PAKISTAN & EU:TRADE POTENTIAL The Bottlenecks and Roadmap for Reforms

02/10/2023by PRIME Institute PRIME Institute No Comments

PAKISTAN & EU:TRADE POTENTIAL

The Bottlenecks and Roadmap for Reforms

Trade plays a vital role in driving economic growth, but Pakistan’s trade performance has been volatile, with stagnant export growth and a rising trade deficit. The Generalized Scheme of Preferences (GSP) Plus is offered to a select group of exporters to the European Union (EU) based on a set of pre-defined criteria and the fulfillment of various conventions regarding human rights, labor rights, good governance, climate change and environment protection. Pakistan received the status on January 1, 2014. Pakistan currently is a signatory to all the 27 conventions and is also a signatory to the additional conventions proposed under a new revised scheme that is likely to replace the current one that is expiring at the end of this year. Although, Pakistan is not in imminent danger of losing the preferences awarded to its exporters, uncertainties loom as Pakistan faces challenges that can adversely impact its status. While Pakistan has experienced growth in trade with the EU during the GSP Plus period, it is imperative that the exporters continue to receive the preferences. To fully exploit trade potential and effectively compete with counterparts, it is essential to assess the trade patterns. This report undertakes a comprehensive exercise to not only determine the trading patterns with the EU but also bring forward recommendations that can help boost Pakistan’s exports to the EU and to the world.

This study outlines and evaluates the pattern of imports into the European Union (EU) from Pakistan, highlighting not only on the significance of the trading relationship between the EU and Pakistan but also emphasizing on the potential threats and risks if the preferences to Pakistani exporters offered through the GSP Plus Scheme are revoked. The main objective of this report is to identify the bottlenecks hindering trade growth between Pakistan and the EU and propose reforms to enhance bilateral trade relations such that Pakistan can benefit more from the GSP Plus scheme. The study undertakes a comparative analysis as it considers the trade patterns between the EU and Bangladesh, India and Vietnam. These three countries are major regional counterparts that are likely to influence the trading relationship between Pakistan and the EU.

Pakistan is the largest beneficiary of the GSP Plus scheme. The EU imported $9.1 billion from Pakistan in 2021, increasing from $5.4 billion in 2013. More than $6 billion of the imports in 2021 were under the GSP Plus preferences. The largest industry was the textile industry, accounting for approximately 80 percent of the imports. While imports into the EU from Pakistan in rice has increased significantly since 2017, the imports in leather have decreased. The share of leather products in imports decreased from 10 percent in 2013 to 5 percent in 2021. Further, the set of top market destinations in the EU for the four Asian countries is approximately the same, suggesting that import demand is likely to be generated from within these markets. This highlights the need to emphasize product diversification. Analysis on the patterns of imports in other non-traditional industries is crucial for policymakers seeking export diversification. This study further considers four major products from industries which are not traditionally export-oriented in Pakistan, namely denatured ethy-alcohol, medical instruments, inflatable balls, and footwear as products in which Pakistan has shown relatively higher potential in terms of trade with the EU.

This report presents various challenges with the help of different trade indicators. For instance, Pakistan reports higher values of revealed comparative advantage in the exports of textile products, leather products and rice, but Pakistan and Bangladesh report relatively lower unit values, particularly in the exports of textile products to the EU. Indian and Vietnamese exporters are less likely to compete against Pakistan in terms of the unit value of imports into the EU, while Pakistani exporters may face competitive pressures from Bangladeshi exporters. Further, this report considers the imposition of technical non-tariff measures and the degree of regulatory convergence achieved towards those imposed by the EU. Although the indicator on the adoption of NTMs scores high for the Asian counterparts of Pakistan, the indicator on regulatory convergence scores low for all countries. Pakistan with low frequency and coverage of technical NTMS, lacks technical NTMs on its imports. This suggests that Pakistan does not impose pre-defined measures to counter the imports of substandard and dangerous goods into the country as observed in its counterparts, which has implications on quality of goods imported and produced in Pakistan. Customs and transport-related firm-level obstacles are briefly discussed towards the end of the report. Pakistani firms are the most constrained in this aspect.

One of the more important findings highlighted in this report is that the revocation of the GSP Plus status will lead to a trade loss of more than $3 billion, with significant loss in exports of bed linen, and men’s and women’s trousers. The biggest market affected will be Germany. The loss of $3 billion is significant as Pakistan faces critical balance-of-payment related challenges. Hence, it is crucial that all efforts are made to ensure that Pakistan complies with all the requirements to continue with the status. The loss of status will have a profound impact on the economy.

