Tag Archive: IMF


American dollar is losing to Canadian, Australian and even to Singaporean dollar and losing so fast that its parity changes before the flight originating from Los Angeles lands at Sydney. This rings alarms bells but nobody seems to be listening. Does the losing American dollar signal America’s loss of its economic hegemony? Will China be crowned as economic power much ahead of the estimates? Does it have anything to do with steady rise in the price of gold? The events are unfolding at pretty faster pace. The economic gurus had predicted China to be Number One economic power of the world by 2050. Some more ambitious had set this date somewhere closer to 2030. But the International Monetary Fund has rejected all those estimates and has just dropped a bombshell. For the first time, the international organization has set a date for the moment when the “Age of America” will end and the U.S. economy will be overtaken by that of China. And it’s a lot closer than you may think. According to the latest IMF official forecasts, China’s economy will surpass that of America in real terms in 2016 — just five years from now.

According to Market Watch, the IMF assessment provides a painful context for the budget wrangling taking place in Washington right now. It raises enormous questions about what the international security system is going to look like in just a handful of years. And it casts a deepening cloud over both the U.S. dollar and the giant Treasury market, which have been propped up for decades by their privileged status as the liabilities of the world’s hegemonic power. According to the IMF forecast, which was quietly posted on the Fund’s website just two weeks ago, whoever is elected U.S. president next year will be the last to preside over the world’s largest economy.

Most people aren’t prepared for this because they were looking at GDP to make comparison between China and the USA using current exchange rates. IMF analysis also looked to the true, real-terms picture of the economies using “purchasing power parities.” That compares what people earn and spend in real terms in their domestic economies. Under PPP, the Chinese economy will expand from $11.2 trillion this year to $19 trillion in 2016. Meanwhile the size of the U.S. economy will rise from $15.2 trillion to $18.8 trillion. That would take America’s share of the world output down to 17.7%, the lowest in modern times. China’s would reach 18%, and rising. Just 10 years ago, the U.S. economy was three times the size of China’s.

The report says that this is more than a statistical story. It is the end of the Age of America or its economic hegemony. We have lived in a world dominated by the U.S. for so long that there is no longer anyone alive who remembers anything else. America overtook Great Britain as the world’s leading economic power in the 1890s and never looked back.

China’s neighbors in Asia are already waking up to the new reality. The rise of China, and the relative decline of America, is the biggest story of our time. You can see its implications everywhere, from shuttered factories in the Midwest to soaring costs of oil and other commodities. Last fall, when I attended a conference in London about agricultural investment, I was struck by the number of people there who told stories about Chinese interests snapping up farmland and foodstuff supplies — from South America to China and elsewhere.

This is the result of decades during which China has successfully pursued economic policies aimed at national expansion and power, while the U.S. has embraced either free trade or, for want of a better term, economic appeasement.

“There are two systems in collision,” said Ralph Gomory, research professor at NYU’s Stern business school. “They have a state-guided form of capitalism, and we have a much freer former of capitalism.” What we have seen, he said, is “a massive shift in capability from the U.S. to China. What we have done is traded jobs for profit. The jobs have moved to China. The capability erodes in the U.S. and grows in China. That’s very destructive. That is a big reason why the U.S. is becoming more and more polarized between a small, very rich class and an eroding middle class. The people who get the profits are very different from the people who lost the wages.”

What the rise of China means for defense, and international affairs, has barely been touched on. The U.S. is now spending gigantic sums — from a beleaguered economy — to try to maintain its place in the sun. It’s a lesson we could learn more cheaply from the sad story of the British, Spanish and other empires. It doesn’t work. You can’t stay on top if your economy doesn’t. Equally to the point, here is what this means economically, and for investors.

The U.S. Treasury market continues to operate on the assumption that it will always remain the global benchmark of money. Business schools still teach students, for example, that the interest rate on the 10-year Treasury bond is the “risk-free rate” on money. And so it has been for more than a century. But that’s all based on the Age of America. No wonder so many have been buying gold. If the U.S. dollar ceases to be the world’s sole reserve currency, what will be? The euro would be fine if it acts like the old Deutschmark. If it’s just the Greek drachma in drag … not so much.

Related story:

The Age of America comes to an end, finally…..

