Tag Archives: economy

Afghanistan: Poppies aplenty

Afghanistan’s farmers earned $1.4 billion from opium in 2011, an increase of 133 percent over the year before. That’s about 9 percent of the country’s GDP. Policy options to constrain poppy cultivation have all fallen short.

Poppy cultivation was at its peak in Afghanistan in 2007, but recent reports suggest that there is to be a bumper crop this year. According to a recent UN report, there is an increase in production in 9 provinces since 2011. The provinces of Kandahar and Hilmand are the biggest producers with increases expected in the north western provinces. The increasing price of opium is to blame for this, as well as conditions of poverty, insecurity, corruption and mis-governance. According to the above mentioned UN Report, “High sales price of opium” was the predominant reason (71%) for growing opium (77% in 2011). About 13% of respondents in villages with opium cultivation cited that poverty was the reason for cultivating opium. This was followed by “high income from little land” (5%) as reason for cultivating opium.

Expected opium cultivation trends in 2012 (by province)

According to The Economist, this has reversed the gains made through the the British government’s “food zone” initiative which was one effort to cut down the opium trade. Under this initiative, farmers were subsidized to grow alternative crops, with the successive dismantling of poppy farms. The zone is implemented in central Helmand where security conditions have improved with an inflow of British, American and other foreign troops. However, this has led to the trade being transferred to neighboring Farah, as well as drug barons striking deals with the Taliban.

Price of dry opium and food grains in 2011 and 2012 (US$/kg)
Opium Winter Risk Assessment Survey, 2012

Thus until an alternative-crop programs does not become generally applicable, gains in one province will just move production to another. There is evidence to suggest that more subsidies and facilities to farmers could make them switch crops. There is a strong, statistically significant association between lack of agricultural assistance and poppy cultivation according to the UN. Villages, which had not received agricultural assistance, were more likely to grow poppy than villages which had received assistance. But with the security conditions, Taliban, and weak state of government this seems unlikely to happen in the medium term.

The US has already spent $4.7 billion on anti-drug programs in Afghanistan, with minimal results, which is why their policy shifted to “food zone” type of programs. A simple yet drastic option is to buy up all the opium with the same amount of money that was previously been used for anti-drug programs. A recent New York Times article suggests that if the United States and its partners bought all of Afghanistan’s opium, a major source of corruption in Afghanistan would disappear along with violence in Taliban controlled areas as well as global heroin and morphine addiction. The opium could be redirected to medical use, like morphine which is in globally in short supply. This type of “buying up” has the potential to make the drug trade legal and provide and honest living for farmers. India, for example, has implemented a licensing system where accredited farmers grow opium and it is processed and exported. Even with leakages into illicit markets, there would still be progress.

While the above options seem unlikely to be implemented soon, foreign donors have spent hundreds of millions of dollars on border security and counter-narcotics projects designed to cut trafficking through Asia. The UN Office on Drugs and Crime estimates that 30% of Afghan opiates (including 90 tonnes of heroin a year) pass through Central Asia on their way to Russia, most of them through Tajikistan. The Economist believes that the industry is equivalent to 30-50% of Tajikistan’s GDP. NATO which is trying to withdraw from the region does not want to upset the status quo to keep the Tajik government supporting NATO.

Moves by the NATO alliance to disrupt Afghanistan’s drug trade has been slowed by objections from member nations that say their laws do not permit soldiers to carry out such operations and that this distracts from the real purpose of fighting terrorism. It seems that the global black market for opium will continue to do well in coming years.

Saadia Gardezi. Pakistan Policy Group 2012. 

Flashback to the NFC Award debates: What about the budget deficits?

The NFC award after its approval in 2009 has become an issue of last year, so I wrote this to try to understand what it means for the current economic scenario. 

In December last year, the Annual Conference of the Pakistan Society of Development Economists, our national experts came to the conclusion that the 7th NFC Award approved in 2009 was a political and not an economic Award.

