateBankofPakistanAnnualReport200809 FY10ProjectionsfromIMFCountryReportJanuary2010

IVia:FBRTaxCollectionandRefundsduring200809
Fiscal year 200809 was a challenging year for the economy as a whole as most of the macroeconomic targets fixed for fiscal year 200809 were missed. Since revenue realization is linked with the macroeconomic framework of the country, the adverse impact on the economy disturbedrevenuerealizationtoagreatextentduringthecourseoftheyear.TheFBRwasassigned achallengingrevenuetargetofRs1250billion,requiringagrowthof24%overthecollectionofRs. 1008.1 billion during fiscal year 200708. This target was then revised down to Rs. 1179 billion. However,despitebestefforts,theFBRfellshortofthistarget,torecordRs.1157billionattheend ofthefiscalyear,whichconstitutes98percentoftherevisedtarget. ItisclearfromTable5thattheperformanceoftheFBRwasbroadbasedasallthetaxesexhibited doubledigitgrowthduringfiscalyear200809,exceptforcustomduties.Salestaxhasregainedtop positioninthecollectionoffederaltaxesduetoabetterperformancefromthedomesticsalestax component. It is relevant to mention that while the increase in the FBR tax receipts has been substantial in absolute terms, it has however lagged behind the growth in nominal GDP, thereby exhibiting a declineinFBRtaxtoGDPratiofrom9.8percentin200708toonly8.8percentin200809.

13

DEBTPOLICYCOORDINATIONOFFICE Table5:NetTaxCollection(inRsBillion) RevenueHeads DirectTaxes IndirectTaxes SalesTax(GST) FederalExcise CustomsDuties TotalTaxes Collection FY09 440.3 716.8 452.3 116.1 148.4 1,157.1 FY08 387.9 620.2 377.4 92.1 150.7 1,008.1 Difference Absolute 52.4 96.6 74.9 24.0 2.3 149.0 Percent 13.5 15.6 19.8 26.1 1.5 14.8

Source:FederalBoardofRevenue

The low taxtoGDP ratio highlights a few key issues in the economys tax structure, and the inabilitytotranslatehighereconomicgrowthintoincreasedtaxrevenuecollection.Whentakenin real terms, tax revenue has grown by a meager average of 1.4 percent for the last five years, as comparedtoaveragerealGDPgrowthof5.5percentduringthesameperiod(SeeTable6). Table6:RealGrowthofTaxRevenue TaxRevenue (RsBillion) 200405 659.4 200506 803.7 200607 889.7 200708 1,050.7 200809 1,204.7 200910* 1,380.0
*Projections

RealGrowthofTax Revenue(%) 0.9 11.4 3.0 1.9 10.2 3.6

RealGDPGrowth(%) 9.0 5.8 6.8 4.1 2.0 3.0

Source:DPCOStaffCalculations

Periods of high economic growth have not been translated into higher revenue collection. Consequently, the taxtoGDP ratio has declined from 10.1 percent in 200405 to 9.2 percent in 200809(SeeFigure3).ThismaybeattributedtothetaxstructureofPakistan;specificallytheissue ofmajorcontributorstoGDPgrowthbeingoutsidethepurviewofthetaxnet.Inordertorealize thegainsfromeconomicgrowth,facilitateitstransmissionintoincreasedrevenues,andtoensure availability of ample resources going forward, major contributors of economic growth must be broughtintothetaxsystem.Bydoingso,thegovernmentwillbeabletoincreaseitstaxtoGDP ratio, align its goals of higher economic growth and increased revenue collection, while creating sustainablefiscalspace.

14

FISCALPOLICYSTATEMENT200910

Fig.3:TrendinRealRevenueCollectionvs.RealGDPGrowth 14 9 4 1 200405 6 11 RealTaxRevenueGrowth RealGDPGrowth TaxGDPRatio 200506 200607 200708 200809 200910*

DIRECTTAXES
Thedirecttaxhascontributed38.1percentintotaltaxreceiptsduringfiscalyear200809witha netcollectionofRs.440.3billionagainstthetargetofRs.461billion.AnamountofRs.38.8billion refundshasbeenpaidbacktotheclaimantsasagainstRs.25.8billionduringfiscalyear200708. Ifwelookattheperformanceofdirecttaxesinahistoricalperspective,theimprovedtaxeffortand effectiveimplementationoftaxpolicyandadministrativereformshasgearedupthecollectionover the years. The share of direct taxes in total federal tax receipts has increased from around 15 percent in early 1990s to 32 percent in fiscal year 200001. It has touched new heights of 39.4 percentinfiscalyear200607,butdeclinedslightlyto38.1percentinfiscalyear200809.Similarly, the growth pattern had an increasing trend during the past few years rising from 7.0 percent in fiscalyear200405to27.0percentin200506andfurtherto48.3percentin200607.However,the ratethenshowedadecliningtrendasitfellto22.3percentinfiscalyear200708andfurtherto7.9 percentin200809.Anumberofreasonscanbeattributedtothisslowdowninrevenuerealization: apartfromthegeneraleconomicslowdownandloadsheddingduringtheperiodunderreview,the majorsetbackhasbeen duetosignificantreductioninvoluntarycompliance.Thefluctuationsin thegrowthratecanalsobeattributedtothebaseeffect.This meansthatifthegrowthindirect taxes from one year started from a lower level, it will generate a higher growth number for the 15

DEBTPOLICYCOORDINATIONOFFICE following year. Consequently, growth rates for the next year will start from a higher base effect, causingalowergrowthnumberthefollowingyear.
Fig.4:TrendsinDirectTaxes 50 45 40 35 30 25 20 15 10 5 0 42 39 36 33 30 27 24
ShareinTotalTaxes(%)

GrowthRate(%)

FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 GrowthRate Share%

Itmayberecalledthatthecollectionofdirecttaxesincludesincometaxandotherdirecttaxessuch ascapitalvaluetax,workerwelfarefundandworkerparticipatoryfund.However,thecontribution ofincometaxintotaldirecttaxeshasbeen95.6percent,makingitourmainfocus. Table7:HeadwisePerformanceofDirectTaxes(RsMillion)

VoluntaryPayments CollectiononDemand DeductionsatSource(WHT) Miscellaneous GrossincometaxReceipts Refunds OtherDT NetDirectTaxes

200809 141,680 77,166 240,546 255 459,647 38,798 19,442

200708 145,616 42,779 205,144 242 393,782 25,822 19,902

Change(%) 2.7 80.4 17.3 5.4 16.7 50.2 2.4

440,291

387,862

13.5

Source:FBRDataBank

The structure of income tax is based on withholding taxes (WHT), voluntary payments (VP) and collectionondemand(COD).Thecollectionduringfiscalyear200809showsthattheshareofWHT,

16

FISCALPOLICYSTATEMENT200910 VPandCODingrosscollectionhasbeen52.3percent,30.8percentand16.8percentrespectively. DetailsofthesecomponentsofincometaxarepresentedinTable7.

VoluntaryPayments(VP)
Thiscomponentincludespaymentswithreturnsandadvances.Innetterms,Rs.141.6billionwere generatedduringfiscalyear200809ascomparedtoRs.145.6billioninthecorrespondingperiod lastyear,registeringa2.7percentdecline.Itispertinenttonotethatthebasicobjectivebehindthe implementation of the Universal Self Assessment Scheme (USAS) was to minimize the interface between taxpayers and the tax administration in order to repose confidence in the system and eliminatetheelementofcorruption.

IncomeTaxReturnsAnalysis
Thenumberofincometaxreturnsandstatementsreceivedbytheendoffiscalyear200809were 2,214,561,higherby75,164ascomparedtothecorrespondingperiodlastyear,indicatingagrowth ofabout3.5%.Thenumberofcorporatereturnsincreasedfromlastyear,yieldingRs.6.6billionin collection. A similar outcome has been noticed for other categories of taxpayers including individualsandAssociationofPersons(AOPs). It seems that the USAS is on track as it has been functioning successfully for the past few years yielding substantial revenue through it. However, the problem lies with audit which needs to be initiatedforselectedcorporatecases.Unfortunately,theenormousgapbetweencorporationswho have got National Tax Numbers (NTN) and those who actually file returns continues to derail voluntarycompliance.Itisessentialthattheauditteamstakealeadershiprole,whichregrettably remainsthemissinglinkintheentireequation.

WithholdingTaxes(WHT)
WHT continues to be the leading source of direct tax receipts. However, despite its large contribution, there is ample scope to enhance this collection further. The WHT collection during fiscal year 200809 has been Rs. 240.5 billion against Rs. 205.1 billion during fiscal year 200708, indicating a healthy growth of 17.3 percent (see Table8). The nine major sources of withholding tax contributed around 93 percent of total collection. These include: contracts, imports, salary, telephone, export, bank interest/securities, electricity, cash withdrawal and dividends. Rationalization of income tax rate for the salaried individuals and enhanced salary packages, especiallyintheprivatesector,hasyieldedhigherrevenue. 17

DEBTPOLICYCOORDINATIONOFFICE Table8:WithholdingTaxCollection(RsMillion) Contracts Imports Salary Exports TelephoneBills BankInterest/Securities ElectricityBills Dividends CashWithdrawal SubTotal OtherWHT TotalWHT 200809 82,507 30,101 27,405 14,360 21,726 16,119 12,722 6,565 11,338 222,430 18,116 240,546 200708 77,166 27,675 22,651 11,502 18,146 9,682 5,894 6,483 4,098 187,699 17,445 205,144 Change(%) 6.9 8.8 19.2 24.9 19.7 14.4 115.8 1.3 176.7 18.5 3.8 17.3

Source:FBRDataBank

INDIRECTTAXES
Contributingnearlytwothirdstooveralltaxcollection,indirecttaxesrecordedahealthygrowthof 15.6percentin200809overlastyearscollection(SeeTable8).IndirecttaxesconsistofSalesTax, CustomDutyandFederalExciseDuty.Themajorrevenuespinnersinindirecttaxesarepetroleum, telecom,automobiles,edibleoilandcigaretteswhichhavetraditionallycontributednearlyhalfof thegrosscollection.ThisisevidencethatthetaxbaseinPakistanistoonarrowandinthelongrun, taxcollectioncannotincreasesubstantiallywithoutbringingmoreareasoftheeconomyunderthe taxnet.