Are the provincial chief ministers in Pakistan, who have presented deficit budgets, aware of the fact that PIGS model will be order of the day for subsequent cash injection from the IMF after October 2010? It means an end to the life of luxury at the cost of taxpayers and total austere lifestyle. But it seems that they are oblivious of this dangerous reality and will continue to draw doomsday closer to our doorsteps. The provincial governments in Pakistan are proving themselves to be totally irresponsible by presenting deficit budgets in spite of massive resources being transferred to the provinces after NFC Award.

In an article published in The News, a member of Musharraf’s economic team has painted doomsday scenario for the present economy. According to him, (a) Shaukat Tarin has drowned the country in debt; (b) Pakistan will face serious economic crunch if VAT or modified GST is not implemented from October 1, 2010; and (c) presenting a deficit budget by provincial governments in the midst of massive resource transfer to them is nothing but the height of financial indiscipline. According to the article, seeking over $11 billion assistance from the IMF against the advice of senior government officials was a great mistake. He should have realized that these amounts would have to be returned to the IMF in the next 3 to 4 years.

Referring to officially documented figures, the article states that: “In the last decade, Pakistan’s economy witnessed a major economic transformation. The country’s real GDP increased from $60 billion in 2000-01 to $170 billion in 2007-08, with per capita income rising from under $500 to over $1000. During the same period, the volume of international trade increased from about $20 billion to nearly $60 billion. For most of this period, real GDP grew at more than 7 per cent a year with relative price stability. The improved macroeconomic performance enabled Pakistan to re-enter the international capital markets in the mid-2000s. Large capital inflows financed the current account deficit and contributed to an increase in gross official reserves to $14.3 billion at end-June 2007. Buoyant output growth, low inflation, and the government’s social policies contributed to a reduction in poverty and an improvement in many social indicators.”

Value Added Tax (VAT) has become a highly misunderstood tax. The general perception created by its opponents is that it is highly inflationary, will increase the tax burden on poor consumers; and business would be adversely affected. Lack of effective communication with the stakeholders and general public has led to the building up of these misperceptions. The detractors have received political support as all the major political parties have taken a firm stand to oppose VAT. The political parties do not want to lose their vote bank of business and traders’ community. But if Pakistan does not implement VAT or modified GST on October 1, 2010, it will face serious economic consequences.

The IMF will not release its next tranche; the World Bank and ADB would stop lending and Pakistan may not receive money from the Kerry-Lugar Act. We have two options: either we continue to play politics with VAT and allow Pakistan to become a bankrupt state by December 2010; or we implement VAT and take the economy out of the current crisis in the next 2-3 years.

Third, by presenting the first provincial budgets after the new NFC Award, the provinces have shown how fiscally irresponsible they could be. Presenting a deficit or even a balanced budget in the midst of massive transfer of resources from the center is nothing but the height of financial indiscipline. By doing so, the provincial governments have sowed the seeds of perpetual macroeconomic crises, rising debt burden, slower economic growth, unemployment and poverty.

By presenting deficit budget the provincial governments have already created serious financial difficulties for the country. Pakistan will begin its new fiscal year (2010-11) with a targeted budget deficit of Rs923 billion or 5.4 per cent of GDP. If slippages on revenue and expenditures were added, this deficit would rise to over Rs1100 billion or 6.5 per cent of GDP. How will the government finance such a large deficit?

Provincial governments are totally oblivious to the dangerous developments taking place on Pakistan’s financial scene. The chief ministers must note that Pakistan will be negotiating a new IMF program in October/November 2010. This program will be in line with the PIGS (Portugal, Iceland, Greece, and Spain) model in which austerity measures will be the key conditionality. Restructuring of PSEs including laying off thousands of non-productive workers, elimination of power subsidies and many expenditure reduction measures will be the necessary part of the new program.

Critics of Pakistan budget have unleashed their criticism on the government’s economic plan without realizing that this budget has some admirable elements such as:

  • The proposed GST reform that will levy a 15% flat tax will not apply on health, education and food items consumed by the poor,
  • The exemption limit for salaried taxpayers is to be enhanced from Rs200,000 to Rs300,000 benefiting approximately 430,000 taxpayers,
  • Additional tax relief of about two billion rupees have been provided to benefit 300,000 taxpayers of Khyber Pakhtunkhwa, FATA & PATA,
  • Federal government employees will be allowed an ad hoc monthly allowance equal to 50% of one month’s basic pay. This benefit would not be available to such federal government employees who are already in receipt of a monthly allowance equal to one month’s basic pay,
  • This budget has been prepared by the technocrats and not the politicians. It has been made as per the text-book (read: IMF diktats).

