IMF Program sets out major structural and fiscal reforms

As per IMF’s Staff Report for the US$6.0bn EFF program, Pakistan will receive the first tranche of US$1.0bn immediately. For subsequent disbursements – which will be quarterly in the first year but semi-annual thereafter – Pakistan will have to fulfill certain benchmarks (details below). This follows the fulfillment of prior actions since the conclusion of the Staff-level agreement in May’19. These include the announcement of the FY20 Budget with tighter fiscal measures, 150bps increase in interest rates and adoption of market-determined exchange rate regime (PKR has slipped 7% since May’19) in addition to large upfront increases in power and gas tariffs.

For the 39mth EFF program, key measures agreed between IMF and Pakistani authorities are listed below. We have also included the takeaways from the meeting with SBP Governor Mr. Reza Baqir, which was held today to shed light on the terms laid out in the report.

Monetary policy: Authorities have agreed to maintain an adequately tight monetary policy in order to avoid further deterioration of the external account and undue pressure on the currency. IMF projects inflation to average 13% during FY20f while SBP is required to keep the real policy rate positive. As such, the central bank will likely increase policy rate further (from 12.25% presently) in the Jul’19 MPS, in our view. As per SBP, the MPC will base future monetary policies on the inflationary outlook for 1-2 years.

External account: Importantly, IMF acknowledges that the bilateral and multilateral arrangements (cumulative US$17.5bn) that Pakistan has availed prior to entry into the program are sufficient for the next 12 months; therefore, IMF forecasts SBP’s Forex reserves to build up by c. US$4.0bn until Jun’20 (from US$7.2bn presently). On the external account, IMF contends that further improvement in current account deficit (CAD) is pertinent. However, Pakistani authorities have agreed to eliminate the existing regulatory duties on luxury-item imports and other administrative restrictions during the program.

Exchange rate: SBP has adopted a market-based exchange rate regime, where it will limit interventions only to allay disorderly market conditions. SBP highlighted that recent PKR depreciation has been effective in containing CAD (from 6.3% of GDP in FY18 to 4.6% in FY19 amid cumulative 33% PKR devaluation). The central bank highlighted that excluding oil imports, Pakistan has already overcome its current account deficit. During FY20f, the commencement of the Saudi deferred oil payment arrangement will further ease BoP pressures. All else the same, this should serve to reduce the present volatility in the exchange rate, in our view.

Fiscal policy: IMF commended the measures set out in the FY20 Federal Budget, which will help to contain the primary deficit close to the target of 0.6% of GDP. Pakistan will aim for improvement of Tax to GDP ratio by 4-5ppt over the medium term, through a major overhaul of the tax system. These include: (i) removal of tax exemptions and preferential treatment (prior action), and (ii) having the provinces improve tax collection from real estate, agriculture and services sectors. The authorities have also agreed to not undertake another tax amnesty. Provinces have agreed to deliver surplus of 1% of GDP (2.7% by the end of program term). Additionally, GoP will discontinue borrowing from SBP (which was inflationary) and re-profile the maturity of its domestic debt (from commercial banks) to longer tenure than 3-6mths.

Energy sector: Pakistani authorities have agreed to implement deep structural reforms in the Energy sector, particularly to arrest the buildup of circular debt. Most prominent changes will be (i) automatic determination of change in power tariff on a quarterly basis, (ii) prompt adoption of new gas tariffs from Jul’19, (iii) planning for reduction of system losses in gas distribution (end-Sep’19), and (iv) future unbundling of the two gas utilities. In addition, the authorities are required to submit detailed schedule for future power tariff increases, and chalk out quarterly targets for reduction of circular debt. The life-line power consumers (<300Kwh per month) will be guarded against annual tariff increases.

Banking sector: Two key measures. Firstly, SBP has to ensure all banks are well-capitalized and promote M&A activities within the undercapitalized small banks. Secondly, authorities have also agreed to the establishment of a treasury single account (TSA).

Privatization of SOEs: Pakistani authorities have agreed to undertake the following privatizations near-term: (i) two RLNG-based power plant, (ii) two real-estate properties in Lahore and Islamabad, (iii) two specialized banks (SME Bank and First Women Bank) , and (iv) GoP residual stake of 18.39% in Mari Petroleum. As a structural benchmark (end-Sep’20), Pakistan will have to submit a list of SOEs and the role (ownership and regulatory) that it plans to undertake with each entity. We think this will map out the entities Pakistan will be needed to privatize during the program.

In light of the IMF report and meeting with SBP Governor, we think Pakistan is moving in the right direction to considerably reduce twin deficits to more sustainable levels by the end of FY20. This could potentially mean further macro adjustments would be limited. However, the inflationary trajectory hereon and timely delivery of the fiscal reforms committed by the authorities will be key determinants for future policy direction, in our view. (Courtesy –


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