Circular Debts Are Threat to The Economy

CIRCULAR DEBTS ARE THREAT TO THE ECONOMY

By M. Iqbal Patel, Chartered Accountant, Karachi

The government had approached the International Monetary Fund (IMF) in November 2008 setting out financial policies that Pakistan intended to implement in the context of its request for financial support from IMF during the FY 2008-09-10. These financial policies aimed at stabilizing the macroeconomic situation and restoring investor's confidence. The IMF based on these commitments made by the Government of Pakistan (GOP), 23 months Stand By Arrange ment (SBA) of an amount of SDR 5.169 bln was approved by the IMF.

Accordingly the commitments were made by the GOP inter alias specifically related to petroleum prices, elimination of petroleum subsidies, elimination of electricity tariff differential subsidies by end-June 2009, increase in electricity tariff during SBA period etc. The government among the foresaid measures implemented religiously the measures related to increase in prices of petroleum and electricity tariff from time to time since it signed the SBA but has ignored others. The government has made increase in prices/rates of these Sectors a regular feature event after expiry of SBA. Its justification needs to be scrutinized by an independent body to be set up for the purpose.

This policy of increase of prices frequently has exposed the government in case of increase in prices of CNG which was increased to Rs.90 per kg but was reduced by the Court to around Rs.54 per kg that is 40% lower than it was fixed by the Government which has now settled at around Rs.66 per kg. The consumer thus got relief of over 34% in prices due to the Courts' efforts. This scenario suggests that the regulatory authorities to review tariff rates for power and gas for their relief in pricing for end users.

The government in its request for financial support had committed in SBA that it will prepare, by end-March 2009, a plan for eliminating the inter-corporate circular debt within the fiscal deficit target. The plan will clearly identify all elements of circular debt, including (i) the identification of all debts owed and due among the corporations, duly reconciled; (ii) the determination of the validity of the claims; (iii) a schedule by which respective entities will discharge their liabilities to each other, and (iv) a timeframe during which the Federal Adjuster will use the powers to make adjustment, in case of failure to adhere to the approved schedule.

The government has failed to meet its commitments during its five year tenure to introduce power sector reforms included in the SBA in general and resolve the issue of circular debt in particular as of to date against its target date of March 2009. If these commitments were implemented in letter and spirit would have eliminated the inter-circular debt which has negative consequences on the country's generation capacity. The government also failed to eliminate subsidy to the power sector as committed in the SBA. It distributed Rs.464 bln towards subsidy to the energy sector during FY 2011-12 against budgetary allocation of Risers 147.3 bln that is additional over 300% unbudgeted subsidies amounting to Rs.319.9 bln were distributed.

Consequently failure to implement the conditions of SBA, the issue has become a major cause of energy crisis because non-payment of power bills by the federal and provincial governments and public sector enterprises/corporations, in all the circular debt has reached to a record high level of Rs.382.5 bin as of July, 2012 which has created short of liquidity problem for the power entities. If these commitments were implemented in letter and spirit would have eliminated the inter-circular debt which has negative consequences on the country's generation capacity.

However, lately the government under the pressure of the provinces during the discussion in the Council who refused to pay disputed electricity bills, the Prime Minister has constituted a committee to reconcile the electricity dues between federal and provincial governments and develop a mechanism to ensure that there was no discrepancy in future. But as it appears that such a move is a political without will to resolve the issue in view of short remaining of a month or so of tenure of the government, besides major stakeholder to the issue, Ministry of Power is not given representation to the Committee nor time frame is fixed for finalization of the report by the Committee.

The composition of the Committee is irrelevant as it comprises of the ministers who will loose the mandate as soon as the assemblies are dissolved resultant the functions of it would come to an end without any fruitful result of the work assigned to it. In fact there is needed to form a committee headed by the Chairman, Securities Exchange Commission of Pakistan comprising of all stakeholders from the power generating companies such as KESC. GHC, HESCO, PESCO, LESCO, MEPCO and SEPCO and power consumers PESs like PR. PIA, PSM, president and prime/chief ministers' houses and other public sector entities who are habitually not paying the electricity bills. All of them sit together and deliberate the issue in accordance with plan envisaged under SBA. Reconcile/adjusting their debts due to or due from each other based on the audited accounts for last five years. Thus net amount of receivables or payables should be determined against each other and fix a time frame for the settlement of their debts.