But fact of the matter is that this budget is not pro-poor by any standard because the revenues rely on indirect taxes which are to be paid by everyone irrespective of their capacity to pay. This has triggered and will trigger more inflation and will make the life of common man really difficult. A pro-poor budget should have a minimum of 65% of revenue from direct taxes like income tax which is paid by wealthy people. Sadly, this budget collects 65% of revenue from indirect taxes i.e. from poor segment of the society and can be called a budget for “poor” privileged class. In this country, a person who can not make both ends meet pays as much tax as a person having palaces and limos. This is gross injustice and breeds hatred, frustration and unrest. This will spell disaster  for the society in the days to come.

These two sisters born in USA have already reached the age of retirement but they are still young, gorgeous and attractive. They have saved as many lives as they have destroyed. Those who are poor and under-privileged hate them and love them at the same time but the fact of the matter is that they can not breathe, let alone live, without them. One of the sisters is married to American and the other to European but they have influence of neither of the two. These sisters have their own personalities. Although their permanent residence is in Washington DC, they have homes everywhere. In addition to these homes, these two ladies meet here and there off and on. Every time they try to meet at one of the international destinations, there are widespread protests against them.

At the end of World War II, Europe which was heretofore a major market for American goods, found economies of its countries in shambles with infrastructure completely destroyed by the war. This was an alarming situation for the Americans who could foresee closure of its industries as a result of economic meltdown of the buyers. The Americans came up with a unique idea; creation of financial institutions to help rebuild Europe and its economies so that they are economically strong enough to buy American goods and keep the industries running. They met their European counterparts at Bretton Woods in the state of New Hampshire in July, 1944. Notable powers at the meeting were USA and UK who dominated the proceedings and influenced the decision-making. As a result of this meeting, two institutions among three other were born. These are commonly known as Bretton Woods sisters. One was named as International Bank for Reconstruction and Development (IBRD) while the younger sister was named as International Monetary Fund (IMF). IBRD is also known as World Bank. Traditionally, World Bank is headed by an American and IMF is headed by a European.

World Bank

World Bank provides leveraged loans to developing countries for capital programs. The World Bank has a stated goal of reducing poverty. It Bank comprises only two institutions: the International Bank for Reconstruction and Development (IBRD) and the International Development Association (IDA).

From its conception until 1967 the bank undertook a relatively low level of lending. France was the first recipient of World Bank aid; two other applications from Poland and Chile were rejected. The loan was for $987 million, half the amount requested and came with strict conditions. Staff from the World Bank monitored the use of the funds, ensuring that the French government would present a balanced budget and give priority of debt repayment to the World Bank over other governments. The United States State Department told the French government that communist elements within the Cabinet needed to be removed. The French Government complied with this diktat and removed the Communist coalition government. Within hours the loan to France was approved.

Emphasis was shifted to non-European countries and until 1968, loans were earmarked for projects that would enable a borrower country to repay loans (such projects as ports, highway systems, and power plants). From 1968 to 1980 the bank concentrated on meeting the basic needs of people in the developing world. The size and number of loans to borrowers was greatly increased as loan targets expanded from infrastructure into social services and other sectors

From 1989 World Bank policy changed in response to criticism from many groups. Environmental groups and NGOs were incorporated in the lending of the bank in order to mitigate the effects of the past that prompted such harsh criticism. Bank projects “include” green concerns.

For more details, please visit Wikipedia.

International Monetary Fund

IMF is the international organization that oversees the global financial system by following the macroeconomic policies of its member countries; in particular those with an impact on exchange rate and the balance of payments. It is an organization formed with a stated objective of stabilizing international exchange rates and facilitating development through the enforcement of liberalizing economic policies on other countries as a condition for loans, restructuring or aid. It also offers highly leveraged loans, mainly to poorer countries.

Whenever Pakistan was faced with Balance of Payments problems, it had to seek assistance from IMF and accept its diktats which were largely to the disadvantage of the poorer segments of the society like frequent tariff increases in the case of most essential items and utilities, withdrawal of subsidies etc. Unless Pakistan checks its foreign exchange outflows and enhances its remittances and exports, it will remain in the clutches of IMF.