I.

SalesTax:
General Sales Tax (GST) has again emerged as the top revenue generation source of the country constituting39.1percentofthetotalcollectionoffederaltaxes.Agrowthofaround20percenthas beenrecordedinthenetcollectionofsalestax.Thecollectionofsalestaxhastwocomponentsi.e. salestaxonimportsandsalestaxondomesticactivity.Duetobetterperformancebythedomestic sales tax, especially petroleum products during 200809, its share in total sales tax has improved from 48.1 percent to around 55 percent in 200809. On the other hand, slow down in imports during200809hasvastlyaffectedthecollectionofsalestaxfromimports.(SeeTable9)

18

FISCALPOLICYSTATEMENT200910 Table9:CollectionandGrowthofSalesTax:FiscalYear200809(RsBillion) SourcesofGST ImportStage DomesticStage GST(Total) Collection/Refunds Gross 203.3 275.9 479.2 Refund 0.1 26.9 26.9 Net 203.3 249.0 452.2 Gross 3.7 31.7 18.2 Growth(%) Refund 29.2 4.1 4.2 Net 3.7 37.3 19.8

Source:FBRDataBank

I. i.SalesTax:DomesticCollection
There are ten major commodities that contribute 89.3 percent of the total sales tax domestic sector.Theseincludepetroleumproducts,telecomservices,naturalgas,sugar,cigarettes,services, electricalenergy,beverages,cementandtea(SeeTable10). Table10:ComparisonofSalesTaxDomestic(Net)CollectionbyMajorCommodity(RsMillion) MajorCommodities POLProducts ServicesbyTelecomSector NaturalGas Sugar Cigarettes ElectricalEnergy Services Cement Beverages Tea SubTotal Others NetCollection Collection 200809 106,812 50,087 18,799 11,969 9,642 6,391 6,357 4,506 4,242 3,671 222,476 26,554 249,030 Collection 200708 57,160 45,105 13,219 12,117 7,861 2,398 6,193 3,578 4,409 2,879 154,919 26,477 181,396 Growth Realized(%) 86.9 11.0 42.2 1.2 22.7 166.5 2.6 25.9 3.8 27.5 43.6 0.3 37.3 Share(%) 200809 42.9 20.1 7.5 4.8 3.9 2.6 2.6 1.8 1.7 1.5 89.3 10.7 100 Share(%) 200708 31.5 24.9 7.3 6.7 4.3 1.3 3.4 2.0 2.4 1.6 85.4 14.6 100

Source:FBRDataBank

I. ii.SalesTax:AtImportStage
Sales tax on import is an important source of collection of federal taxes. It has contributed 44.9 percent, 28.4 percent and 19.9 percent in sales tax, indirect taxes and total federal taxes 19

DEBTPOLICYCOORDINATIONOFFICE respectivelyduring200809.Thecollectionofsalestaxhaspostedanincreaseofonly3.7percent during200809mainlyduetotheslowdowninimportsandthezeroratingofcrudeoilforsalestax purposeeffectiveNovember30,2007.Likesalestaxdomestic,thereceiptsofsalestaxonimports arealsoconcentratedinafewsectors.Petroleumproductsalonecontributedaround37.4percent of overall collection of sales tax on imports. Similarly, ten major spinners including petroleum constituted80.9percentofthesalestaximport(SeeTable11). Table11:CollectionofSalesTax(Import)MajorItems(RsMillion) Description POLProducts(27) EdibleOil(15) Plastic(39) VehiclesandParts(87) IronandSteel(72) MechanicalMachinery(84) ElectricalMachinery(85) OrganicChemicals(29) Paper&P.Board(48) Oilseedsetc(12) SubTotal Other Gross Refund/Rebate Net Collection 200809 76,081 17,824 16,606 10,736 15,117 6,813 5,883 5,917 5,829 3,763 164,569 38,758 203,327 63 203,264 Collection 200708 74,266 15,440 14,627 13,538 11,573 7,383 6,964 5,313 4,835 3,783 157,722 38,401 196,123 89 196,034 Realized Share(%) Growth(%) 2.4 15.4 13.5 20.7 30.6 7.7 15.5 11.4 20.6 0.5 4.3 0.9 3.7 29.2 3.7 37.4 8.8 8.2 5.3 7.4 3.4 2.9 2.9 2.9 1.9 80.9 19.1 100 Share(%) 37.9 7.9 7.5 6.9 5.9 3.8 3.6 2.7 2.5 1.9 80.4 19.6 100

Source:FBRDataBank

II.

CustomDuty
The collection of other taxes on imports like sales tax imports, WHT and FED, depends on the collection of customs duty as it is a component of their bases. During 200809, custom duty contributed12.8percentofthefederaltaxesand32.8percentofindirecttaxes.Thecollectionof customsdutysurpassedtherevisedtargetofRs.145billionbycollectingRs.148.4billion.Onthe otherhand,thenetcollectionofcustomsdutyhasreducedfromRs.150.7billionin200708toRs. 148.4billionduring200809yieldingnegativegrowthof1.5percent.Thereasonsforthisreduction

20

FISCALPOLICYSTATEMENT200910 are exemption of wheat from customs duty, decline in international petroleum prices (especially HighSpeedDiesel)inthesecondhalfof200809andtheoverallslowdownintheimports. Majorpartofthereceiptsofcustomsdutyhasbeencontributedby15majorrevenuespinners.The collectionofthesefifteenleadingcommoditiesishighlightedinTable12.Aroundthreeforthofthe collection has been fetched from these items during 200809. Apart from collection, these items shared74.1percentofthetotalimportsand84.7percentofthedutiableimports. Table12:CollectionofCustomsDutiesduring200809(RsMillion)
Description 1.POLProducts(27) 2.VehiclesandParts(87) 3.EdibleOil(15) 4.MechanicalMachinery(84) 5.ElectricalMachinery(85) 6.IronandSteel(72) 7.Plastic(39) 8.Paper&P.Board(48) 9.OrganicChemicals(29) 10.ArticlesofIron&Steel(73) 11.DyesandPaints(32) 12.Coffee,Tea,andSpices(9) 13.MiscChemicalsProducts(38)) 14.CosmeticandPerfumery(33) 15.SoapandArtificialWaxes(34) SubTotal Other Gross Refund/Rebate Net Collection 200809 19,369 17,554 17,134 13,794 13,334 7,887 6,784 5,120 3,743 2,899 2,238 2,193 2,190 2,162 2,046 118,447 37,582 156,029 7,647 148,382 Collection 200708 24,032 25,810 17,213 11,634 13,568 6,198 6,379 4,390 3,586 2,438 2,005 1,860 1,714 1,319 1,720 123,866 39,206 163,071 12,408 150,663 Realized Growth(%) 19.4 32 0.5 18.6 1.7 27.2 6.4 16.6 4.4 18.9 11.6 17.9 27.8 63.9 19 4.4 4.2 4.3 38.4 1.5 Share(%) During0809 12.4 11.3 11 8.8 8.5 5.1 4.3 3.3 2.4 1.9 1.4 1.4 1.4 1.4 1.3 75.9 24.1 100 Share(%) During0708 14.7 15.8 10.6 7.1 8.3 3.8 3.9 2.7 2.2 1.5 1.2 1.1 1.1 0.8 1.1 76 24 100

Source:FBRDataBank

III.

FederalExciseDuties(FED)
Among all the taxes, the collection of federal excise has manifested the highest growth of 26 percentduring200809ascomparedtothepreviousyear.Moreover,therevisedtargetofRs.116

21

DEBTPOLICYCOORDINATIONOFFICE billionwasalsoachieved.ThecollectionofRs116.1billionwasrealizedasFEDagainst92.1billion collectedinfiscalyear200708(SeeTable13). Apart from the traditional major revenue spinners, it is encouraging that the services sector emergedasthethirdhighestrevenuespinnerofFED.Onlysixmajoritemscontributedaround80 percent of the collection during 200809. Among these major items, cigarette was the top most revenuegeneratorwitharound31.8percentshareinFEDcollection,followedbycement(15.2%), services(15.1%),beverages(9.1%),naturalgas(5.3%)andPOLproducts(3.6%). Table13:FEDCollectionfromMajorCommodities(RsMillion)
Commodities Cigarettes Cement Services Beverages NaturalGas POLProducts SubTotal Other Total 200809 36,860 17,618 17,485 10,587 61,04 41,21 92,775 23,280 116,055 200708 28,538 15,094 12,418 7,241 5,866 3,181 72,338 19,799 92,137 Difference Absolute Percent 8,322 29.2 2,524 16.7 5,067 40.8 3,346 46.2 238 4.1 940 29.6 20,437 28.3 3,481 17.6 23,918 26.0 Share(%) 200809 31.8 15.2 15.1 9.1 5.3 3.6 79.9 20.1 100 Share(%) 200708 31.0 16.4 13.5 7.9 6.4 3.5 78.5 21.5 100

Source:FBRDataBank

1%SpecialExciseDuty(SED) AnamountofRs.14.2billionhasbeenrealizedasspecialexcisedutyduring200809reflectinga growthofaround30percentascomparedtopreviousyearcollectionofRs10.9billion.Detailsof SEDondomesticandimportsarespotlightedinTable14. Table14:Collectionfrom1%SED(RsBillion)

