Previous Quarterly Editions
Expropriation Risk: 56 55 53 55 Political Violence Risk: 60 65 62 64 Terrorism Risk: 93 92 90 90 Exchange Transfer and Trade Sanction Risk: 60 60 63 64 Sovereign Default Risk: 65 65 66 64
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Finance Minister Asad Umar said in January that Pakistan will not be returning to the IMF immediately for another bailout but will instead explore other options for dealing with its economic problems. The last Extended Fund Facility programme, which ended in September 2016, was worth some 6.7 billion dollars, and the latest round of talks with the Fund began in November. However, Prime Minister Imran Khan, who came to power in the July elections, highlighted the drawbacks associated with the expected IMF conditions before the talks commenced. These include reducing the budget deficit from above 11% to 4-5% of GDP by increasing the amount of tax revenue brought in as well as by cuts in spending. Khan's government introduced an amended finance bill in September in which it pledged to reduce the budget deficit to 5.1%, but a revenue shortfall during the first half of fiscal 2018-19 frustrated this hope. It has had more success in securing financial assistance agreements from 'friendly' countries, with six billion dollars from the UAE in January following a similar sum from Saudi Arabia in October. In November, China agreed to provide an unspecified amount, and Beijing may now be seeking a more strategic presence in the country in exchange. However, support from allies will not eliminate the need for IMF support because this will make it easier for Pakistan to draw on other international sources of funding and restore investor confidence. Khan also recognises that, with little scope to cut expenditure, his only sustainable option is the politically challenging route of increasing income. Although Pakistan’s potential tax revenue is around 22% of GDP, its actual revenue is less than half that figure. This is mainly because the informal economy accounts for some 70% of GDP, but low levels of taxpayer compliance are also an important factor. To raise revenue, the government must encourage more people to move into the formal economy while persuading those already liable for tax to pay it. However, successive administrations have made little progress on either. With a low revenue base and the prospect of an economy that is slowing from 6% growth in the previous fiscal year to under 4% in the current one, Khan will struggle to live up to his promise of creating ten million jobs and building five million low-cost housing units over the next five years. Although it is likely that both the army and the intelligence services wanted to see him in a fragile position at the head of a weak multi-party coalition government after the July elections, the PTI instead did well enough to govern without the need to reach out to hardline religious parties. However, the second and third largest parties in the National Assembly, the PML-N and the PPP, have not cooperated with the PTI, staging walkouts, holding up committee appointments, and taking other steps to disrupt the already leisurely pace of the legislature.
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One consequence of the government’s need for revenue may be a delay in the pledge to bring corporate taxes down from 29-30% to 25%. Another may be more indirect taxation; the government has already doubled the previous rate of General Sales Tax (GST) on petrol to 17%. The PTI sees a more active private sector as vital to boosting the economy and will work to increase the slow rate of privatisation and attract greater investment. However, the prospect of more strained relations with Washington, which recently suspended military payments and aid amid accusations that Islamabad is not doing enough to curb militancy and is too close to Beijing, could be making some potential investors cautious.
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Large-scale demonstrations in August led by the Islamist Tehreek-e-Labaik Pakistan (TLP) to demand tougher action on blasphemy posed an early challenge to Imran Khan, who initially tried to accommodate religious conservatives. However, the Supreme Court’s acquittal in October of Asia Bibi, a woman previously convicted of blasphemy by a lower court, sparked more violent TLP-led protests across the country. But the TLP crossed a line when it called on those in the military to mutiny. In an unexpectedly strong government crackdown, its leader was arrested in late 2018 on terrorism and sedition charges. Pakistan will remain at risk of violent protests related to the Bibi case, but any fresh Islamist unrest will now be met by a heavy response from the security forces.
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The November attack by the Balochistan Liberation Army (BLA) on the Chinese consulate in Karachi expanded its campaign against Chinese investment beyond the province. The long-standing separatist sentiment in Balochistan has been heightened by resentment at the central government’s exploitation of its natural gas reserves and, more recently, by the presence of thousands of Chinese workers who are building infrastructure associated with the China-Pakistan Economic Corridor (CPEC) project. The military has hit the BLA hard and effectively since 2016 in response to Chinese concerns, but separate Islamist groups operating from across the border in Afghanistan continue to create a serious security situation in the region that has the potential to damage relations with China.
Despite losing further value against the dollar, the rupee is still widely seen as overvalued, not least by the IMF. Pakistan is likely to undertake further rupee devaluations as it moves towards a free float rather than a managed one, but the pace of progress is uncertain. A series of interest rate rises by the central bank culminated in an increase from 8.5% to 10% in November as inflation approached 6% from less than 4% a year earlier.
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The additional funding made available in the latter part of 2018 by allies such as Saudi Arabia has enabled Islamabad to defer serious talks with the IMF. But it will have to deal with the Fund at some point in the medium term, given the size of its fiscal and budget deficits and the parlous state of its foreign reserves. Without a comprehensive plan in place, the risk of sovereign default remains as the government is caught between the need to reduce the deficit while meeting at least some of its campaign commitments.
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