Public debt management

When the present government started its term in June 2013, it inherited challenges like large fiscal deficit, rising debt burden, unfavourable balance of payments, low foreign exchange reserves, poor growth in tax revenues with shrinking tax-base, swelling current expenditures, a gigantic circular debt that was unravelling the energy sector, flight of capital, weakening exchange rate and perilously declining investors’ confidence. On the external front, the major development partners had considerably scaled down their support due to waning economic fundamentals and apparent inability of the country to service its external obligations in the near future. One of the main challenges was absence of external financing which was causing turbulence in the domestic exchange markets and tilting the composition of public debt towards domestic debt and that too into shorter maturities creating vulnerabilities and entailing high rollover and refinancing risks. State Bank of Pakistan (SBP) forex reserves, which stood at $6 billion in June 2013, fell to $2.8 billion in February 2014. It was a highly precarious situation for the external account.

In early 2013, it was predicted that the country might default on its sovereign obligations, if necessary steps to avert the situation were not taken. These predictions were made by the financial experts, who had analysed the macroeconomic situation prevalent at that time and reached the conclusion that the country would not have sufficient external resources to meet its obligations of external debt falling due beyond February/June 2014. There was a dire need for stemming the depleting reserves and stabilising a fast depreciating currency, which touched Rs110.25 against US Dollar on 29 November, 2013, was fuelling inflation and raising the cost of debt servicing. The importance of lengthening the maturity profile of domestic debt became inevitable while maintaining interest rate stability and regaining growth momentum was also required to counter the impact of indebtedness.

On assuming office, the present government took necessary steps for avoiding default, ensuring fiscal discipline and consolidation, stabilising a collapsing economy and accelerating growth. Accordingly, the government started revamping the economy through structural reforms and stabilisation measures such as reduction in un-targeted subsidies, broadening the tax base, restructuring the Public Sector Enterprises (PSEs), building foreign exchange reserves and reducing the fiscal deficit, while ensuring that social safety net and development spending are not only protected but enhanced considerably. A brief account of the improvement in major economic indicators over the period from June 2013 to June 2015 is given below:

• FBR revenue increased from the level of Rs1,946 billion in FY2012-13 to Rs2,588 billion in FY2014-15. FBR is on course to achieve the revenue collection target in excess of Rs3,000 billion during the FY2015-16.
• Budget deficit was contained at 8.2% in FY2012-13 (down from a projected 8.8%) within weeks of assuming office. The deficit has been reduced to 5.3% in FY 2014-15. We are on track so far to reduce it to 4.3% for the FY 2016 ending in June 2016.
• Average inflation reduced from 8.62% in FY2013-14 to 4.53% in FY2014-15. Average CPI during the period Jul-Feb of FY 2016 has been recorded at 2.48%.
• Credit to private sector, which was negative at Rs19.2 billion in FY2012-13, increased to Rs208.7 billion in FY2014-15. During the current financial year 2016, the amount has increased to Rs299.7 billion till 12 February, 2016.
• Credit to agriculture sector increased from Rs336.2 billion in FY2012-13 to Rs.515.9 billion in FY2014-15. The target for the current FY2015-16 is Rs600 billion.
• Development spending which was Rs348 billion in FY2012-13 increased to Rs502 billion in FY2014-15. During the current FY2015-16 an amount of Rs700 billion has been budgeted.
• Remittances increased from $13.9 billion in FY2012-13 to $18.7 billion in FY2014-15. During the current FY, $12.7 billion were remitted till the 29 February, 2016.

The fiscal consolidation paved the way for a reduction in the Debt to GDP ratio, which fell from 64% in FY2012-13 to 63.5% at the end of FY2014-15. In the next three fiscal years, our target is to bring down the Debt to GDP ratio to 60% or less in accordance with the provisions of the Fiscal Responsibility and Debt Limitation Act (FRDLA), through effective fiscal and prudent debt management. Debt management has taken special emphasis in this whole scenario as the absolute debt continues to grow over the last many years due to persistently large fiscal/budget deficits of previous successive governments. Our government’s vision is to further reduce the statutory debt limit from existing 60% to 50% in 15 years, starting from FY2018-19 and to limit statutorily the federal fiscal deficit to 4% through introduction in the Parliament of an amendment bill for necessary changes in the FRDLA in this context.