1%SEDDomestic SEDDomestic SEDImports Total 200809 6.2 8.0 14.2 200708 4.0 6.9 10.9 Growth(%) 55.0 15.9 30.3 Source:FBRDataBank

ProjectionsforFiscalYear200910
Foreseeing that the economy will improve and major taxes will display some buoyancy, the budgetarytargetforfiscalyear200910hasbeensetatRs.1,380billion,requiringanincreaseof 22

FISCALPOLICYSTATEMENT200910 19.3percentovertheprovisionalcollectionofRs.1,157billionoffiscalyear200809(SeeTable15). Furthermore,theprojectionsforfiscalyear200910alsoincludetheimpactofbudgetaryandrelief measuresannouncedatthetimeofFederalBudget. Table15:AComparisonofBaselineCollectionandProjections(RsBillion) Prov.Collection Projections Addition 200809 200910 DirectTaxes 440.3 565.6 125.3 SalesTax 452.3 499.4 47.1 FederalExcise 116.1 152.8 36.7 CustomsDuties 148.4 162.2 13.8 AllTaxes 1,157.1 1,380.0 222.9

Growth(%) 28.5 10.4 31.6 9.3 19.3

Source:FBRDataBank

Theprojectionsforfiscalyear200910willresultintofollowingtaxmixoffederaltaxes:directtaxes 41.0 percent, sales tax 36.2 percent, federal excise duty 11.1 percent and customs duty 11.8 percent. TheFBRrevenuetargetforfiscalyear200809wasfixedatRs.1,250billionwhichwashigherby 24.1percentoverthecollectionoffiscalyear200708.Thetargetwassubsequentlyrevisedtwice; firstupwardsfromRs.1250billiontoRs.1360billionandthendownwardstoRs.1179billion.The earlier enhancement in target was done in the wake of promising growth witnessed in the first quarter(JulySeptember,2008)ofthefiscalyear.However,duetotheglobaleconomicmeltdown and resultant adverse effects on Pakistans economy, the target was again revised, this time downwards, to Rs. 1179 billion. Even this target appeared to be ambitious in view of continued shrinkages in imports and negative growth in the domestic largescale manufacturing sector. However,withgreatefforts,FBRcollectedRs1157billionattheendoftheyear200809.Thetax toGDPratioendedwithaverylowlevelof8.8percent,lowerby1percentpointascomparedto last year. The declining taxtoGDP ratio is an alarming situation for the country and needs to be addressedifhigherrevenuesaretobegeneratedinthefuture.

IVib:ReviewofExpenditureduring200809
TotalexpendituresstoodatRs.2531.3billionforthefiscalyear200809,upfromRs2281billion lastyear,thusregisteringanincreaseof11.0percent.TotalexpendituresasapercentageofGDP stoodat19.3percentdownfrom22.2percentlastyear.Theoriginaltargetfortotalexpenditure in200809wasRs.2391.5billionor19.5percentofGDP,whichwasexceededbyRs.139.8billion

23

DEBTPOLICYCOORDINATIONOFFICE by the end of fiscal year 200809. Total expenditure consists of current and development expenditures. Current expenditures for fiscal year 200809, current expenditures stood at Rs 2041.6 billion againstthebudgetedamountofRs.1875.8billion,andlastyearslevelofRs1858billion.The9.9 percent increase in current expenditures from last year was contributed by both the federal government, whose share was Rs 1495.9 billion, as well as the provincial governments whose contributionwasRs.545.7billion.Resultantly,currentexpendituresforentirefiscalyearsuffereda slippageofRs165.8billionoverthebudgetedamountfor200809(SeeTable16). Table16:ConsolidatedRevenue&ExpenditureoftheGovernment(RsBillion) A.TotalRevenue a)TaxRevenue Federal ofwhichFBRRevenue Provincial b)NonTaxRevenue Federal Provincial B.TotalExpenditure a)CurrentExpenditure Federal ofwhich:InterestPayments Domestic Foreign DefenseExpenditure Provincial b)DevelopmentExpenditure PSDP Federal ERRA Provincial OtherDevelopmentExpenditure NetLending C.OverallFiscalDeficit As%ofGDP Prov.Actual JulyJune 200708 1499.4 1050.9 1009.9 1007.0 41.0 414.0 336.0 78.0 2281.0 1858.0 1420.0 489.7 430.2 59.5 285.0 437.1 452.0 452.0 238.0 214.0 28.0 777.2 7.6% Budget Prov.Actual Estimate JulyJune 200809 200809 1809.2 1850.9 1308.5 1204.7 1251.5 1158.6 1250.0 1157.0 57.0 46.1 500.8 646.2 410.8 562.4 90.0 83.8 2391.5 2531.3 1875.8 2041.6 1358.8 1495.9 523.2 637.8 459.1 558.7 64.1 79.1 296.1 329.9 517.0 545.7 516.6 448.8 549.7 397.5 373.0 195.7 26.7 150.0 201.8 43.9 51.3 1.0 6.9 582.3 680.4 4.7% 5.2% Budget Estimate 200910 2155.4 1563.6 1493.6 1380.0 70.0 591.8 496.8 95.0 2877.4 2103.8 1513.8 647.1 576.8 70.3 342.9 590.0 763.1 646.0 421.0 25.0 200.0 157.1 10.5 722.1 4.9% 24

FISCALPOLICYSTATEMENT200910 Table16:ConsolidatedRevenue&ExpenditureoftheGovernment(RsBillion) D.FinancingofFiscalDeficit a)ExternalSources b)Domestic Bank NonBank c)PrivatizationProceeds E.GDPatMarketPrices MemoItems RevenueDeficit As%ofGDP PrimaryDeficit As%ofGDP Developmentexpenditure(afteradjustingfornetlending)wastargetedatRs516.6billionin2008 09 14.3 percent higher than last year. However, significant slippages in current expenditure forcedthegovernmenttocutdevelopmentspendingbyRs.67.8billiontoRs.448.8billionwhich islowerthanthefiscalyear200708level.Onthebasisofrevenueandexpenditurefortheyear, theoverallfiscaldeficitwasRs680.4billionor5.2percentofGDPagainstRs777.2billionor7.6 percent from last year. As stated earlier, the main reasons for slippage in fiscal deficit were unanticipated overdraft from the Punjab government and additional expenditure on account of IDPs. As opposed to fiscal year 200708, the current fiscal year saw a change in the composition of governmentborrowingforbudgetaryfinancing.InsteadofheavyborrowingfromtheStateBankof Pakistan,whichishighlyinflationaryinnature,thegovernmentwasabletotapcommercialbanks as well as nonbank sources. The borrowing from commercial banks was not responsible for crowding out private sector mainly because of limited appetite for credit during the year. Larger thanexpectedinflowsfromNationalSavingSchemesbroughtthenonbanksourcescontributionin domesticfinancingupfromjust16.9percentin200708to42.2percentin200809.Thebulkofthis increaseoccurredinthesecondhalfof200809,asthemarketperceptionofaninterestratepeak Prov.Actual JulyJune 200708 777.2 151.3 625.9 519.9 106.0 10,284 358.6 3.5 291.9 2.8 Prov.Actual Budget JulyJune Estimate 200809 200809 582.3 680.4 165.2 149.7 391.9 530.8 149.0 305.6 242.9 223.8 25.1 1.3 12,280 13,095 66.6 190.7 0.5 1.5 59.1 42.6 0.5 0.3 Budget Estimate 200910 722.1 312.3 390.4 144.1 246.3 19.4 14,972 51.5 0.3 74.9 0.5

Source:BudgetWing,MinistryofFinance

25

DEBTPOLICYCOORDINATIONOFFICE intheeconomyandrelativelyhigherratesofferedonvariousschemesundertheNSSprovidedan arbitrageopportunity.

IVic:SlippagesinBudget200809

The performance of Pakistans economy in fiscal year 200809 has been vastly influenced by the macroeconomic imbalances created in the past few years. As a result of social, political and economic shocks on both external and internal fronts, Pakistans economy was impacted with regardstoitsoverallperformanceresultinginmoderateslippagesinthebudget(SeeTable17). Table17:VariationinBudget200809(RsBillion) (I) Original Budget2008 09 A.TotalRevenue 1809.2 TaxRevenue 1308.5 OfwhichFBRRevenue 1250.0 NonTaxRevenue 500.8 B.TotalExpenditure 2391.5 CurrentExpenditure 1875.8 OfwhichInterestPayment 523.2 Subsidies 295.2 a)PowerSector 88.4 WAPDA 74.6 KESC 13.8 b)Oil 140.0 c)Wheat 20.0 d)R&DTextile 5.7 e)Fertilizer 32.0 f)TCP(Sugar) 6.3 DevelopmentExpenditure 516.6 BudgetDeficit(AB) 582.3 As%ofGDP 4.7

(II) Revised Budget2008 09 1882.5 1231.5 1179.0 651.0 2445.3 2004.3 630.3 252.0 111.5 92.8 18.7 70.0 20.0 4.8 28.7 6.3 437.8 562.8 4.3

(III) Prov.Actual 200809 1850.9 1204.7 1157.0 646.2 2531.3 2041.6 637.8 257.0 109.2 90.5 18.7 67.7 20.0 3.1 26.3 6.3 448.8 680.4 5.2

(IV) Variations (III)(I) 41.7 103.8 93 145.4 139.8 165.8 114.6 38.2 20.8 15.9 4.9 72.3 0 2.6 5.7 0 67.8 98.1 0.5
Source:BudgetWing