For details on IMF functions and its history, please visit Wikipedia.

Article by: Arooj Anjum

Following is the Program Note of IMF on Pakistan economy. For more details, please visit: http://www.imf.org/external/np/country/notes/pakistan.htm

Current IMF-Supported Program
25-month, US$11.3 billion Stand-By Arrangement (SBA), originally approved by the IMF’s Executive Board on November 24, 2008 and augmented on August 7, 2009. The Board completed the third review of the program on December 23, 2009.
Background
Until the economic crisis broke out in 2008, Pakistan had enjoyed a relatively robust economic performance. Warning signs emerged in 2007 and early 2008, as inflation began to rise and external imbalances arose, even though growth remained strong. Conditions worsened significantly in mid-2008 with the sharp increase in international food and fuel prices and the deterioration in the security situation. The widening fiscal deficit, due in large part to rising energy subsidies, was financed by credit from the central bank. As a result, the rupee depreciated and foreign currency reserves fell sharply. Inflation reached 25 percent in mid-2008, causing harm to vulnerable social groups.
Role of the IMF
In Fall 2008, the Pakistani authorities embarked on a stabilization program, supported by US$7.6 billion under a 23-month SBA. This exceptionally high level of financial support was necessary, given the country’s sizable external imbalances and the risk of large capital outflows. In August 2009, the IMF extended the program to 25 months and raised its support to US$11.3 billion to help address increased risks and financing needs. The program aims to:

* restore financial stability through a tightening of fiscal and monetary policies to bring down inflation and strengthen foreign currency reserves;
* protect the poor by strengthening the social safety net—this is a key element of the government’s policy strategy; and
* raise budgetary revenues through comprehensive tax reforms to enable significant increases in public investment and social spending required for achieving sustainable growth.

Progress to Date
The program got off to a good start and Pakistan’s economy has made progress toward stabilization. Macroeconomic imbalances have shrunk and inflation fell below 10 percent in mid-2009. More recently, however, inflation has been on the rise and reached 13 percent in March 2010. The exchange rate has become somewhat more flexible, and the current account deficit has narrowed considerably, helped by the decline in oil prices and a robust increase in workers’ remittances. As a result, foreign currency reserves have increased from US$3.3 billion in November 2008 (before the SBA approval) to US$11 billion in March 2010.
Fiscal policy continues to be affected by low economic activity and a difficult security environment. Following a series of interest rate increases in late 2008 and early 2009, demand for treasury bills increased, allowing the government to end its reliance on credit from the central bank. However, given the depressed economic activity, raising budget revenues proved difficult, and the authorities have been striving to maintain fiscal discipline by eliminating non-priority spending, while facing the need to accommodate additional large security spending. These efforts proved initially successful, but since July 2009, the authorities have repeatedly exceeded the quarterly budget deficit targets under the program.
Structural reforms have moved forward, but the agenda remains challenging. Important steps have been taken to strengthen bank supervision, bolster the social safety net, reform petroleum pricing and taxation, and liberalize the foreign exchange market. Also, significant steps have been made in preparation for the introduction of the value-added tax in July 2010. There has been some progress toward the reform in the electricity sector, but more needs to be done to eliminate the financial losses of electricity companies and other public enterprises, which impose a burden on public finances and pose a threat to macro-economic stability.
The Challenges Ahead
Modest signs of recovery in manufacturing (mainly in the textile sector) and exports suggest that the Pakistani economy is regaining momentum and economic growth in 2009/10 will reach, or even exceed, 3 percent, and could rise to 4 percent in 2010/11. However, adverse security developments continue to hurt domestic and foreign investors’ confidence, while electricity shortages continue to prevent the economy from achieving its potential. The pace and extent of the recovery of the global economy also remain uncertain.
Despite these risks, the program can continue to build on initial success in stabilizing the economy, but to achieve that, economic reform needs to command broad support. External donors made generous pledges to Pakistan at the donor meeting in Tokyo in April 2009; it is crucial that these pledges be disbursed promptly to support priority budget spending and reform. At the same time, however, external support should only be treated as a bridge to a greater domestic revenue effort, which will be indispensable to sustain development spending, achieve poverty reduction, and increase much-needed social outlays over the medium term. In this regard, the introduction of a broad-based value-added tax in July 2010 is essential.