Despite these achievements, many detractors of the government are ceaselessly creating doubts about the debt situation of the country. There is, therefore, a need to set the record straight.

Pakistan’s total public debt as of 30-06-1999 was Rs2,946 billion of which domestic public debt was Rs1,389 billion and external debt was Rs1,557 billion. Total public debt as of 31-03-2008 was Rs5,800 billion which included domestic public debt of Rs3,020 billion and external debt of Rs2,780 billion. Public debt further increased to Rs14,318 by the end of FY2012-13, thereby the previous government contracted net debt of Rs8,518 billion during its term 2008-13.

Pakistan runs a persistent fiscal deficit. For FY2012-13, the country’s fiscal deficit was projected at 8.8% of GDP. It was due to a major effort during the last month of the FY2012-13 that we were able to contain it at 8.2%. Such a high level of fiscal deficit is unsustainable as it adversely affects economic growth and necessitates larger amount of borrowing to meet the fiscal gap.

The present government started its first fiscal year in 2013 with inherited total public debt of Rs14,318.4 billion comprising of external public debt of $48.13 billion (Rs4,796.5 billion) and domestic public debt of Rs9,521.9 billion. During the period from July 2013 to December 2015, the total public debt has grown to Rs18,467.3 billion out of which the external public debt is $53.36 billion (Rs5,589.2 billion) while domestic public debt is Rs12,878.1 billion. Thus, there is a net increase of Rs4,148.9 billion in total public debt, inclusive of $5.23 billion of external debt.

The reason our government was able to achieve a lower level of borrowing was that we kept the fiscal deficit under control by enforcing fiscal discipline. In this context, efforts have been made to achieve lower targets of fiscal deficits in the first 3 fiscal years of our government.

The previous government entered into a front-loaded Stand-By Arrangement with IMF in 2008 with a total loan of $11 billion. A major chunk of the loan amounting to $3,089 million was released upfront, followed by four more releases amounting to $4,366 million, thereby making total loan disbursements of $7,455 million to previous government. Thereafter, the Stand-By Arrangement was suspended due to inability of the government to implement the agreed economic reforms and as a result the previous government could not draw $3,545 million earmarked for the country under the programme.

The present government entered into an Extended Fund Facility (EFF) with the IMF in September 2013 with estimated total amount of $6.6 billion. Till date the inflows from IMF under current programme have been $5,271 million while the repayments to IMF in this period amount to $4,415 million, in settlement of the installments due of the loans taken by the previous government. Therefore net inflow from IMF in our tenure stands at $856 million, which is included in the increase of $5.23 billion recorded in external debt. Government has successfully completed ten quarterly reviews and is on track to complete the reforms programme by September 2016. The economic reforms being implemented are homegrown and were part of the manifesto of Pakistan Muslim League-N for General Election 2013 and became basis of IMF’s current programme.

There were two reasons for entering into IMF supported Extended Fund Facility, which is more tedious than Fund’s other facilities. Firstly, the necessity of major repayment of loan taken by the previous government under the Stand-By Facility and secondly, to restart full scale business with other multilateral development partners which had suspended support to Pakistan due to the macroeconomic instability caused by discontinuation of the reforms program in the previous government’s tenure.

Present government has repaid over $10 billion of external debt till end December 2015, which mainly related to the borrowings of the previous governments. Despite this heavy repayment, the foreign exchange reserves of the country have risen to more than $20 billion, of which SBP reserves were $15.8 billion at end Dec 2015, which is equal to nearly four months of import-cover as compared to less than around three weeks of import-cover in February 2014 when the SBP reserves stood at $2.8 billion.

It is worth mentioning here that while the external public debt has gone up by $5.23 billion during the two and a half years, the forex reserves of SBP have increased by $9.8 billion in the same period or by $13 billion when compared to from February 2014 to December 2015.

The critical consideration in debt management is the sustainability analyses for which various indicators have been designed. Major debt sustainability indicators have improved in the first two fiscal years, a fact that is acknowledged by global stakeholders.