26

FISCALPOLICYSTATEMENT200910 Totalexpenditureforfiscalyear200809wastargetedatRs2391.5billion,howevertheyearended with Rs 2531.3 billion expenditure Rs 139.8 billion more than the target, mostly due to over spending of Rs 165.8 billion in current expenditures. Interest payment is the single largest componentofcurrentexpenditure.AsumofRs523.2wasbudgetedforinterestpaymentsin2008 09buttheyear,however,endedwithinterestpaymentssurpassingthetargetbyRs114.6billionto Rs 637.8 billion. The increase in domestic debt servicing is partly the result of a tight monetary stancetakeninordertoarrestthemonetaryoverhangcausedbypreviouspolicies.Theattractive zerocoupon DSCs of the late 1990s started maturing in the last three years, exerting persistent pressureonthegovernmentbudget.Thereclaimonaccountofthisliabilitycannotbeforecasted or budgeted with accuracy. Also, the profit rates on major NSS instruments increased thrice in 200809 translating into higher interest payments, but there was some respite as a cut in profit ratesinthelastquarterof200809easedtheinterestpaymentspressure. In sheer contrast to fiscal year 200708, the variation in subsidies positively contributed on the budgetinfiscalyear200809bytheextentofRs38.2billion.HavingenteredintoanIMFprogramin November 2008, Pakistan committed itself to the gradual elimination of subsidies in the oil and powersector.However,becauseofpublicpressure,thereishesitanceincompleteeliminationof powersubsidyuntilendoffiscalyear200910.Nevertheless,giventhedrasticfallininternational oilpricesoverthecourseoffiscalyear200809,andtheplannedwithdrawalofoilsubsidies,the governmentfounditselfsavingRs72.3billionfromthebudgetedRs140billionfortheoilsector. Powersectorsubsidies,incontrast,hadaslippageofRs20.8billion,mainlyduetothelogjamof circulardebtproblemthathasengulfedtheindustry. Owingtotheintensificationofwaronterrorduringthecourseof200809,thegovernmenthadto spendRs33.8billionmorethanthebudgetedamountondefencerelatedexpenditures.Asaresult ofallthesedevelopments,currentexpendituresurgedtoRs2041.6billionRs165.8billionmore thanthetargetedamount. Inordertoadjusttheslippagesincurrentexpenditure,developmentexpenditurewascutforthe secondconsecutiveyeartotheextentofRs67.8billionbypostponingvariousslowmovingprojects aswellasbyrationalizingexpenditure. On the revenue side, the FBR failed to meet its target collection amount of Rs 1250 billion and endedtheyearcollectingRs1157billion,aslippageofRs93billionwhichcontributedtotheoverall slippage in tax revenue to the extent of Rs 103.8. However, the government made significant efforts in nontax revenue and collected an impressive Rs 145.4 billion more than the targeted amount. Thiswasmainlycontributed bymorethananticipatedSBPprofitaswellascollectionof 27

DEBTPOLICYCOORDINATIONOFFICE PDL on oil. Resultantly, total revenue passed its budgeted amount by Rs 41.7 billion which mitigated the slippages on expenditure side to that extent. Notwithstanding, fiscal year 200809 endedwitharevenueexpendituregapofRs680.4billionRs98.1billionmorethanthetargetfor the year. In other words, fiscal deficit for 200809 as percentage of GDP stood at 5.2 percent against the targeted value of 4.7 percent, which is still a marked improvement from fiscal year 200708fiscaldeficitof7.6percent.Expenditurecutshaveallowedthegovernmentsomespaceto achieve fiscal consolidation. However, reductions in expenditure, particularly development and social sector outlays, have direct consequences for future economic growth and social development.Toachievethegovernmentsgoalsofgrowthanddevelopment,whilemaintaininga soundandsustainablefiscalposition,emphasismustbeplacedonrevenuegenerationasopposed toexpenditurecuts.Fiscalsustainabilitycanonlybeensuredwhenrealgrowthofrevenueoutpaces thegrowthinrealexpendituresoveraperiodoftime. Externalresourceinflowsfellshortoftheirtargetduringfiscalyear200809duetoglobalfinancial meltdown, and the nonmaterialization of anticipated inflows from multilateral and bilateral donors. As against the budgeted external financing of Rs 165.2 billion, Rs 149.7 billion could be materialized. Thus, the burden of adjustments for financing fell on domestic sources. The borrowingrequirementsfromdomesticsourcesincreasedfromRs391.9billiontoRs530.8billion (withnegligibleprivatizationproceeds)anincreaseofRs138.9billion.Pakistanhassuccessfully attainedoneoftheconditionsoftheIMFprogramwhichwastohavenetzeroborrowingfromthe StateBankofPakistanonaquarterlybasis.Thus,only42percentofdomesticfinancingcamefrom banksourceswhilethemajoritycamefromnonbanksources. The Revenue balance, which is defined as the difference between the total revenue and current expenditures,representingthegovernmentssavingsordissavingsbehavior,wasindeficittothe extentofRs190.7billionor1.5percentofGDPinfiscalyear200809againstthetargeteddeficitof 0.5 percent of GDP. Under the FRDL Act 2005, the government was required to achieve zero revenue deficit. In other words, total revenue should have been sufficient to finance current expenditure by June 30, 2008. The government was compelled by the internal and external developmentsin200809tobreachthisveryimportantparameter. The revenue balance signifies the intergenerational distribution of resources because borrowing for current consumption places additional burden on future generations while borrowing for development spending or building assets is justified when viewed in the context of future consumption. The additional expenditure requirements are created in security related matters or interestpaymentswhichmeanscurrentexpenditureistogoup.Therevenuebalanceisrevenue 28

FISCALPOLICYSTATEMENT200910 current expenditure gap, thus without commensurate increase in revenues, any increase in the currentspendingwillputstrainontherevenuebalance.Theextraordinarydevelopmentsin2008 09dopermittemporarybreach,butthismustbebalancedinthelongerhorizon.Thisreinforcesthe needtogenerateadditionalrevenuesinthemediumtolongrun. Fig.5:TrendsinRevenueandPrimaryBalances

2.4 1.4 0.4 0.6 1.6 2.6 3.6

199900to200809

FY00

FY01 FY02 FY03 FY04

RevenueBalance

FY05 FY06 FY07

PrimaryBalance

FY08 FY09

The Primary balance, which is the difference between the total revenues and noninteresttotal expenditure, measures the current fiscal policy stance of the government affecting the countrys indebtedness.Duringthefiscalyear200809,theprimarybalanceremainedindeficittotheextent ofRs.42.6billionor0.3percentofGDP.Inordertostabilizeorreducepublicdebt,itisnecessary for the government to maintain a primary surplus. However, with smaller slippages in total expenditure,theprimarydeficitfor200809isavastimprovementfromlastyearwhentheprimary deficitstoodat2.7percentofGDP.Nonetheless,thesoonerPakistanachievesaprimarysurplus, thebetteritisforstabilizingthecountrysdebtburden. The economy needs resources for recovery and as long as revenue resources do not finance expenditures, there will be pressure on debt burden in the country. Going forward, public debt management will be very crucial. To professionally manage public debt, there is dire need to enhance cooperation among various stakeholders. The Debt Management Committee (DMC) has 29

DEBTPOLICYCOORDINATIONOFFICE already been constituted with a mandate to take important decisions regarding public debt management and suggest fiscal measures which entails reorientation of prudent revenue expendituredecisions,sothatitcanexertlesspressureondebtmanagement.

IVii:FiscalProjectionsfor200910
Thelessonslearntfromfiscalyear200708andtheconsolidationandstabilizationagendapursued bythegovernmenthascontainedthefiscaldeficitfor200809.Budget200910hasbeenprepared with a view to further consolidate the fiscal position while moving towards a higher economic growthpathandenhancedtoleranceofdeficitfinancedbyincreasedexternalinflows. Table18:ConsolidatedGovernmentBudgetJulySept2009(RsBillion) JulySept2009 JulySept2009 200910 Items (Prov.Actual) (Target) (Projection) TotalRevenue TaxRevenue FBRRevenue TotalExpenditure Current Development FiscalDeficit as%ofGDP 427.3
2.9 490 (62.7) 334 (35.20) 286 (23.40) 684 (33.10) 576 (55.00) 134 (18.30) 194 (29.7)

200910 Revised Projections 2187.0

14.6

2155.4
14.5

298.8
2.0

1563.6
10.5

1600.0
10.7

262.6
1.8

1380.0
9.3

1396.0
9.3

650.9
4.4

2877.4
19.4

2913.0
19.5

521.0
3.5

2103.8
14.2

2403.0
16.0

115.7
0.8

763.1
5.1

510.0
3.4

223.7
1.5

722.1
4.9

740.0
4.9

Note:FiguresinitalicsareaspercentageofGDP,Figuresinparanthesisarevariationfromtarget Source:BudgetWing,FinanceDivision

Thefiscaldeficitisprojectedtodeclineto4.9percentofGDPin200910downfrom5.2percentin 200809. In order to achieve fiscal deficit target for the year 200910, tax revenue is targeted to increaseby1.5percentagepointsto10.7percentandcurrentexpenditureisprojectedtodecline 30

FISCALPOLICYSTATEMENT200910 by0.6percentagepointofGDP,mainlythroughtheeliminationofpowersubsidiesbyJune2010.At thesametime,thesizeofdevelopmentexpendituresin200910issettoremainat3.4percentof GDP,thesamelevelinthelastyear.Keyfiscaltargetsforthefiscalyear200910aredocumentedin Table18. Theoverallrevenuesareprojected togrowby18.15percentin 200910risingfromRs. 1850.9 millionor14.1percentofGDPtoRs.2187billionor14.6percentofGDP.Taxrevenueisprojected togrowby32.8percentrisingfromRs.1204.7millionor9.2%ofGDPtoRs.1600millionor10.7 percent of GDP. The revenue collected by the FBR is the single largest component of the tax revenue,accountingfor96percent.TheFBRistargetedtocollectRs.1396billionin200910,20.6 percentmorethanlastyear.Therevenuetargetsarearguablyambitiousin thecurrentdomestic andinternationalenvironment.Thegovernmentwillbetakingstepstostrengthentaxsystemand administration during fiscal year 200910 by introducing the IRS which will formalize the introduction of the VAT. The government has reaffirmed its commitment to meet tax revenue target,however,thisissubjecttocertainrisksandchallenges.Theeconomyhastopickuptobe close to its desired growth path to attain revenue target. The tax target is tied with certain importantassumptionsregardingoutcomeoftaxandadministrationreforms.Table19documents thebreakdownofvariouscomponentsoftaxestobecollectedbytheFBRin200910incomparison tothosecollectedduringfiscalyear200809. Table19:ComparisonofRevenue(RsBillion)