Further according to the State Bank's Annual Report for the year 2011-2012 on State of Economy for of the country the federal government has provided over Rs.1 trillion to power sector during last 4 FY 2009-12. It would have been better if this amount was paid against circular debts, it would have cleared substantial amount of such debt. Besides it the government's policy to allow exemption from income tax on profits derived from an electric power generation project cost the country Rs.46.94 bln in 2011-12. Moreover, the government also provides subsidy on electricity to the commercial and industrial sectors of Rs.250 bln annually which is of no use but it is a burden on the taxpayers.

Despite providing such a large financial assistance and tax incentives to power sector the object of providing for the exemption and subsidy etc. did not materialize as the country did not benefit from such a huge relief given to the Independent Power Producers but it continued to face a record shortfall of both electricity and natural gas. Therefore, structural reforms in the power sector are necessary to lift the country out from economic crisis. The situation requires to seriously to be addressed the issues of leakages in terms of theft and inefficiencies at the generation stage.

The energy crisis is the root cause of the present economic crisis of the country, hundreds of industries have closed down, over hundreds industries have been relocated in the neighboring countries specially in Bangladesh who has assured uninterrupted power supply and offered tax incentives to the businessmen, consequently there is flight of capital, closure of the industries has created unemployment in the country and loss of export orders etc. Ultimately the exchequer also suffers from loss of revenue. Therefore, it is important to formulate a comprehensive strategy to improve the current supply problem in near future besides to develop alternate power generates units to meet the shortage of energy.

On the revenue side the government has made commitment to the IMF under SBA to strengthen tax enforcement, substantially increase tax revenue through number of tax policy and administration measures, reduce tax exemptions which are a sort of financial NRO's in all the tax statutes viz. Income Tax Ordinance, 2001, Sales Tax Act, 1990, the Federal Excise Act, 2005 and the Customs Act, 1969. It provided time frame to submit a legislature to that end to the parliament by end June, 2009. The World Bank has reported that the Federal Board of Revenue has grossly failed to achieve the envisaged objectives including extend the tax base.

The present tax strategy of the country is a narrow tax base in the country where 99.7% of population is not paying income tax including nearly 70% lawmakers. Thereby only 0.3% of population is burdened with taxes to run the State. The FBR in the circumstances instead of tighten of its enforcement for compliance, it has decided to launch tax amnesty scheme for non-filers and tax evaders.

The objectives of launching the scheme are mentioned that it will broaden tax base, document the economy, improve tax-to GDP ratio, tax culture and to provide buoyancy in the economy. If the history provides guidance, if any, it may safely be concluded that the scheme will yield none of the desired aforesaid objective, as was case in the past. However, It will destroy the tax culture. If such shortcut is the only way to improve the tax-to-GDP ratio, its better to scrap the Ordinance and the institutions created for its implementation too.

The enforcement of the provisions of the Ordinance for compliance is the only way through which the aforesaid objectives can be achieved. The present discriminatory tax policy is the hurdle in expanding tax base and increase in collection of tax which is responsible low tax-to-GDP ratio. There requires a political will of the functionaries to frame equity based tax policy to achieve the aforesaid objectives. Thereby every citizen shall pay tax on income exceeding a benchmark irrespective it sources and status of taxpayer.

The country is facing the problem of an efficient tax system, as is evident from dwindling number of filers and decreasing tax-to-GDP ratio, is the major curse of our economy. There is need to reappraise our present tax policy in order to ensure a very high degree of compliance, withdrawal of exemptions and every citizen shall pay their due share of income tax which will maximize tax revenue. It is the time for the government to give serious thought to the issue that how long 0.3% that is 810,000 taxpayers would be able to shoulder the responsibility to bear the ever-increasing State expenditures. Short cuts like proposed amnesty scheme would be futile exercise.

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