Pakistan’s macroeconomic management has remained centralized until 2009-10. However,the 7th NFC Award and 18th Amendment contributed heavily to the decentralization of the macroeconomic management. We are all aware of the problems plaguing the economy, a narrow tax base (A World Bank report from 2004 states that out of the 39.1 million employed only a paltry 2.14 million, or 5.59 percent, paid taxes), double-digit inflation, rising debt servicing and a large budget deficit. In such time, is such decentralization logical?

It is common economic knowledge that a good government is that which can maintain fiscal discipline by keeping the budget deficit low. But in developing countries, especially Pakistan, governments love to spend but hate to collect taxes. So does the NFC Award that hands over 56 percent of tax resources to the provinces help maintain fiscal discipline? For some like Ashfaque H. Khan, Dean of NUST Business School in Islamabad and Sohail Zafar, Dean of the Lahore School of Economics Business School, the answer is a big ‘no’. Governments federal and provincial are never going to spend this among prudently.

Why so? Well the timing is such that the federal government’s expenditure is growing rapidly (more than doubling of interest payments in three years from Rs.365 billion to over Rs.800 billion this year, high defence spending, power sector subsidies of over Rs.175 billion, and crumbling public sector enterprises eating resources). There are hardly enough resources for the federal government to meet it’s own set expenditures, how does it expect to cater for provinces? The provinces themselves only generate 0.5% of total tax revenues; and the NFC Award further dampens the incentives to step up tax collection.

A historical overview of the NFC Awards shows that even with the amounts promised aren’t transferred. Well simply because they don’t exist. The data below illustrates his fact (there isn’t data available on the latest NFC Award).

Only around 75% of expected funds are typically forthcoming. NWFP is the worst, receiving limited funds of around 50–60%. Baluchistan is the only province receiving more than what it had expected. This discrepancy has resulted in a considerable shortfall of funds to most provinces, forcing them to borrow to meet their expenditure needs. It has also made planning at the provincial level more difficult.

Pakistan can only come out of the present economic crisis if it maintains fiscal discipline keeping its budget deficit low. But economists feel this may not be possible with the 7th NFC Award unless the provinces themselves can deliver surpluses to meet the federal deficits.

‘Not a panacea’- Inflation, private investment and growth in the new Budget 2011-12

Published in the Friday Times, June 10, 2011 in their issue on the budget. 

Current GDP growth estimates for Pakistan are at 2.4%. A figure insufficient to create jobs for the 2 million strong that join the labour force every year. According to IMF estimates an annual growth figure of 8% is needed to absorb the labour force while our target is 4.2%. Inflation, the evil twin of growth, is likely to increase with soaring oil and food prices threatening the current account into deficit. And then with the sad state of our finances, what of foreign donor confidence and private investment?

The budget has come under heat from major economists. Syed Akbar Zaidi for one said that “the finance minister’s speech yesterday was empty and disappointing. It was devoid of merit and failed to identify or address any of Pakistan’s numerous problems.” He went on to say that the budget panders to politicians due to its proximity to the election. Former Finance Minister Shahid Javed Burki was of the view that Hafeez Shaikh’s team consisted of brilliant minds, yet didn’t do much with the budget. Burki is of the opinion Hafeez Shaikh did well with the privatisation portfolio under Pervez Musharraf’s government and should have used his experience to hand over some of the poor performing public sector corporations. “Where will this budget take the economy over the next financial year? Not very far. It will not revive economic growth, not reduce the dependence on foreign flows, not reduce the incidence of poverty, nor integrate the economy with rest of the world.” But as Finance Minister Hafeez Shaikh says, it’s a budget not a panacea.

Key problems identified in the current Economic Survey released by the State Bank are persistent and high inflation, low growth, low revenue collection leading to a high fiscal deficit that continues to add to the overall debt, and a dramatic fall in the investment rate. As Dr Sohail Zafar, Dean of the Business School at the Lahore School of Economics put it, “It’s a gloom and doom scenario, and all attempts to be consciously optimistic are not supported by sane logic and data.”

Of deficits, inflation and other sins: Consider the 4.2% growth target for instance, not impossible to achieve, not enough for our needs and yet a bit ambitious considering last year’s performance. Other targets like decreasing inflation to 9% seem too optimistic. The idea here is that the smaller deficit target will reduce the printing of money and reduce inflation. All this requires strict fiscal discipline, and actually meeting the 4% fiscal deficit target which we bounded over last year.