200809R.E

200910 Budget Estimates

200910 Revised Projections.

Growth(%)

TotalRevenue
TaxRevenue FBRRevenue
a)DirectTaxes b)IndirectTaxes SalesTax FederalExcise CustomsDuty

1,851
1,205 1,157
440 717 452 116 148

2,156
1,563 1,380
566 814 499 153 162

2,187
1,600 1,396
522 874 547 161 166

18.2 32.8 20.6 18.6 21.9 20.9 38.7 11.9

Source:FederalBoardofRevenue

31

DEBTPOLICYCOORDINATIONOFFICE

IViii:RevenueandExpenditureduringJulySeptember2009
Reflectingtheextentoftheslowdownintheeconomyin200809,andtheimpactofachangein tax filing dates, FBR tax collection for the first quarter of 200910 is up nominally. A sharp fall in sales and corporate profitability in prior periods, a 19 percent decline in the value of dutiable importsduringJulytoSeptember2009,theimpactoftheinternalrestructuringofFBR,thefallout of the internal security situation on business conditions, and a change in the dates for filing advancetax(fromSeptember30toOctober15),haveallcontributedtoanominalincreaseof0.2 percentinoveralltaxcollection(SeeTable20).ThetotalamountoftaxcollectionbytheFBRhas nowreachedRs.262.6billionasagainstafirstquartertargetofRs.286billion.Theslippageintax revenue is solely due to direct taxes failing to meet the target set for the first quarter by Rs. 32 billion. However, tax collection for the first quarter should be viewed in the context of a 35 percent increase during JulySeptember 2008 (versus corresponding period 2007), providing an unusually highbaseforcomparison.Inaddition,adjustedfortheestimatedimpactofadvancetaxcollection shifted tonextquarter (approximatelyRs.2529 billion),the taxcollection efforthasbeenabove par under challenging circumstances. A pick up in economic activity, an early resolution of the energy crisis, an improvement in the internal security situation, a continuation of the trend of improvementintheglobaleconomy,andresultsoftherestructuringoftaxadministrationshould allcontributetowardsachievementofthefullyeartaxrevenuetarget. Table20:FBRTaxCollectionJulySeptember2009 RevenueHead DirectTax SalesTax FederalExcise CustomsDuty TotalCollection Target200910 522 547 161 166 1396 200809 88.2 110.2 25.5 38.2 262.1 JulySept 200910 84.1 117.1 28.4 33.1 262.6 %Change 4.7 6.2 11.5 13.4 0.2
Source:FBR

Total revenue collection, which includes FBR collection, provincial taxes, and nontax revenues, reachedRs.427.3billionbyendSeptember2009.AsapercentageofprojectedGDPfortheyear, total revenues at the end of Q1FY10 stood at 2.9 percent. However, with regards to revenue generation,thegovernmentmisseditsquarterlytargetofRs.490billionbyapproximatelyRs.62.7 32

FISCALPOLICYSTATEMENT200910 billion. With the economic slowdown taking its toll, this slippage can be attributed to lower than expectedperformanceoffederalandprovincialtaxcollection,aswellasnontaxrevenue. Ontheexpenditureside,totalexpenditureduringthefirstthreemonthsofthecurrentfiscalyear amountedtoRs.651billionasopposedtoafirstquartertargetofRs.684billion.Outofthistotal, Rs.521billionwasonaccountofcurrentexpenditure,whereasRs.115.7billionandRs.14.2billion wereclassifiedasdevelopmentexpenditureandunidentifiedexpenditurerespectively.Whilemajor headsofexpenditurehavebeenreduced,thebruntoffiscaladjustmenthasbeenbornebycurrent expenditure, which was Rs. 55 billion lower than its targeted amount. Consequently, a relatively smalleradjustmentofRs.18.3billionwasmadewithrespecttodevelopmentexpenditure. Given the substantial gap between expenditure and revenue during the first quarter of 200910, thebudgetdeficitstoodatRs.223.7billion,orapproximately1.5percentoftheprojectedGDPfor theyear(SeeTable18).ThegovernmentsquarterlyfiscaldeficittargetwassetatRs..194billion, highlighting a slippage of approximately Rs. 30 billion, mostly on account of lower than expected revenuecollection.ThegovernmentregisteredarevenuedeficitofapproximatelyRs.93.3billionor 0.6percentofGDPduringthesameperiod,whereastheprimarybalancewasindeficitbyRs..67.6 billionor0.45percentofprojectedGDPfor200910.TheadvancesalarypaymentsinlightofEidul Fitararealsoreflectedinthefirstquarterdeficit. Owing to a higher than anticipated deficit in the first quarter, and lower than expected external inflows,thedeficitfinancingtargetshavenotbeenachievedinthefirstthreemonthsof200910. Originally,thetargeteddeficitofRs.159billionwastobefinancedmostlythroughexternalinflows ofRs.100billion,withtheremainderbeingsplitbetweendomesticbank(Rs.32billion)andnon banksources(Rs..28billion).However,withthefirstquarterdeficitreachingRs.223.7billion,and withexpectedexternalinflowsnotmaterializing,agreateremphasishasbeenplacedondomestic sources, which accounted for Rs. 146.6 billion of the financing (See Table21 ). Rs. 39 billion of budgetaryborrowingswerefrombanksources,whereasnonbankborrowingamountedtoRs.107 billion.Withprivatesectorcreditdemandcurrentlyatlowlevels,thegovernmenthasbeenableto borrowfromthebankingsector;howevertheconsequencesofsuchborrowingwillbemoresevere onceprivatesectorcreditdemandisrevitalized.Furthermore,theaddedemphasisplacedonnon bank sources, primarily the CDNS, has highlighted the need to reform this institution in order to efficientlyaccesslowcostfinancing.Suchborrowingtendencymayprovetobecounterproductive for the monetary policy goals of the government. In the absence of policy coordination and persistentdomesticborrowing,thereremainsanupwardpressureoninterestrateseveniftheSBP continuestorelaxitsmonetarypolicystance. 33

DEBTPOLICYCOORDINATIONOFFICE Table21:BudgetaryFinancing,JulySeptember2009 (InbillionsofRs.) JulySept2009 (Prov.Actual) FinancingofFiscalDeficit 223.7 a)ExternalSources 77.1 b)Domestic 146.6 Bank 39.0 NonBank 107.6 c)PrivatizationProceeds 0.0

JulySept2009 (Target) 159.0 100.0 59.0 32.0 27.0 0.0

Source:BudgetWing,FinanceDivision

V.

ReviewofPublicDebt
Totalpublicdebt(TPD)isameasureofgovernmentindebtedness.Itincludesallgovernmentand government guaranteed Rupee debt as well as foreign currency denominated debt, excluding privatesectorexternaldebtwhichisnotguaranteedbythegovernment. Developments in TPD during 200809 have been driven mainly by a combination of five distinct factors.Increaseddemandsonthegovernmentbudgetduring200809forpurposesofsecurityand war on terror meant that expenditure was fairly rigid even in the face of a committed effort to rationalize expenditure and curtail the fiscal deficit. Secondly, lower than expected GDP growth, acute energy shortages, and a high cost of doing business led to a revenue shortfall. The global economicslowdown,andtheresultantfallincommodityprices,hadapositiveimpactonPakistans tradebalance.Inadditiontotheseexternaldevelopments,importcompressionmeasuresreduced the import bill significantly. Exports also witnessed a deceleration as demand from advanced economiescontracted,alongwithaslumpindomesticproductivity.However,thefallinimports has outpaced the drop in exports. Still, a fairly high current account deficit, although falling, prevailed throughout the year. In the absence of ample domestic resources and an unfavorable environment in international capital markets and limited foreign nondebt creating flows, the governmententeredintoaStandbyAgreement(SBA)withtheInternationalMonetaryFund(IMF), pavingthewayforaninflowoffinancingtoreverseadrawdownofforeignexchangereservesand provide much needed economic stability. Lastly, depreciation of the Rupee against the US dollar throughout the year ended in a substantial increase in the existing stock of foreign currency denominatedpublicdebtexpressedinRupeeterms.

