Prior Actions and progress towards end-March Structural PCs and Benchmarks

2. The information provided by the authorities since the issuance of EBS/02/43 indicates that all prior actions listed in the Memorandum of Economic and Financial Policies (MEFP) have been implemented.

3. The authorities’ letter of intent includes a request for modification of the end-March 2002 performance criterion regarding adoption of a timetable for the phasing out of the GST subsidy on electricity and various sales tax exemptions. For the reasons set out in the staff appraisal, staff supports the changes in program conditionality contemplated by the proposed modification. However, the authorities have already adopted this modified timetable, as specified in the MEFP. Since the authorities have already met the measure proposed to be set as a performance criterion, staff proposes that the relevant performance criterion be deleted from the arrangement. Staff regards deletion as the most appropriate course of action because: (a) it no longer views the performance criterion in its original form as appropriate; and (b) it would not be appropriate to modify this performance criterion in a manner that has already been complied with by the authorities. Staff therefore proposes for the consideration of the Board the deletion of the performance criterion pertaining to the adoption of a timetable for the phasing out, during the program period, of the GST subsidy on electricity and GST exemptions for edible oil, vegetable ghee, and pharmaceuticals (except lifesaving drugs) as a condition for the PRGF disbursement related to the end-March 2002 test date. A revised proposed decision incorporating these changes has been circulated to the Board.

Recent Economic Developments

4. The consumer price index rose in the year through February 2002 by 3.3 percent, compared to 2.3 percent through January 2002. The average CPI for the period July 2001-February 2002 was 2.8 percent higher than in the same period in the previous fiscal year. The pick-up in the 12-month rate of inflation in February is mostly explained by higher prices for domestically produced food, and for diesel. Available trade data for the period July 2001-Fcbruary 2002 indicate that both exports and imports continued to decline with respect to the same period in fiscal year 2000/01. In February 2002, exports were 13 percent and imports were 10.7 percent lower than in February 2001. However, there are indications that export orders are now starting to pick up. Remittances and private capital inflows continued strongly, and allowed the SBP to further accumulate foreign exchange reserves. During the period January 1-March 21, 2002, the SBP purchased foreign exchange for US$0.7 billion on the interbank market and US$0.4 billion on the kerb market. Official reserves stood at USS3.4 billion on March 21, 2002. Over the same the period, the Pakistan rupee was virtually stable, and the spread between the kerb and interbank market remained below 2 percent.

5. Provisional data on revenue and expenditure for January 2002 indicate that the fiscal deficit target remains within reach. Preliminary data on CBR revenue indicate that for July 2001-February 2002, CBR revenue reached PRs 234.9 billion, 3.7 percent less than during the corresponding period in the previous fiscal year. CBR tax collection in February 2002 was lower than anticipated, reflecting the continued decline in imports but also some shortfall in direct taxes. Revenue from petroleum and gas surcharges are on track to slightly exceed program projections. Despite some pick up in defense expenditure in January, other current expenditure were lower than projected. Development expenditure increased to PRs 9 billion in January 2002, against a monthly average of PRs 6 billion during the period July-December 2001. This in part reflects a faster pace of implementing investment projects at the local government levels, where accounts became effectively operational only in December 2001. Given the high share of I-PRSP expenditure in local government outlays, this would point to an acceleration of I-PRSP spending as well.

6. The growth rate of reserve money in the year through January 2002, corrected to eliminate the impact of the special cash reserve requirement on foreign currency deposits introduced in April 2001, decreased to 10.7 percent (from 14.8 percent in December 2001). This decline reflects active open market operations during January 2002 to absorb liquidity introduced during the preceding Ramadan period. The authorities have started to strengthen the monitoring of bank credit to public enterprises. A major reconciliation and updating of the list of public enterprises between the Ministry of Finance, the SBP, and commercial banks is underway to ensure public enterprise credit is classified correctly and consistently across banks. The data reconciliation process is not yet completed, but preliminary information suggests that it will lead to substantive downward revisions in the data on public enterprise credit, and corresponding upward revision in private sector credit. The final data are expected to be available in April/May 2002, and are expected to indicate that the end-December 2001 performance criterion was missed by a small margin only.

7. The Karachi stock exchange market continued its upward trend, and the main index reached 1884 level on March 21, 2002 (42 percent increase over end-March 2001). The authorities made progress in the implementation of the privatization program by selling in early March 2002 a 90 percent stake in Pak-Saudi Fertilizer for about PRs 8 billion to domestic investors.