The central bank has the same view, that the government tightening its belt will decrease inflation, reduce borrowing costs and encourage consumer demand. However, government borrowings have increased 55% since the end of the last fiscal year. In an interview with Bloomberg (June 4), director of the monetary policy department, Hamza Ali Malik said that further tightening would be difficult, “Low growth, high inflation, rising debt. It’s a nightmare for any economy.” Furthermore, Dr Sohail Zafar says that expectations about foreign resources to meet the deficit seem are not likely to be realized.

The core problem facing Pakistan that affects the situation of government expenditures is of taxation and revenues. The tax policy has been somewhat contradictory. On the one hand the finance minister said that only 1.5 million people have filed their tax returns this year, only half of those who are registered and over 70,000 have been given notices. On the other hand the budget raises the taxable income level by Rs 50,000 to give relief. Then there’s a 15% pay increase for government employees, above the 50% increase given last year. How’s that for fiscal discipline?

The one percent decrease in the GST rate, from 17% to 16% will hardy impact inflation. As Irfan Hussain writes in Dawn (7 June), “If international prices of sugar are rising in Chicago, not even a Supreme Court suo motu notice will keep them down in retail outlets across Pakistan. Artificially low prices enforced by the state will only succeed in driving stocks underground, and encourage the creation of a black market.” Which brings us to the issue of subsidies and price control.

Does subsidy removal cause inflation? The decrease in GST is to offset the effect of the withdrawal of exemptions in fertilisers, pesticides, tractors, leather, surgical items, sports goods, carpets and some other sectors. There has been much hue and cry over this cut that this would cause inflation. Speaking at a post-budget press conference on 4th June, Dr Hafeez Shaikh said this would not happen because the subsidies would be made more targeted so they were not misused by wealthy people.

Subsidy removal, without spending the associated savings, may increase poverty due to the rise in input costs relative to the selling prices of products sold by most firms and farms. But the government’s fiscal policy will ultimately determine the effects. Inflation resulting from subsidy removal can be reduced with a conservative fiscal policy. Inflation comes from two sources: the initial increase in general prices due to the higher cost of inputs and more spending by the government as funds are freed up. Therefore, if their goal is to reduce the inflationary effect, the government has to keep spending to a minimum, focusing only on areas that can increase the country’s productive capacity. Our focus is defence (Rs 495 billion) and interest payments (Rs791 billion).

Even with an expansionary policy, to keep inflation low, government spending of associated savings needs to increase purchasing power and raise production. Wasteful public projects which do not add much to the country’s productive capacity should be avoided and private production encouraged. The new growth strategy by the Planning Commission of Pakistan focuses solely on the private sector as an engine of growth.

Pakistan and the private sector: Private investment in Pakistan has been shrinking for some time. Investment in the large-scale manufacturing has declined by 32% (compared to 17% last year). The investment-to-GDP ratio dropped to below 17% last year because of decreasing private investment. The manufacturing sector has been hit the hardest.

An improvement in electricity generation will also have a large impact on production levels and costs in the country. It should kept in mind, however, that such investments may take years to materialise.

It seems that some efforts have been made in this budget to aid private sector growth by reducing some taxes and duties, but they may be too lean. All special excise duties have been abolished. Regulatory duty on 392 items have been abolished. It is now limited to luxury vehicles, cigarettes, arms and ammunition, betel nuts and sanitary ware. Federal excise duty on cement will be phased out in three years. The federal excise on beverages has also been reduced from 12% to 6%. The tax rate on interest income from government securities will be 10% with no tax return requirement. The finance minister also announced on June 4 a five-year tax holiday on loan-free equity investments.

It is unclear whether this budget will do well for industry. Dr Zafar is of the view that there is a disconnect between monetary policy and the fiscal policy embodied in the budget. “Interest rates may be low theoretically, but are too high practically to push the private sector. New investments in the industry are not likely to show improvement during the next year.” But at least no new taxes were imposed to hurt investment.

Saadia Gardezi is a political economist