34

FISCALPOLICYSTATEMENT200910 Table22 2.PublicDebt t,FY05FY10Q Q1* DomesticCurrencyDebt ForeignC CurrencyDeb bt TotalPublicDebt RupeesD Debt ForeignC CurrencyDeb bt TotalPublicDebt RupeesD Debt ForeignC CurrencyDeb bt TotalPublicDebt RupeesD Debt ForeignC CurrencyDeb bt Memo: ForeignC CurrencyDeb bt(inUS$Billion) ExchangeRate(Rs./U US$,E.O.P) GDP(inRs.Billion) TotalRev venue(inRs.Billion)

FY05 FY06 FY07 FY08 FY09 FY10 7 0Q1* (InbillionsofRs.) 2152 2320 260 00 3266 3853 4010 1913 2041 221 13 2739 3752 4090 4064 4361 481 14 6005 7605 8100 (Inpe ercentofGDP P) 33.1 30.4 30.0 31.8 29.4 26.8 29.4 26.8 25.5 26.6 28.7 27.3 62.5 57.2 55.5 58.4 58.1 54.1 (Inperc centofReven nue) 239 215 20 00 218 208 183 212 190 17 70 183 203 187 452 405 37 71 401 411 370 (Inperc centofTotalDebt) 52.9 53.2 54.0 54.4 50.7 49.5 47.1 46.8 46.0 45.6 49.3 50.5 32.1 59.7 6500 900 33.9 60.2 7623 1077 36.5 40.7 46.3 60.6 67.3 81.0 867 10284 13095 73 129 98 1499 1851 49.4 82.8 149 972** 21 187**

*Provision nal**ProjectedforFY10

Source:EAD,SBP,EAW Wing,MoFandD DPCOstaffcalculations

Durin ngtheyear2 200809,totalpublicdebtincreasedby yRs.1600billion(26.6pe ercent).Asof fend June 2009, Pakistans total public debt stood at R 7605 billion (See Table 22). R t Rs. Rupee deno ominatedpub blicdebtincre easedfromRs s.3266billion ntoRs.3853billionduring gthesamepe eriod, incre easing by Rs. 587 billion or 18 perc cent during t the period. T The increase in the dom e mestic comp ponentofpublicdebtacco ountedfor37 7percentofthetotalincre easeinpublicdebt. The primary sour of increase in public debt during 200809 has been a rap increase in the rce s pid foreign currency component which accounted for 63 percent of t total incr the rease in TPD. This comp ponentgrew byRs.1013 billionor37 percentdue toincreasedforeignpubl licdebtinflow wson oneh hand,andsig gnificantdepr reciationofth heRupeevs. theUSdollarontheothe erhand.Ther rupee losta approximatel ly20percent tofitsvalue againsttheU USdollarduri ing200809. Anincrease ofRs. 633 billion, appr roximately 39 percent of the total increase in TPD, was s 9.6 solely due to the o heRupeeagainsttheUSD Dollar.Further rmore,depre eciationofthe eUSDollarag gainst depreciationofth 35

DEBTPOLICYCOORDINATIONOFFICE other major currencies caused the foreign currency component of public debt to increase by US $53 million. This capital loss on foreign currency debt, however, is mitigated by the strong concessionality element associated with Pakistans external loans. Although the increase in the foreign currency component of TPD might appear to be alarming, it must be noted that the increased inflows mainly in the form of the IMF SBA have been used not to fund budgetary operations,buttostrengthenPakistansforeignexchangereserves. SimilarchangeshavebeenwitnessedtothestockofPakistansTPDduringthefirstthreemonthsof thecurrentfiscalyear.OutstandingTPDrosetoRs.8100billion,registeringanincreaseofRs.495 billionor6.5percent,mostlyonaccountofconsiderableinflowsofforeigncurrencydenominated debt. Disbursements under the third tranche of the IMFSBA and from multilaterals caused the foreign currency component of TPD to increase by Rs. 338 billion by endSeptember 2009. The fundsfromtheIMFSBAhavebeenusedprimarilytoshoreuptheforeignexchangereservesofthe country.However,outofthethirdtrancheofUS$1.2billionwhichwasdisbursedinAugust2009, approximately $745 million has been allocated for budget financing. Depreciation of the rupee against the US dollar caused the foreign currency component to increase by Rs. 91 billion, approximately18.4percentofthetotalincreaseinTPD.Theremainingincreaseofapproximately Rs.157billionwasonaccountofdomesticborrowing. The composition of TPD underwent a significant shift during 200809; as the share of foreign currencydenominateddebtincreasedforthefirsttimesince200102,risingfrom45.6percentof TPDin200708to49.3percentin200809.TheshareofRupeedenominateddebtat50.7percent of TPD is significantly lower than the contribution of 54.4 percent during 200708. A coordinated efforttoreduceborrowingfromtheStateBankofPakistan(SBP)andsubstantialforeigncurrency inflowsthroughtheIMFSBAprogramtoavertaBoPcrisis,arethemajorcausesbehindthisshiftin composition. While limiting the increases in SBP borrowing will help in controlling inflationary pressures,theincreaseinforeigncurrencycomponentwillleavetheeconomymorevulnerableto external shocks, specifically, the effect of Rupee depreciation on the outstanding stock of TPD. However, the impact of any currency shock should not be looked at in isolation, but rather be analyzedinthecontextofinterestratedifferential. Totalpublic debtasapercentageofGDPwasashighas62.5percentattheendof200405,but steadilyreducedto55.5percentbytheendof200607.Followingthevolatileeconomicconditions witnessed in 200708 accentuated by policy inaction on key expenditures (i.e. energy subsidy), a burgeoning fiscal deficit led to a rapid escalation of TPD as a percentage of GDP, reaching 58.4 percent by endJune 200708. Fiscal consolidation, rationalization of expenditure, and a net zero 36

FISCALPOLICYSTATEMENT200910 quarterlylimitonborrowingfromtheSBPhaveallassistedinrestrainingtotalpublicdebttoGDP ratioeveninthefaceoflowerthanexpectedgrowth.ByendJune2009,TPDstoodat58.1percent ofGDP. Fig6:TrendsinPublicDebt 650.0 600.0 (As%ofRevenue) 550.0 500.0 450.0 400.0 350.0 300.0 Year 1980 1990 1995 2000 2001 2002 2003 2004 2005 2006 2007 2008 95.0 85.0 75.0 65.0 55.0 45.0 35.0 (As%ofGDP) AsimilarhistorictrendisseeninTPD asapercentageofGovernmentRevenues,withTPDfalling from as high as 4.52 times of the Government Revenues in 200405 to 3.71 times by 200607. However due to the prevalent conditions in the economy, both domestic and international, TPD increased to 4.01 times of Government Revenues by the end of 200708. Government policies restricted the increase in TPD during 200809, but less than expected tax collection has further deterioratedthisindicatorto4.11times,i.e.TPDisnowmorethanfourtimesthegovernmentstax revenue(SeeFigure6).

TR

GDP

ServicingofPublicDebt
Increases in the outstanding stock of Total Public Debt have implications for the economy in the shapeofagreateramountofresourceallocationtowardsdebtservicinginthefuture.Inorderto meet debt servicing obligations, an extra burden is placed on limited government resources and mighthavecostsintheshapeofforegonepublicinvestmentorexpenditureinothersectorsofthe economy.

37

DEBTPOLICYCOORDINATIONOFFICE Figure7:TrendsinDebtServicing 50.0% 45.0% as%ofTRandCE 40.0% 35.0% 30.0% 25.0% FY05 FY06 FY07 FY08 FY09 During the year 200809, servicing of public debt amounted to Rs. 807.8 billion as opposed to a budgeted amount of Rs. 619.4 billion. The slippage of Rs. 188.4 billion has mostly been due to depreciationoftherupee,whichincreasedtheamountusedforinterestandprincipalrepayments offoreignloansinrupeeterms.Themorethanbudgetedincreaseinfiscaldeficitof200708also translated into higher debt servicing. Repayment of foreign loans stood at Rs. 158.4 billion as opposed to a target of Rs. 96.2 billion; while interest payments on foreign loans, which were budgeted at Rs. 64 billion, reached to Rs. 69.4 billion by endJune 2009. At its root, the currency depreciation, which led to the slippages in debt servicing targets, should be viewed as an adjustmentagainsttheunsustainableparityoftheRupeevisvistheUSdollarwitnessedduring 20012007.AnamountofRs.580billionwasspentonaccountofservicingofdomesticdebtagainst the budgeted estimate of Rs. 459.1 billion. The increase in domestic debt servicing is partly the result of a tight monetary stance taken in order to arrest the monetary overhang caused by previouspolicies.Additionally,thehighcostzerocouponDefenceSavingsCertificates(DSCs)soldin the late 1990s led to an inaccurate budgeting on interest payments. These instruments started maturinginthelastthreeyears,underminingtheservicingofdomesticdebtintheinitialyearsof their issue but inflated the service payments on domestic front in recent years as the interest is paidatmaturity. 38

%ofCurrentExpenditure

%ofTotalRevenue

FISCALPOLICYSTATEMENT200910

VI.

SustainabilityofFiscalPolicy
Sustainabilityoffiscalpolicyisvitalforasustainabledebtpath.Thefiscaldeficitisakeyindicatoras ithassignificantramificationsonacountrysmacroeconomicposition.Theshortfallinrevenuesis usuallybridgedbydomesticandforeignborrowingsbythegovernmentcausingtheaccumulation of debt. The primary balance measures how the current fiscal policy stance of the government affectsthenetindebtednessofacountry.Hence,inordertoreducepublicdebt,itisnecessaryfor thegovernmenttomaintainaprimarysurplus.Thegovernmentrecognizesthatinordertohavea sustainablefiscalpolicy,thefiscaldeficitneedstobereducedoverthemediumterm.Therevenue expendituregapthatPakistanhasfacedovertheyearsneedstobeaddressedbygeneratinghigher revenueswhilecontainingitsexpenditures. Thegovernment,throughtheFBR,isintheprocessoftakingmeasuresthatwillimproverevenue generation in the country by broadening the tax base and improving the overall tax system and administration.Thehighcostofinterestpaymentsdetersresourcesfromtheprioritysectorsinthe economy such as social welfare and development projects. Consequently, in order to achieve a primary surplus, a reduction in the interest burden is also important. All in all, a prudent fiscal policycomprisesof(i)abalancedtaxstructurebasedonrationalandaffordablerateswithminimal exemptionscoveringabroadrangeoftaxpayers,(ii)anexpenditurepolicythataimstomoderate growth in nondevelopmental expenditure and adequately accommodate the pressing social and infrastructureneedsofadevelopingeconomy,and(iii)aprudentdebtmanagementpolicy.

VII.

