VZCZCXRO2528
RR RUEHLH RUEHPW
DE RUEHIL #1136/01 1461031
ZNR UUUUU ZZH
R 261031Z MAY 09
FM AMEMBASSY ISLAMABAD
TO RUEHC/SECSTATE WASHDC 2898
INFO RHEHNSC/NSC WASHINGTON DC
RUEKJCS/SECDEF WASHINGTON DC
RUEHRC/DEPT OF AGRICULTURE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC
RUCPDOC/DEPT OF COMMERCE WASHDC
RHEBAAA/DEPT OF ENERGY WASHDC
RHMFISS/CDR USCENTCOM MACDILL AFB FL
RUEAIIA/CIA WASHDC
RHEFDIA/DIA WASHINGTON DC
RHMFIUU/FBI WASHDC
RUEHDO/AMEMBASSY DOHA 1644
RUEHLO/AMEMBASSY LONDON 0426
RUEHML/AMEMBASSY MANILA 3167
RUEHNE/AMEMBASSY NEW DELHI 4945
RUEHBUL/AMEMBASSY KABUL 0340
RUEHLH/AMCONSUL LAHORE 7291
RUEHKP/AMCONSUL KARACHI 1691
RUEHPW/AMCONSUL PESHAWAR 6230

UNCLAS SECTION 01 OF 02 ISLAMABAD 001136 
 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV ETRD PGOV PK
SUBJECT: Economy Stable; Growth Predictions Slow 
 
¶1.  (SBU)  Summary:  Pakistan's economic indicators continue to 
remain stable, according to IMF Resident Representative Paul Ross 
and former Ministry of Finance official Ashfaque Hassan Khan.  It is 
widely acknowledged that Pakistan will have problems meeting its 
annual IMF tax revenue target, and Finance Advisor Tarin has told us 
that addressing this issue is his highest priority (see septel on 
tax policy).  Ross pointed out that fulfillment of pledges from the 
donors' conference will provide the equivalent of an economic 
stimulus program, funding social safety net and development 
projects.  Two areas to watch are remittances and exports. 
Worryingly, Pakistan's overall exports are down, driven by a 
significant fall in textile exports.  In a separate meeting with G-8 
Heads of Mission, Finance Advisor Tarin anticipated GDP growth would 
reach only 2 percent this year, down from initial estimates of 3.5 
and then 2.5 percent.  End Summary. 
 
¶2.  (SBU)  Econ officers discussed the current economic situation 
with IMF Resident Representative Paul Ross and former Ministry of 
Finance Special Secretary Dr. Ashfaque Hassan Khan.  (Note:  Khan 
recently left government, and is now the Dean of the National 
University of Science and Technology (NUST) Business School.  End 
note.)  In a separate meeting with G-8 Heads of Mission, Finance 
Advisor Shaukat Tarin briefed on his views of the economy.  In signs 
of continued stability, Pakistan's reserves continue to increase, 
and now stand at USD 7.8 billion, up from USD 3.2 billion in October 
¶2008. The exchange rate has stabilized at 80 to 81 rupees to the 
dollar, after the rupee fell over 13 percent between July and 
November 2008. 
 
¶3.  (SBU) Private inflows have slowed but Pakistan will not have a 
balance of payments deficit this fiscal year.  Both economists 
agreed that, despite the current macroeconomic stability, the 
increase in remittances (which may indicate that overseas Pakistani 
workers are losing their jobs and transferring assets home) and 
decreases in exports (due to the worldwide economic recession) are 
two areas to watch.  Pakistan's textile exports have decreased by 
over 9 percent, while overall exports dropped by 3 percent in the 
first ten months of the fiscal year.  This is due to the global 
recession, domestic energy shortages and high cost of borrowing. 
 
