Should Pakistan Celebrate the New IMF Deal?

In July, the International Monetary Fund (IMF) and Pakistan reached a staff-level agreement on a 37-month Extended Fund Facility Arrangement (EFF) of about $7 billion. The IMF stated that the agreement aims to cement “macroeconomic stability and create conditions for a stronger, more inclusive, and resilient growth” in the country. The agreement is subject to the IMF Executive Board’s approval.

Following the confirmation of the new agreement with the IMF, Pakistan’s Prime Minister Shehbaz Sharif visited the Federal Bureau of Revenue headquarters and urged its officials to make utmost efforts to broaden the tax base. The prime minister clarified that the government views the newly-agreed IMF agreement as the last one for Pakistan.

The new agreement comes as Pakistan faces one of its worst financial crises. The country has $9 billion in foreign currency reserves, while it has to clear $25 billion in debt payments to its bilateral and multilateral lenders during this fiscal year besides meeting its import needs.

The ongoing political turmoil in the country following the contentious February 2024 elections remains a cause for apprehension regarding the new government's capacity to execute the reforms outlined in the agreement with the IMF.

Pakistan has fulfilled certain conditions stipulated by the IMF in preparation for the upcoming agreement. These include a budget that aligned with the IMF’s wishes of increasing taxes on exporters, a significant increase in electricity and gas prices, reforming loss-making state-owned enterprises, and laying out plans to effectively bring the agriculture sector into the tax system.

Pakistan must still comply with a number of essential prerequisites to secure final approval from the international lender. The IMF is reportedly in favor of Pakistan rescheduling around $15.4 billion debt owed to the Chinese Independent Power Producers (IPP), which was set up as part of the China-Pakistan Economic Corridor (CPEC).

The IPPs in Pakistan have significantly strained the country’s power sector as a result of the exorbitant costs associated with electricity production, primarily stemming from inadequately negotiated contracts by the government in Islamabad. Pakistan is now deliberating extending payments owed to Chinese IPPs by five years while making formal attempts to renegotiate the terms at the government-to-government level.

In the past, China has refused to entertain Pakistan’s requests to reschedule payments and renegotiate power agreements signed in the initial phase of CPEC.

However, this is not an easy path to tread, as the new IMF deal also requires Pakistan to obtain guarantees from its major bilateral partners, such as China, Saudi Arabia, and the UAE, to meet their payment requirements in the coming years. The guarantees requested by the IMF from Pakistan are a necessary component of the preconditions that the country must fulfill to demonstrate that its bilateral lenders and major allies will support it in meeting its financial requirements. A failure to do so could result in Pakistan’s new deal being rejected by the IMF’s Executive Board.

It will not be a simple task to persuade China, Pakistan’s largest bilateral debt holder, to provide guarantees as per the IMF’s requirements and negotiate power agreements at the same time.

Additionally, Saudi Arabia and the UAE have closely observed Pakistan’s economic and political crisis and may have apprehensions regarding the capacity of a widely unpopular government to implement difficult reforms.

These preconditions are likely part of the requirements that Pakistan needs to meet to get the final nod of IMF’s Executive Board. It is expected that China will offer its guarantees to the IMF, expressing support for Pakistan. However, Beijing may not be very forthcoming on renegotiating agreements regarding CPEC or offering anything substantial on power projects. The Saudis may also offer their intent to support Pakistan but will be sure to convey their concerns to Pakistan’s leadership quietly as part of their bilateral engagements.

As Pakistan looks to get support from allies, it also has a lot of structural reforms to implement, which could be painful and may test the state’s ability to establish its writ. For instance, once the IMF program gets underway, provinces are expected to “take steps to increase their own tax-collection efforts, including in sales tax on services and agricultural income tax.” This commitment is challenging as provinces in Pakistan have not done well in directly raising taxes and look to the federal government to run their affairs. Asking provinces to take steps to implement, for example, the agricultural income tax is likely to face opposition as landlords dominate the parliament and have always resisted such measures.

Furthermore, the IMF wants Pakistan to improve energy sector viability by minimizing fiscal risks through the timely adjustment of energy tariffs, decisive cost-reducing reforms, and refraining from further unnecessary expansion of generation capacity. A significant number of these issues are linked to Chinese power projects in Pakistan that are run on very high costs. Several other projects are being constructed that will incur similar costs.

Pakistan has nothing to celebrate with the new IMF deal as the burden and conditions of the package may complicate the country’s domestic politics further and could strain ties with some of its allies as well.