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Simplification of the Pakistani Tax Regime

20/03/2023by PRIME Institute PRIME Institute No Comments

Simplification of the Pakistani Tax Regime

Pakistan’s tax system has been faced with several challenges including low tax-to-GDP ratios, a narrow tax base, and high rates of tax evasion.

Pakistan’s tax-to-GDP ratio was only 10.4% in 2020, which is significantly lower than the average of 15.3% for countries in the South Asian region (World Bank). Economists and policymakers have proposed that a low rate, flat, broad-based, and predictable tax regime can help Pakistan overcome these challenges and achieve greater economic growth and development. The proposals are reflected in the Pakistan Charter of Economy.

Low Rates

Several reasons support the implementation of a simplified tax system with a low tax rate. First, low tax rates encourage taxpayers to comply with their tax obligations. High tax rates can discourage people from working, investing, or saving, as the cost of these activities may be too high compared to their after-tax returns. Conversely, low tax rates provide individuals and businesses with more financial resources to engage in productive economic activities, which leads to increased economic growth and development.

Furthermore, a one-percentage-point reduction in tax rates can lead to a 0.3% increase in GDP in the short run and a 0.6% increase in the long run, according to a study by the International Monetary Fund (IMF). Tax evasion in Pakistan amounts to about 70% of the total tax revenue (Pakistan Institute of Development Economics).

Lower Administrative Costs and Compliance

A simplified tax system can lead to lower administrative costs, resulting in significant cost savings for the government. According to a World Bank report, Pakistan spends approximately 1.7% of its GDP on tax administration, which is higher than the average for countries in the South Asian region. Streamlining the tax collection process and reducing the need for expensive technology and personnel could lower administrative costs.

The current tax system in Pakistan is characterized by a multitude of tax rates, exemptions, and deductions, making it complex and difficult for taxpayers to understand and comply with. A flat tax rate would simplify the system, reduce the need for tax planning, and promote greater transparency and accountability. A World Bank study found that a flat tax rate could increase compliance by up to 7%, as taxpayers would be less likely to engage in tax evasion or avoidance.

A Broader Base

A broad-based tax system is desirable because it ensures that all individuals and businesses contribute to the tax base. Pakistan’s tax base is narrow, with only a small proportion of the population paying income tax. A broad-based tax system would ensure that all individuals and businesses, regardless of their income or status, contribute to the tax base. This would increase the revenue raised from taxes and promote greater fairness and equality in the tax system.

Broadening the tax base by just 1% could lead to an additional Rs. 50 billion in revenue, according to a study by the Pakistan Institute of Development Economics. Dr. Ikramul Haq in 2019 estimated that a flat tax rate of 15% could result in a tax revenue increase of up to 0.9% of GDP in Pakistan

Predictability and Certainty over the Long Run

A predictable tax system is desirable because it promotes certainty and stability for taxpayers. The current tax system in Pakistan is characterized by frequent changes in tax laws and regulations, leading to uncertainty and instability for taxpayers. A predictable tax system would provide taxpayers with greater certainty and stability, allowing them to plan their finances and investments more effectively. Countries with more stable tax systems tend to have higher rates of economic growth and development, according to a study by the Tax Justice Network.

Limiting Corruption

A simplified tax system can reduce corruption and tax evasion, leading to higher tax revenues for the government. According to the Pakistan Institute of Development Economics, tax evasion in Pakistan amounts to approximately 70% of the total tax revenue. A simplified tax system with lower tax rates and reduced complexity could reduce opportunities for corruption and increase tax compliance, resulting in higher tax revenues for the government.

Economic Efficiency

Simplified tax regimes can allocate resource more efficiently, as individuals and businesses are not deterred from engaging in economic activity due to high taxes or a complex tax system. According to a study by the International Monetary Fund, a simpler tax system can lead to higher investment, greater innovation, and higher levels of economic growth. This is because a simpler tax system reduces the time and resources required to comply with tax regulations, which can be a significant barrier to economic activity.

Low rate, flat, broad-based, and predictable tax regime can bring significant benefits to Pakistan’s economy. Such a tax regime would incentivize taxpayers to comply with their tax obligations, simplify the tax system, broaden the tax base, and promote certainty and stability for taxpayers.

Does austerity lead to prosperity?

10/03/2023by PRIME Institute PRIME Institute No Comments

Does austerity lead to prosperity?