¶4.  (SBU)  Ross and Khan agreed that the GOP is unlikely to meet its 
annual IMF tax revenue target. The GOP has revised its target 
downward - from $16.9 billion to $15.5 billion - but provincial 
expenditures are still based on the original figure. Pakistan's tax 
base is very narrow, with no taxes on agriculture and most services. 
 Ross commented that the GOP is likely to make up the tax revenue 
shortfalls through the Petroleum Development Levy (PDL), which is 
projected to add approximately $1.24 billion to the government's 
coffers in the current fiscal year.  (Note:  Pakistan pump prices 
are above current international market prices; the government 
pockets the difference.  However, the Supreme Court has just ordered 
the GOP to pass on decreases in international oil prices to domestic 
consumers; the GOP is expected to comply by lowering prices around 
10 percent.  End note.) 
 
¶5.  (SBU)  Khan highlighted areas where the government is facing 
massive tax evasion, including withholding taxes, where the 
government loses $2.48 to 3.1 billion annually due to the 
introduction of a self-assessment system not backed up by a robust 
audit system.  Khan also criticized the IMF's tax target, which 
called for a significant increase in collections, while at the same 
time mandating that import growth be kept to one percent.  Since 
tariffs on imports represent approximately 45 percent of tax 
receipts, the IMF target is virtually impossible to meet, Khan 
argued. 
 
¶6.  (SBU)  Despite the anticipated tax collection shortfall, 
Pakistan will meet its fiscal deficit target of 4.3 percent due to 
cuts in development and current expenditures.  (Note: the IMF has 
indicated that it may relax this target for the next fiscal year in 
light of the growing IDP-related expenses facing the government. 
End note.)  Ross commented that the GOP is making serious efforts to 
meet its target, and has eliminated fuel subsidies.  However, he is 
concerned that it will be difficult to phase out electricity 
 
ISLAMABAD 00001136  002 OF 002 
 
 
subsidies by June 30, as the GOP has committed to do.  Elimination 
will require a four percent tariff increase, and rate increases 
combined with blackouts have led to civic unrest in the past.  Ross 
and Khan agreed that Pakistan should tax agriculture, which accounts 
for 20 percent of GDP but only one percent of tax revenue. 
 
¶7.  (SBU)  Although the Ministry of Finance has officially projected 
a 2.5 percent growth rate, based on forecasts for a good harvest and 
a 4.2 percent increase in services, Finance Advisor Tarin mentioned 
May 18 that 2.0 percent was a more realistic figure, a number which 
Ross agreed with.  Khan continued to project a one percent or even 
negative growth rate. 
 
¶8.   (SBU)  Economic growth has slowed in large part due to tight 
monetary policy.  While the IMF anticipates a 10.8 percent increase 
in the broad money supply, Khan commented that it will only grow by 
4.5 percent.  With negative net foreign asset inflows, domestic 
assets cannot grow sufficiently in the absence of borrowing from the 
State Bank of Pakistan.  Despite tight monetary policy and lower 
international commodity prices, core inflation remains at 17.9 
percent.  One reason is the composition of the core inflation index, 
which includes housing  costs (which many Pakistanis do not pay) as 
a principal component. 
 
¶9.   (SBU)  Ross stressed that fulfillment of the donors' conference 
pledges will have the same effect as the financial stimulus plans 
implemented by U.S., Japan and other countries.  While the financial 
inflows are helpful for Pakistan's balance of payments and reserves 
buildup, these funds will allow Pakistan to implement social safety 
net and development programs that it had previously slashed to meet 
its fiscal targets. 
 
Comment 
¶10.  (SBU)  While the GOP's efforts to meet IMF targets continue, 
and continue to restore investor confidence to a certain extent, the 
stringent Fund requirements are making it difficult for Pakistan to 
grow its way out of the current crisis.  We have heard anecdotally 
from textile manufacturers that a consolidation of the smaller 
enterprises is taking place, driven by falling demand and the high 
costs of working capital and of ensuring a reliable power supply. 
These anecdotal reports have now been confirmed by the recent trade 
figures. 
 
PATTERSON