• “Refinancing Risk of the Domestic Debt Portfolio” was reduced through lengthening of the maturity profile at the end of June 2015. Percentage of domestic debt maturing in one year was reduced to 47 percent compared with 64 percent at the end of June 2013.
• “Exposure to Interest Rate Risk” was also reduced as the percentage of debt re-fixing in one year decreased to 40 percent at the end of June 2015 compared to 52 percent at the end of June 2013.
• “Share of External Loans Maturing within One Year” is equal to around 28 percent of official liquid reserves at the end of June 2015 as compared with around 69 percent at the end of June 2013 indicating improvement in foreign exchange stability and repayment capacity.

Moreover, there is a perception that the major part of forex reserves accumulation has been done by way of contracting expensive external debt, especially Euro Bonds, which again is a patently flawed understanding of the facts. The cost of Eurobonds issued by the government ranges from 7.25% to 8.25%. Pakistan re-entered the international capital market in April 2014 after a gap of seven years to seek additional funding on the basis of its improved macroeconomic indicators in order to avert the predicted June 2014 default of Pakistan. Furthermore, a successful capital market transaction helps in opening other vistas for seeking foreign funding and foreign direct investment.

A large portion of the forex loans were contracted at extremely low rates and attractive terms. This is evident from the average cost of the total external debt obtained by present government till December 2015 which comes to around 3.3 percent. After including the grants mobilised by the current government, the average cost of borrowing further reduces to 3.03%, which is significantly lower than the domestic financing cost of about 10 percent even after one builds a margin of capital loss due to exchange rate depreciation. Thus cost of the external debt contracted by current government is not only economical but is also dominated by long term funding. To establish the fact that this government has slowed down the pace of debt accumulation, the declining trajectory of Debt to GDP ratio is a sufficient proof.

It is worthwhile to mention here that some quarters are quoting an incorrect number of external public debt. There is a need to understand the difference between External Public Debt and Total External Debt and Liabilities of the country. External Public Debt stood at $53.4 billion, as at End-December 2015 while at the same time the total External Debt and Liabilities of the country were $68.5 billion. Total External Debt and Liabilities include debt of other sectors which by definition are not considered as Public External Debt since the government is not liable to pay these obligations. It includes debt of private sector and banks etc.

A misconception commonly spread is that the CPEC will result in increase in public external debt to $90 billion by 2018. This is neither based on facts nor on a proper understanding of debt dynamics. First, a wrong base number of $66 billion is being used to arrive at the $90 billion number. Secondly, out of the total CPEC package of $46 billion, a major share of $35 billion is in the private sector, mostly in power generation in IPP mode, not adding to the external public debt.

Those making such astounding claims seem to lose sight of the fact that while making debt projections, the debt due for repayment during the corresponding period is to be taken into account as well. While new debt is contracted, previously accumulated liabilities are being discharged at the same time.

Another baseless and misleading news was recently run by Bloomberg, which otherwise is a very credible new agency, that Pakistan’s external debt of nearly $50 billion was maturing during 2016. This was an outlandish speculation completely bereft of any truth. Our total external debt is close to this amount and is due to be retired in the next 40 years. Ministry of Finance issued two detailed rejoinders, which were suitably addressed by the Bloomberg.

At a time when we have brought major improvements in debt management it is regretful that some quarters are deliberately sowing seeds of doubt and confusion in ordinary minds. Pakistan has regained the external reputation and financial credibility. This has been unquestionably recognised by international development partners and a number of well-reputed global publications such as Economist, Wall Street Journal, Forbes, etc.

By the grace of Almighty Allah, Pakistan’s economy is showing visible signs of improvement. Having successfully averted the predicted default of June 2014 and having achieved macro-economic stability, our government is now making efforts to put the economy on a high growth trajectory with a target of 7% by 2018 that would enable significant reduction in poverty and creation of jobs for our youth. The government under the leadership of Prime Minister Muhammad Nawaz Sharif is determined to consolidate the economic gains achieved so far and to ensure that these translate into increased economic opportunities for the common man.