MediumTermBudgetaryFramework(MTBF)
The Budget 200910 has been prepared within the Medium Term Budgetary Framework (MTBF) whichisconsistentwiththecountrysoverallmacroeconomicframeworkandlegalobligationunder Section5 and 6 of the Fiscal Responsibility and Debt Limitation Act 2005. The current budgeting systeminPakistanmakesitdifficulttoalignbudgetaryresourceswithstrategicpriorities.Theaim of the MTBF is to make the budget system better.The MTBF will help channel resources to the Governments key strategic priorities. It will make more transparent the link between resources allocated through the federal budget and the results to be achieved in terms of service delivery (outputs)andimpact(outcomes).Itwillfacilitatethescrutinyoftheexistingallocationofresources through the federal budget in terms of economy, efficiency and effectiveness by the relevant ministry, the Ministry of Finance, the Planning Commission, the Cabinet, the National Assembly,

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DEBTPOLICYCOORDINATIONOFFICE andbyotherstakeholdersincludingthegeneralpublic.Inthisway,theMTBFaimstosupportand strengthenthedeliveryofpublicservicesbytheFederalGovernment. TheMTBFhasthreemainobjectives: I. Tofurtherstrengthenfiscaldisciplinebycreatinganorderlyframeworkformanagementof theannualbudgetoverthemediumterm; II. Tostrengthenthealignmentoffederalresourcesbythegovernmenttothegovernments policiesandstrategies; III. To build the capacity in federal ministries to prepare and manage their budgets in a mannerwhichprovidescosteffectiveservicedelivery(outputs)andefficientuseofpublic funds(valueformoney). At the individual ministry level, the MTBF hopes to improve methodologies for aligning budgets with available resources and encourage ministries to take greater control of their own financial management. As far as provinces are concerned, the MTBF will not directly address issues of budget reform, since provincial governments are responsible for their own initiatives. However, appropriatelinkagesarebeingmadebytheMTBFtoprovincialbudgetreforms. Whentakentogether,theoutputsoftheMTBFwillhelptoensurethatpolicyobjectivesdetermine the overall framework for the budgetary process and individual budgetary allocations are more clearlylinkedtostrategicpriorities.Thus,policiesareconsideredinamediumtolongtermcontext whichwillprovidegreaterpredictabilityinthebudgetaryprocess.

VIII. PublicPrivatePartnership
TheGovernmentrecognizestheimportanceofimprovingandexpandinginfrastructureservicesfor sustaining economicand socialdevelopmentinits MediumTermDevelopment Framework2005 2010 (MTDF). Improved quality and service coverage in power and water supply, sewerage treatment,transportandlogisticsarevitalforPakistanseconomyandthelivelihoodofitspeople. Tight fiscal constraints require innovative approaches away from the traditional role of the Government as the service provider to ensure that the massive investment needs are financed with the assistance of the private sector. A combination of policy reforms, institutional support, incentives and financing modalities is required to encourage privatesector participation in financing,constructingandmanaginginfrastructureprojects.

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FISCALPOLICYSTATEMENT200910 PublicPrivatePartnerships(PPPs)permitthepublicsectortoreducetheircapitalexpenditure(and redirect to promote urgent social needs) and convert the infrastructure costs into affordable operatingexpenditurespreadovertime.PPPsalloweachpartnertoconcentrateonactivitiesthat best suit their skills. For the public sector that would mean focusing on developing policies and identifyingserviceneeds,whilefortheprivatesectorthekeyis todeliverthoseneedsefficiently andeffectively. The government has set up the Infrastructure Project Development Facility (IPDF) under the auspicesoftheMinistryofFinance(MoF),togenerateprojectswithpublicsectorinstitutions(line ministries, provincial governments, local bodies, state owned enterprises etc.) undertaking PPPs. IPDF provides direct access to a professional PPP Unit that will help institutions to improve proposals and prepare them for tendering, without becoming a contract signatory to those transactions.OnceapprovedbyIPDF'sProjectFeasibilityCommittee,theprojectmaybesubmitted for any necessary complementary financing to a proposed independent financing body the Infrastructure Project Financing Fund (IPFF) for any residual financing needs that are not available in the market. Both IPDF and IPFF are tasked to provide easy and timely access for institutions,toensurethatviablegoodqualityPPPdealsareconcludedinatimelymannertomeet Pakistansincreasinginfrastructuredemands.Thedaytodayoperationsofbothinstitutionswillbe independent from the government and reporting to the government will be made through their respectiveBoardofDirectors. PPPprojectevaluationswillfocuson,butwillnotbelimitedto,thefollowingsectors: Transport and logistics including provincial and municipal roads, rail, seaports, airports, fishing harbors as well as warehousing, wholesale markets, slaughter houses and cold storage. MassUrbanPublicTransportincludingbuses,andintraandintercityrail. Municipal Services including water supply and sanitation; solid waste management; low costhousing,andhealth/educationfacilities. SmallScaleEnergyProjectssuchashydroelectricandcaptivepowergenerationprojects other than those being facilitated by Private Power Infrastructure Board (PPIB) and the AlternativeEnergyDevelopmentBoard(AEDB).

Although PPPs will become an integral component of the governments overall strategy for the provisionofpublicservicesandpublicinfrastructureacrossallsectors,thisdoesnotimplytheyare

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DEBTPOLICYCOORDINATIONOFFICE the preferred option for improving the efficiency of services delivery but that they enjoy equal statusamongarangeofpossibleservicedeliveryoptionsavailabletothegovernment.

IX.

ReportonCompliancewithFRDLAct2005
TheFiscalResponsibilityandDebtLimitation(FRDL)Act,2005wasapprovedon13June2005.The FRDLAct,2005requiresthatthefederalgovernmenttakemeasurestoreducetotalpublicdebtand maintain it within prudent limits thereof. The following sections identifies the various limits prescribedbytheFRDLAct2005andreportsonprogressthereof. 89.TheFRDLAct2005requiresthefollowing: (1)ReducingtherevenuedeficittonilnotlaterthanthethirtiethJune,2008and thereaftermaintainingarevenuesurplus Revenuebalance(TotalRevenueminuscurrentexpenditure)breachedtheperformancetargetin fiscal year 200708 as it did not achieve a revenue deficit of zero but, infact, deteriorated significantly to 3.4 percent of GDP. Fiscal year 200809 saw a vast improvement in the revenue deficit as it was brought down to 1.5 percent of GDP or Rs. 190.7 billion. Revenue deficit is consideredthedissavingofthegovernmentwhichcontributedtoreducingoverallnationalsaving rate(nationalsavingsaspercentofGDP).Seriouscorrectivemeasuresarerequiredtobringcurrent expenditures at least at the level of total revenue. In other words, total revenue should be sufficient to finance at least the current expenditure and if there is a need to borrow, the governmentcanborrowfordevelopmentpurposes.

90.

(2)Ensurethatwithinaperiodoftenfinancialyear,beginningfromthefirstJuly, 2003 and ending on thirtieth June, 2013, the total public debt at the end of the tenthfinancialyeardoesnotexceedsixtypercentoftheestimatedgrossdomestic productforthatyearandthereaftermaintainingthetotalpublicdebtbelowsixty percentofgrossdomesticproductforanygivenyear. Governmenthasalreadymetandactuallyexceededtherequirementonthelevelofpublicdebtas apercentageofGDP.TheGovernmenthasachievedthegoalofreducingpublicdebtaspercentage ofGDPbelow60percentwellaheadoftime.Furthermore,thislimithasbeenrealizedwithinthree financialyearsinsteadoftenyearsasenvisagedbytheFRDLAct.AtthebeginningofJuly2003,the totalpublicdebtstoodat75.1percentofGDPwhileattheendofJune2009,thesamefigurestood at58.1percentofGDP.However,publicdebtisbetteranalyzedinrelationtototalrevenue,asGDP

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FISCALPOLICYSTATEMENT200910 is only a measure of size of the economy and does not necessarily translate to easily accessible resources. The erosion of this indicator emphasizes the need to concentrate efforts on revenue generationinordertomeettheadditionalrequirementsplacedbyincreasingamountsofdebt. 91. (3)Ensurethatineveryfinancialyear,beginningfromthefirstJuly,2003,andending onthethirtiethJune2013,thetotalpublicdebtisreducedbynolessthantwoanda halfpercentoftheestimatedgrossdomesticproductforanygivenyear,providedthat socialandpovertyalleviationrelatedexpendituresarenotreducedbelow4.5percent oftheestimatedgrossdomesticproductforanygivenyearandbudgetaryallocation toeducationandhealth,willbedoubledfromtheexistinglevelintermsofpercentage ofgrossdomesticproductduringthenexttenyears. ThisrequirementoftheFRDLAct2005wasmeanttobeavehicleinachievingthemoreimportant target of reducing the public debttoGDP ratio to less than 60 percent within a ten year span. Achieving the target of debttoGDP ratio ahead of time notwithstanding, the reversal of the declining trend in debt burden during 200708 and again in 200809 is a cause for concern. The governmentshouldbevigilantinensuringthattheriseinthedebttoGDPratioduring200708is notallowedtocontinueotherwiseitwillbreachthe60percenttargetedlevelasrequiredbythe FRDLAct2005.Publicdebtstoodat58.4percentofGDPbyendJune2008,anddeclinedto58.1 percent by endJune 2009. Fiscal restraint and a limit on borrowing from SBP enabled the governmenttoreducethepublicdebttoGDPratiofollowingtheincreasein200708,thusavoiding a sustained deterioration of this indicator. These efforts have been commendable given the fact thatGDPgrowthwasslowerthanexpected. Social sector and poverty related expenditure (as given by Propoor budgetary expenditure excludingoutlaysonlawandorder)remainedwellabovethetargetof4.5percentofGDPaslaid outintheFRDLAct2005.Theseexpendituresstoodat6.7percentofGDPin200809;aremarkable factgiventhehigheramountofoutlaysrequiredonbehalfoflawandorder.However,expenditure on health and education remains a cause for concern. The FRDL Act 2005 requires that these outlaysasapercentageofGDPreach1.18percentand3.72percentofGDPrespectivelyby2013; effectively doubling the allocation towards these sectors from the levels of F200203. In sharp contrast to the target, expenditure on health and education in 200809 at 0.3 percent and 1.5 percentrespectively,has beenlowerthan200203.If thegovernmentis to meetthistarget,itis necessarythatsuperfluousexpenditurebesubstitutedwithtargetedandeffectiveinvestmentsin healthandeducation. 43

DEBTPOLICYCOORDINATIONOFFICE 92. (4) Not issue new guarantees, including those for rupee lending, bonds, rates of return,outputpurchaseagreementsandallotherclaimsandcommitmentsthatmay be prescribed, from time to time, for any amount exceeding two percent of the estimatedgrossdomesticproductinanyfinancialyear:Providedthattherenewalof existingguaranteesshallbeconsideredasissuinganewguarantee.