Best way to achieve austerity, prosperity is to end govt monopoly over economic resources

Ali Salman | March 06, 2023

The prime minister, while addressing the news conference announcing austerity measures, said “we have to make collective efforts to make the country prosperous.”

The federal cabinet has announced an “austerity package”, that includes steps such as early office opening, early closure of shopping centres, ban on the purchase of luxury vehicles by the government, sale or lease of government-owned properties, ministers to forgo pays and perks, and travel on economy class.

This, if implemented, will lead to annual savings of Rs200 billion, according to the government estimates.

The steps such as 15% reduction in the government expenditure, ban on the import of luxury vehicles at taxpayers’ expense and commercialisation of state property are appreciable. We should appreciate this even for a symbolic value.

However, I ask this question: does austerity lead to prosperity, as the prime minister said?

First, we need to differentiate between austerity by a government and austerity by households and private firms. Almost all households and all private firms, which are going concern, do not spend more than what they earn. They are already austere. If they overspend, they go bankrupt quickly.

However, the governments do that all over the world. They do not go bankrupt due to their political power and monopoly over economic resources.

Second, the prime minister needs to understand that no nation has become prosperous through austerity.

The best way to achieve both government austerity and social prosperity is that we should end government monopoly over any economic resource. This should not be justified only on austerity grounds, rather it should be part of a permanent policy.

If we need any policy at all, we need a prosperity policy. In its Charter of Economy, PRIME has outlined such a policy proposal.

Government ownership and control of primary urban properties, agricultural, commercial and industrial businesses, and trade of commodities should be done away with. According to this charter, “The government may not monopolise any economic resource. PSO’s monopoly over import of most fossil fuels will end.”

If done in a competitive manner, this will usher in an era of prosperity instantly. It will also help the government achieve its objective of austerity. We give away hundreds of billions of rupees each year to the government so that it can wastefully spend on running businesses inefficiently.

Giving up control and ownership is hard. Politicians will feel powerless once we take back their power to give contracts and jobs through government businesses.

These are really the hard decisions which no government or political party is willing to seriously consider. Instead, we are asking the businesses and citizens to “do more”. Increasing the GST is a tool for the same.

Shutting down businesses at 8pm is another futile idea which seems to have gained a lot of traction. Energy conservation through administrative measures is a bad idea. Let me give one example.

Everyone is aware how we waste water in our farms, houses and factories. The reason is very simple. We are not willing to price the water.

When I was an independent director of Punjab Saaf Pani Company during 2014-2016, I proposed that the government should adopt the Changa Pani model, which is a community-managed project of drinking water supply through a pipeline in Bhalwal.

Water is priced through meters and households pay as per their consumption. Results are amazing. Not only people pay, but the system is maintained while the government-run water supply schemes become dysfunctional.

Then chief minister rejected this proposal. Instead, the governments keep wasting billions of rupees in installing tube wells. By changing the incentive system, we can save these billions and encourage people to conserve as a result of pricing.

Talking about austerity, our favourite bogeyman is import. Curbing imports, as every finance minister from Tarin to Miftah to Dar, and most of the economists, would like us to believe, is the key to managing our accounts.

Miftah started it and it has continued till today in practice. Little did anyone realise that we were tinkering with the very basic nerve of our economy. Once we started stopping imports, even on the fallacy of luxury/ non-luxury distinction, we strangulated the trade flow.

Recently, soap manufacturers released an ad, demanding that the government include it in “essential industries”. Government thinks washing hands is a luxury. We did not stop there.

Import restrictions led to the rationing of dollars and in fact creation of a parallel exchange market. That brought us on the verge of default.

Economics is a tricky subject and sometimes we are caught by the intended consequences following intentions only.

As Bastiat observed centuries ago, we need to differentiate between the seen and the unseen. We need to bring in consequences in our thinking. While people who are talking about austerity are good people and they have noble intentions, their solutions are inconsequential.

The writer is the executive director of PRIME, an independent economic think tank based in Islamabad

This article was originally published in The Express Tribune on March 6, 2023

Revisiting “D” word: Pakistan should opt for debt restructuring

08/02/2023by PRIME Institute PRIME Institute No Comments

Revisiting “D” word: Pakistan should opt for debt restructuring

External debt servicing burden country faces today is one of the highest in the world

Ali Salman | January 09, 2023

In its recent media release, the independent Economic Advisory Group (EAG) has encouraged the government to consider initiation of debt restructuring negotiations to avoid the risk of “disorderly default”.

