Tuesday, 3 December 2013

Pakistan is Practicing Austerity Economics

Pakistan is Practicing Austerity Economics

Some of my economist friends still insist that we are not practicing austerity economics. Once again let us try to understand.

Austerity is the mindless approach to containment of a fiscal problem. A fiscal adjustment often is necessary in an economy. The austerity approach is to rush the adjustment without a focus on the reform that might address the deeper structural issues that are driving the fiscal problem. Often the rush to meet fiscal targets leads to cuts in expenditure for the development and maintenance of society’s capital –physical, social and human. In that sense it places an excessive hardship on the country.

Pakistan has had a fiscal problem for the last 30 years and has failed to address it. Why?

Because the Pakistani economics amounts to what I call fiscal arithmetic.
These analysts see the budget only as expenditures minus taxation. The only thing that matters to the proponents of fiscal arithmetic is the dream of reaching a deficit number of 4% of GDP. Quick and ill-thought out measures are cited to support these cuts. The impact of these measures on economic growth, productivity and employment does not concern the proponents of fiscal arithmetic.

The most important focus for the last 30 years has been revenue collection. Ambitious targets are set with arbitrary taxes (Surcharges, one time levies, excises of all kinds). For this they dream up all manner of distortive taxes on mobiles, education, travel, imports etc.  Their grounds are that anything but subsistence farming is luxury goods. They do not see that a working economy required mobiles, education, travel and imports. They also do not see that revenue increases also require a vibrant economy. On a lackluster economy, it is probably better not to seek large revenue increases.

When revenue targets are missedm they look to expenditure control. Sounds great but how does that happen? The Finance Ministry is famous for choking off funding for development and other non-wage expenditures because salaries cannot be reduced. In fact, bureaucrats want to increase their salaries. So what is left is nonwage expenditures where, computers, stationary, research, maintenance are cut. The result is productive activity falls.

MOF has does cuts blindly. Quarterly targets are met arbitrarily. Expenditure releases are slowed down either through interventions of Financial Advisors that are MOF emissaries in every ministry, or by MOF slowing down the writing of checks. As a result, project work is slowed down often piling contractor penalties and other cost overruns. Through senseless budget management, MOF slows down productivity and growth.

The Ministry of Finance Examine (MOF) always proudly proclaims that all non-wage expenditure are being cut. Is starving PSEs and universities of working capital something to cheer?

As an example consider electricity. The government fails to price energy properly. It refuses to have professional regulatory bodies or allow a market determined price to evolve. As the owner of the discos it has an obligation it run them well. But the concerned ministry has no interest in professionalizing management or running the discos efficiently. Instead, employment is excessive and positions are sold for corruption gains.

Furthermore, the government has made rent seeking commitments to industry and the IPPs.

The losses emanating from these structural problems (mainly from the poor governance) in the power sector have to be picked up somewhere. If the government does not want reform, my contention to the then FM was you must pay. His response, what about the budget? 

Good question! Here is where austerity comes in. If the MOF does not pay, it leads to circular debt. The circular debt chokes up the system which in turn causes load shedding and eventually slows down growth.So either hasten the reform or pay up!

This vicious cycle cost the economy a loss of 2-3% on our annual growth rate. Rough estimates would suggest that about 800,000 jobs were lost. No effort was made to understand either the nature of the problem or to address the human and the organizational capital in the power sector.

What needed to be done was to lead with reform. MOF should be paying the bills to keep the economy going while a Ministry of Reform under the close guidance of the cabinet and the PM should be monitoring deep structural reform in the sector. In other words a transparent reform process has to be built up and our political leaders forced to develop an attention span for it.

This reform may not be cheap. On the contrary such reform may require funding for activities like golden handshakes. Building better management control systems, building technology, making postponed maintenance. Certainly that will be at odds with fiscal arithmetic and austerity.

Our energy shortage is partly artificial caused by fiscal arithmetic and partly by a bureaucratic system that lacks capacity and the ability to manage complex systems such as energy.

So are our problems with railways, PIA, universities etc. All these assets are poorly managed in need of reform but current austerity economics will not allow it.  

Mindless budgetary targets not embedded in reform is what eats away productivity and growth. And that is austerity.  Austerity creates an economy of shortages as in Pakistan.

What they forget is that in a growing economy adjustment
is are easier. But thinking growth requires economics not fiscal arithmetic.