NewguaranteesissuedbythegovernmenttoPublicSectorEnterprisesin200809amountedtoRs 274.3 billion or 2.09 percent of GDP, which was higher than the stipulated limit of 2 percent imposed by the Fiscal Responsibility and Debt Limitation Act 2005. Finance Division has been issuing continuing guarantees against the commodity financing operations undertaken by TCP, PASSCO, and provincial governments. Commodity financing is secured against hypothecation of commodities and letter of comfort from the Finance Division. The quantum of these guarantees depends on the supplydemand gap of various commodities, their price stabilization objectives, volume procured, and domestic and international prices, therefore these guarantees were never included in the limit of 2 percent imposed by the FRDL Act 2005. For 200809, Rs. 192.6 billion worthofnewguaranteeswereissuedonbehalfofcommodityfinancingoperations. Thegovernmentintendstointroduceworldclasswarehousingfacilitiesinthenearfuturethatwill allowtheentitiesinvolvedinthecommodityoperationstosecurefinancingagainstthewarehouse receiptwithoutexplicitguaranteeorletterofcomfortfromthegovernment.

X.

ConcludingRemarks
For every government, achieving high economic growth rate is a primary national objective as it helps in accomplishing the extremely important socioeconomic goals of expanding employment and reducing poverty. Fiscal Policy should focus on generating primary surplus and ensuring that realrateofgrowthofrevenuesshouldbehigherthantherealgrowthindebtservicingobligation. The fiscal policy should explore opportunities for augmenting the resource envelop rather than cutting down the expenses. At the same time, the expenses should be rationalised and non productiveexpenditureshouldbecurtailedthatwillbringimprovementinthenationalinvestment climate, saving incentives and opportunities, and competitiveness of the real economy. Institutionalizationofpolicycoordinationcannotbeoveremphasizedforgrowthandsustainability ofnationaleconomy. Fiscalconsolidationhasbeenoneofthemainthemesof200809.Theconsequencesofalaxfiscal attitudeovertheyears,exacerbatedbyanonconduciveexternalenvironment,meantthatcrucial

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FISCALPOLICYSTATEMENT200910 fiscaladjustmentshadtobemadebythegovernmenttoalignitselfonasustainablefiscalpath.A reduction in expenditure and gradual withdrawal of subsidies (in addition to lower commodity priceswhicheasedpressureongovernmentresources)translatedtoadeficitof5.2percentofGDP. Whencomparedtoadeficitof7.6percentin200708,theextentofthisadjustmentishighlighted. Althoughthegovernmentwasnotabletomeetitsinitialdeficittarget,thecircumstancescausing theslippageweremostlyunprecedentedandexogenous. Revenuecollection,however,remainedweakthroughouttheyear.Lowerthanexpectedeconomic growth; volatile trade environment; and domestic disruptions caused by the power crisis and securityconcernshaveallhamperedrevenuegenerationeffortsofthegovernment.Pakistanstax toGDP ratio is now at a precariously low level of 9.2 percent. Growth in real revenues is a prerequisite to successful implementation of the governments socioeconomic targets. The performanceofPakistansrevenuecollectioninrealtermshasbeenweakatbest.Whentakenin real terms, tax revenue has grown by a meager average of 1.4 percent for the last five years, as comparedtoaveragerealGDPgrowthof5.5percentduringthesameperiodleadingtoanerosion of the taxtoGDP ratio. Furthermore, real growth in expenditure has been higher than the real growth of revenues which has had significant consequences for the fiscal deficit. Persistent divergence between growth of revenues and expenditure has led to escalating revenue deficit to the tune of 1.5 percent of GDP. The primary balance, although vastly improved from 200708, remains in deficit by 0.3 percent of GDP. Going forward, significant growth in real revenues is essentialtomaintainfiscalsustainability,andtofinancethegovernmentseconomicplans. The implementation of the governments recovery efforts and gradual resurgence of economic stabilityhasbeenremarkable.However,inthecourseoftherecenteconomicperformance,afew keyissueshaveemerged.Firstly,theimportanceofaddressingkeystructuralissuesduringtimesof relative fiscal soundness has been highlighted. While giving due credit to the governments crisis management efforts, it must be noted that had there been an implementation of resource management and revenue generation efforts in periods of relative stability, the consequences of fiscal adjustment would have been less severe. Proactive efforts need to be concentrated on addressingtheseweaknesses,asopposedtotacklingdifficulteconomicsituationswitnessedinthe previous two years in a reactive mode. By doing so, the government will be able to ensure that periods of high economic growth, stable domestic environment, and substantial external inflows can be translated to rising real revenues and creation of ample fiscal space. By shifting from a reactionary stance to reform and efficiency oriented resource management policies, the government will be able to rid the system of the inefficiencies that are painfully brought to the surfaceintimesofcrisis. 45

DEBTPOLICYCOORDINATIONOFFICE Secondly,emphasismustbeplacedonrevenuegeneration,insteadofadjustmentsmadethrough cuts in expenditure. Inability to translate relative economic prosperity into a structural advancement of revenue generation has meant that fiscal adjustments have been made by reductioninoutlays,whichhampersfutureprospectsandmighthavedireconsequencesforsocio economicdevelopment.Changesinthetaxstructuretoincludemajorsectorsoftheeconomythat havesofarnotmatchedtheircontributiontoeconomicgrowthbyaproportionateincreaseintax revenuewillbeasignificantstepinthisregard. On the expenditure side, longrun sustainability can be ensured not by cutting down on expenditure during times of economic turmoil, but by undertaking a thorough classification and rationalizationofexpenses.Thedampeningeffectsoneconomicconditionsplacedbydrasticcutsin expenditurehavebeenhighlightedin200809.Progressinginthefuture,thegovernmentintends toemployfiscaloutlaysasastimulustoregaingrowthmomentumandtoincreasetheaccessand quality of facilities provided to the most vulnerable. By quantifying development expenditures, removing superfluous outlays, making targeted and efficient investments in crucial areas, while maintaining the integrity of propoor and social sector activities, the government will be able to meetthesegoalsandavoidplacingstrainsonitsresourcesassevereasthoserecentlywitnessed. A considerable drain on government resources has been an increasing burden of contingent liabilitiesinordertocoverthelossesincurredbypublicsectorenterprises(PSEs).Accordingly,the contingent responsibility of the government has, most of the times, transformed to a reality as these bodies lacked the capacity to service their obligations. In order to allow efficient fiscal adjustments, the root cause of these public sector entities losses must be tackled by comprehensive restructuring and introduction of corporate management structures, rather than absorbingtheirliabilitiesintothegovernmentbudget.Inessence,encouragementtoexploreand developalternatefinancingmechanismsisaviablesolutiontothisproblem.Increasingthecapacity forfinancialmanagementaswellasensuringprivatesectorparticipationwillallowforcostefficient accesstofundstocovertheobligationsofthePSEs,aswellastofinanceinfrastructureupgrades. Envisagedfutureinvestmentsinkeysectorsandbudgetaryoutlayswillbeessentialinregainingthe lost growth momentum of the economy, improving the business environment, and ensuring sustained social development. To overcome the savingsinvestment gap present in the economy andfinancetheseoutlays,broadeningtheresourceenvelopeoftheeconomywillplayavitalrole. While enhanced tax revenue effort from the center as well as the provinces will be welcome measures, financial innovation and positive real interest rates will also assist in increasing the savings pool of the economy. Attractive financing schemes, deeper penetration of financial 46

FISCALPOLICYSTATEMENT200910 institutions in rural areas, and increasing the incentives provided to the public will enable substantialfundslyingoutsidethesystemintoformalbankingchannels.Withamoneymultiplier of3.14(asofDecember2009),evenasmallinjectionoffundsintotheformalfinancialsectorwill translate in to a greater resource envelope of the economy, and provide space for planned investmentstobemadeefficiently. Most importantly, in attempting these reforms, a holistic policy approach and thorough coordination is required. The goals of increased revenue generation and targeted budgetary investments must be brought in line with the monetary policy objectives. The pool of national savingsmustbeenhanced,allowingforrequiredinvestmentstobemadewithoutjeopardizingthe governmentsfiscalposition.Positiverealinterestratesareessentialastheywillattractsubstantial funds currently outside the purview of the official monetary system. Moreover, budgetary borrowingoptionsneed toberevisitedtoensurethatfinancingoffuturedeficitsdoes notdilute monetary policys efforts to keep money supply in check and tackle inflation. In this regard, amplifiedrevenuegenerationandreductioninprimarydeficitwillalsolimittheemphasisplacedon debt creation. By placing a high priority on structural reform and revenue generation, and establishingacomprehensiveframeworkformanagementofPSEs,thegovernmentwillbeableto finance the envisaged expenditure which will be crucial in the coming years, while containing excessiveborrowingandmaintainingfiscalsustainability.

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