It clarified that “this will…come at the expense of meeting additional conditionalities agreed with the creditors, who will bear the cost of restructuring. None of these options are without economic pain, but a well-managed restructuring process can allow the economy to recover faster than otherwise.”

In this article, I will advocate this view that given the trade-off, the Ministry of Finance should seriously consider debt restructuring.

To provide a context, Pakistan’s external debt servicing has increased from $6.5 billion in FY13 to close to $26 billion in FY23. This is equivalent to 65% of Pakistan’s exports (estimated at $40 billion in FY23) and 37% of exports and remittances.

In 2013, Pakistan’s external debt servicing was only 20% of exports. The external debt servicing burden (as a percentage of exports and remittances) that Pakistan faces today is one of the highest in the world.

The finance minister has repeatedly maintained that Pakistan will not consider debt restructuring and will honour its external debt servicing. So far, he has managed to deliver on his promises.

It seems that he is pursuing a two-pronged strategy: one is reliance on friendly countries like China and Saudi Arabia. Last week’s army chief visit to Saudi Arabia and a telephonic contact between the premiers of China and Pakistan must be related to the same strategy.

The second part of his strategy seems to secure additional funding from external sources, especially the Geneva conference, for flood rehabilitation.

Pakistan is seeking $16 billion of grants and debt under this head, from which it has received about $4 billion already. This may be sufficient to secure external debt servicing for FY23 without the need of any restructuring.

Although the international agencies are demanding strict control over the planned spending, money, in the end, is fungible.

However, if Pakistan’s hopes of securing significant additional external funding for flood rehabilitation are not fulfilled, then the reliance on expectations from friendly countries will become critical.

Also, pressure to increase electricity tariff and fuel surcharge will be difficult to resist, which will be detrimental to the cost of living and the dwindling political capital of PML-N.

Alternatively, we propose that Pakistan should sit down with all creditors to agree on a new schedule of external debt servicing and at the same time lift administrative controls on import and import payments immediately.

Once we do it, business activities will restore and economic output will begin to gain momentum. While trade deficit may increase as a result, this should not worry us.

About 90% of Pakistan’s imports are non-luxury in nature. It means that it is very costly to control imports without the risk of an overall economic slowdown. We have already witnessed it in the last quarter of 2022.

Any calls for import substitution at the policy level should be strictly discouraged, while markets may be encouraged to become more competitive.

Importantly, this strategy will minimise the gap between the open market and black market exchange rate. Once this is done, the remittance flow through banking channels will not decrease and exporters will be encouraged to realise their receivables sooner than later.

This will bring a substantial increase in the monthly dollar inflow, which will provide an additional cushion to Pakistan’s forex reserves, thus giving some degree of confidence to the policymakers, and to the market.

Debt restructuring will also decrease the pressure on the government to increase electricity tariffs or petroleum levy, though in the end, we will need to respect international prices.

There will be genuine apprehensions of a further downgrade by the international credit rating agencies in the case of debt restructuring. This concern is not well-placed.

First, Pakistan’s bond has already been downgraded to the junk status despite timely payments on Eurobonds in December 2022. This was in the making since the middle of 2022, owing to the catastrophic fiscal decisions made by the ousted PTI government.

In this context, the finance ministry under Miftah-Dar deserves credit for reducing the risk of default at least in the recent past.

That does not preclude the risk of a disorderly default in the future. The fact that banks are dishonouring LCs of importers is a default at least at the private-sector level.

The banks are claiming difficulty in release of dollars due to administrative controls by the central bank. Dar has made it public that while he is not going to change the SBP autonomy status, he believes that this has gone too far.

Ultimately, credibility, predictability and transparency in economic decision-making is the most important strategy for any government. This should be rules-based and not based on discretion.

Economic stability can be ensured by sticking to these rules and by institutionalising economic governance.

As the EAG press release reminds us, policymakers must acknowledge the difficult choices the country faces and overcome policy paralysis to avoid the dire consequences of a disorderly default.

The writer is the executive director of PRIME, an independent economic think tank based in Islamabad

This article was originally published in The Express Tribune on January 9^th, 2023.

A Critical Assessment Of Pakistan’s Sugar Sector

19/11/2022by PRIME Institute PRIME Institute No Comments

REFORMING STATE-MARKET NEXUS: A CRITICAL ASSESSMENT OF PAKISTAN’S SUGAR SECTOR

In 2020, the Government of Pakistan conducted an inquiry into the sugar industry. The inquiry committee found irregularities in the sugar mills and claimed the prevalence of cartelization by sugar mills. Later the government constituted a committee to suggest recommendations for the overhaul of the sector and promote price stability. The committee also acknowledged the prevalence of excessive regulations and their contribution to the distortions and recommended removal of the excessive administrative footprint.

