LAHORE: With the new Pakistan Tehreek-e-Insaf (PTI) government settling and in its second month of power, it is facing a litany of issues at the economic front alongside rising global oil prices.
The government’s decision to keep the petrol prices unchanged for October was taken to avoid the public ire, but the options available at their disposal seem to be severely limited.
Pakistan’s economy is under pressure for various reasons, including a balance of payments crisis, dwindling foreign exchange reserves, rising imports and challenges on the external front.
In an interview to a private TV channel last week, Finance Minister Asad Umar said, “Pakistan could face difficulties if oil prices in global markets do not stabilize.”
However, the question arises as to how the government is responding to the global oil price increase amid the Iran sanctions looming.
Brent Crude on Monday touched a four-year high of $83.27, as the deadline for the Iran sanctions nears.
Interestingly, the government to avoid public criticism decided to facilitate consumers and did not raise the oil prices.
It responded to this conundrum by correspondingly decreasing the applicable sales tax rates on high-speed diesel from the current 22 percent to 17.5 percent for high-speed diesel (HSD), for petrol from 9.5 percent to 4.5 percent and kerosene oil from 6 percent to 1.5 percent.
While speaking to Profit, Mubashir Zubeiri, financial analyst at Tundra Fonder said, “The decision to lower sales tax on petroleum products will have a limited impact on tax revenues in the current month; however, if the duration of this lower sales tax rate is prolonged, it could increase the fiscal deficit by ~0.2 percent.”
“The decision could also have adverse implications for the external account as there is a need to raise prices to curb demand at a time when oil prices are reaching new highs, he added.
For light diesel oil (LDO), the government decided to keep the sales tax at zero. Considering the country’s dire financial situation and $9 billion of foreign exchange reserves which provide barely 1.5 months of import cover, this begs the question as to is this decision sustainable in the longer run?
Profit reached out to Charlie Robertson, Global Chief Economist at Renaissance Capital who said “The problem with fuel subsidies is that they maintain demand for expensive oil imports – hurting the current account and the budget at the same time. This is not what Pakistan needs currently.”
Zeeshan Afzal, an analyst at Insight Securities told Profit, “Global price hike to US$83 per barrel would take time to reflect in local prices. There is a normal 2 to 3 months lag.”
“The government’s decision not to increase prices would affect its tax collection but the halt would be temporary. It might decide to increase prices next month, he added.
Moreover, Mr Afzal believes “Looks like the government is finalizing its economic policy before taking big decisions.”
In a comment to Profit, Ahsan Jamil a portfolio manager at Pak Brunei Investment Company told that keeping oil prices unchanged would definitely hurt government revenues, but it’s nothing new.
He said, “Ishaq Dar also used to frequently changing sale tax to smooth out the impact of international oil price changes.
The taxes act as an automatic stabilizer to slow down the overheating demand, however, the inelastic nature of petroleum demand suggest changing prices doesn’t result in a huge change in usage.”
While talking about its impact on economic activity, Ahsan added: “it won’t hurt much but it might cushion the shock of increasing oil prices towards the lower income threshold.”
He explained, “Only major thing it will hurt is govt revenues. But this government (especially Asad Umar) has taken a principled position against indirect taxes on petroleum products as they believe it to be unfair, rich and poor get to pay the same amount.”
Also, Ahsan shared he wanted to see how does this government intend to fill the gap in revenues. What can they come up with what they consider “fair” and is not regressive?
While talking about whether the government was exhausting its options, he said, “Yes, they are closing a few doors, but haven’t exactly told us what door they’ll be opening.
On Saturday, the State Bank of Pakistan had raised the key interest rate to 8.5 percent for the next two months, an increase of 100 basis points.
This was the fourth rise in the key interest rate since the beginning of 2018 and showed that an increase in inflationary pressure and current account deficit are impacting the country’s economy.
The central bank had expressed worries on the economic front to continue because of rising inflation and large twin deficits, which could likely compromise the sustainability of the high real economic growth.
The central bank projected average headline inflation to fall in the range between 6.5 to 7.5 percent and takes into consideration higher than expected rise in global oil prices, an increase in domestic gas prices, increase in regulatory duties on imports and continuing second round impact of previous rupee depreciation.
While speaking to Profit, Saad Hashemy Director Research Topline Securities said, “Pakistan’s issues stem primarily from the external account. Not passing on the increase will only lead to more consumption and higher imports.”
“This would further put pressure on the country’s external finances and increase the vulnerability of the country to adverse economic shocks,” he added.
The new government has its work cut-out, as it is currently holding talks with the International Monetary Fund (IMF) and is simultaneously seeking Saudi Arabia’s assistance to import oil on deferred payments, which could provide desperately needed breathing space and curtail the import bill in midst of rising global oil prices.