A special committee comprising prominent industrialists and business leaders set by the federal government has proposed several measures to help jumpstart the sluggish economy and spur economic growth.
To anyone with even a basic grounding in economics, raising economic growth or GDP per capita can – at least in theory – be achieved in two principal ways: by reducing taxes or by increasing exports, or by pursuing both simultaneously. The first falls under fiscal policy, which involves adjusting tax rates to influence overall demand. The second is tied to monetary policy. The monetary policy sets interest rates and, through them, shapes investment decisions as well as the value of the currency and, consequently, the exchange rate.
An easy way to understand it is by thinking of an individual. When the tax rate on their income is reduced, they have higher disposable income and can purchase more goods and services. This tends to increase demand for these goods and services and to aggregate it across the whole economy, thereby raising aggregate demand. Factories and businesses experience increased demand for their products and services, leading to higher output and, consequently, higher GDP.
One of the measures proposed by the group is that the federal government should reduce the corporate tax rate to incentivise companies to expand and invest. Since the group is composed mostly of those who run and/or own large corporations, it seems only natural that they would pursue their own interests. However, their proposal should also include a similar measure to reduce the income tax rate.
The rationale for that is twofold: first, that the salaried class (meaning those whose income tax is cut at source, by their employer, and then their after-tax salary is paid to them) has been overburdened with a high tax rate, which appears more to do with the Federal Board of Revenue’s (FBR) inability to widen the tax net than anything else. The second is that cutting income tax rates, as mentioned above, spurs demand for goods and services in the economy and is used by governments worldwide to kick-start and boost the national economy.
There is, however, a consequence of this action, and it has to do with a reduction in the tax that is collected. That, in turn, reduces government revenue and affects its ability to allocate sufficient funds to its various budgetary priorities. So, cutting taxes means the government has money to spend on, say, infrastructure development or building new hospitals and schools, and so on.
Another measure proposed was that the government devalue the rupee further, so that Pakistan’s exports become cheaper relative to those of competitors and thereby boost exports. By the same token, a devaluation will also raise import costs, making them more expensive and hence less attractive to buyers in Pakistan.
However, it can be argued that this is a simplistic measure. As pointed out recently by Faisal Mamsa of Tresmark, a financial technology company, in a column for Dawn, devaluing the rupee isn’t necessarily going to increase the country’s exports. The fact is that a considerable fall in the value of the rupee in recent years has not increased exports in any significant manner and has only further widened Pakistan’s trade deficit.
And the reason for that is straightforward: a large proportion of Pakistan’s imports comprises items such as crude oil, gas, machinery and raw materials used in industry and their demand does not vary much with their price. In more technical terms, their demand is inelastic and doesn’t change much simply because they are used as raw materials and inputs in the country’s industrial and manufacturing sectors.
Oil is practically used in just about every industry and also for transport and private vehicles. Looking at the country’s exports, the fact that they haven’t increased substantially or proportionately, even as the rupee has fallen, is a clear indication that lowering the currency's value and making them cheaper for buyers in other countries hasn’t increased their demand.
The issue is not with their price but with something else, which needs to be investigated. Pakistan’s exports are not competing with those from our competitors when it comes to quality and it could also be that the market they are operating in is saturated with many countries competing for the same pie.
With the Trump administration imposing tariffs on all imports, even though Pakistan has one of the lowest tariff rates, exports to Pakistan’s large market will become more difficult.
Pakistani exporters have to invest in innovation to make value-added products, which can command a relatively higher price. There is also the issue of exploring non-traditional markets to increase exports – for instance, tourism has a lot of potential to attract far more foreign tourists than come to Pakistan at present – and this would lead to a corresponding increase in export of tourism services (and an inflow of dollars, just like when traditional tangible exports are sold to foreign buyers).
Realising Pakistan’s tourism potential is largely dependent on the country’s law and order and security situation. The resurgence in acts of terrorism, especially in areas close to where the bulk of foreign tourists visit, is something that is going to have to be dealt with by the government comprehensively.
The writer is a journalist based in Karachi. He tweets/posts @omar_quraishi and can be reached at: [email protected]