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To read more, click here: PRIME Policy Report – Project Sugar

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Minutes of Consultative Roundtable

16/11/2022by PRIME Institute PRIME Institute No Comments

Minutes of Consultative Roundtable

PRIME organized a consultative roundtable on 20th October 2022 to facilitate a discourse on the sugar sector and solicit views on the draft report from various stakeholders. The event was attended by government dignitaries, members of the Pakistan Sugar Mills Association, farmers, agriculture specialists and economists. There were 7 speakers and 30 individuals from different institutions participated.

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To read more, click here: Minutes of consultative roundtable.

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Position Paper on Information Technology Agreement

07/11/2022by PRIME Institute PRIME Institute No Comments

Position Paper on Information Technology Agreement: Why Pakistan should accede

This paper presents a Pakistani case of accession to the WTO Information Technology Agreement which obliges the signatories to withdraw any import duties and taxes on a list of IT and telecom equipment. Some of the products under the coverage of ITA are: computer hardware and software, telephones, semiconductors, measuring, testing and analysing instruments etc.

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To read more, click here: Position Paper on Information technology agreement

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Trade liberalization and economic growth – A case study of selected SAARC Countries

09/09/2022by PRIME Institute PRIME Institute No Comments

Interest in the detection of determinants of economic growth and discovery of their nature of relationships with economic growth has been long standing. This is imperative that higher economic activity leads towards higher level of national output and improved living standards. But with the induction of new thoughts aged controversies went away, while indeed some new crept in. Topical research pinpoints the trade liberalization as a critical factor for economic well-being. What are the outcomes? Either positive or negative but accrual of trade obstructionis becoming a matter of concern with global implications. International trade has its unique importance, because protectionism and relaxation trade directly or indirectly affects the global economy and occasionally generates the world economic crisis. It is observed that trade problems are born before the universal crises struck, so one cannot deny the unmatchable significance of commercial policy for economic growth in any economy.

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Trade liberalization and economic growth – A case study of selected SAARC Countries

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Trade in Services

09/09/2022by PRIME Institute PRIME Institute No Comments

This study was carried out from the 3rd to 24th June 2016 by PRIME (Policy Research Institute of Market Economy), Islamabad as a part of a CUTS International and Australia Aid Project entitled “Geneva Trade and Business Connexion: South and South East Asia”. The main objective of the project is to improve the capacity of the small and medium enterprises (SMEs) to provide input into their government and their WTO delegations so as to make their negotiating positions more fully aligned with on the ground conditions faced by small scale enterprises.

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Trade in Services

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Trade Facilitation Agreement – Improving capacity of SMEs

09/09/2022by PRIME Institute PRIME Institute No Comments

This study was carried out from 4 to 25 May 2016 by PRIME (Policy Research Institute of Market Economy), Islamabad as a part of a CUTS International and Australia Aid Project entitled “Geneva Trade and Business Connexion: South and South East Asia”. The main objective of the project is to improve the capacity of the small and medium enterprises (SMEs) to provide input into their government and their WTO delegations so as to make their negotiating positions more fully aligned with on the ground conditions faced by small scale enterprises.

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Trade Facilitation Agreement

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Technical Barriers to Trade

09/09/2022by PRIME Institute PRIME Institute No Comments

This study was carried out from the 17th August to 14 September 2016 by PRIME (Policy Research Institute of Market Economy), Islamabad, as part of a CUTS International and Australia Aid Project entitled “Geneva Trade and Business Connexion: South and South East Asia”. The main objective of the project is to enable the private sector in these countries to apprise the relevant governments and their WTO delegations of the ground conditions faced by exporters, and thus have more meaningful negotiation positions.

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Technical Barriers to Trade

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Position Paper on Export Development Fund

09/09/2022by PRIME Institute PRIME Institute No Comments

Export Development Fund (EDF) was formally established through an Act namely ‘Export Development Fund Act 1999’ with the purpose to strengthen and develop infrastructure for promotion of exports through Export Development Surcharge (EDS). In 2005 an amendment came, which provides that Federal Government is required to collect 0.25 percent of export receipts and transfer to EDF maintained by Ministry of Commerce in the following year.

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Position Paper on Export Development Fund

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