SIFC: A wrong step at times of worsening investment climate

In their handbook chapter on what explains a country’s comparative advantage, Nathan Nunn and Daniel Trefler show that countries with better contracting institutions produce more sophisticated products. In contrast, countries with weak institutions specialize in low-value-added, and less sophisticated products.

In this context, the recent amendments made to the Board of Investment Act take Pakistan further away from the goal of rising-up the value chain and industrializing. The Economic Advisory Group (EAG) met to deliberate on the amendments and is of the view that the conflict of interest that mars the Special Investment Facilitation Council (SIFC) and the arbitrary powers given to the council will create more uncertainty for businesses planning to enter Pakistan or expand their existing operations here. Instead, the EAG proposes an alternate plan the policymakers should pursue to advance the country toward a prosperous future.

In its deliberations, the EAG expressed concerns regarding the arbitrary powers given to the SIFC to “recommend, where appropriate, additional incentives or relaxation in the regulatory and policy framework” for specific projects. It is critical for businesses to be able to look ahead before undertaking long-term investment projects. With SIFC having arbitrary powers to offer better incentives to competitors, the new law increases the risk for anyone planning to invest in Pakistan. In doing so, the amendments ignore the vast literature which emphasizes how an increase in risk decreases investment.

The amendments further allow the SIFC to “summon” and “direct” the regulatory institutions. This puts a serious question mark on the credibility of both the legal framework and regulatory institutions which are mandated to enforce contracts, ensure transparency, and regulate malpractices that undermine the competitive environment and the interests of the citizens. The subsequent erosion in the quality of the contracting institutions as a result of this will reverse the little progress Pakistan has made over decades towards industrialization. It is worth noting that Pakistan already ranks poorly in both the regulatory oversight and the civil law which are critical for becoming globally competitive in the production of more sophisticated products. This also reflects in Pakistan’s ranking at 94^th position (out of 133) on the export complexity index.

The presence of the army chief on the apex committee of the SIFC, while the military has direct commercial interests, further undermines the confidence that the policymakers will be able to achieve their desired objective with these amendments. The Competition Commission of Pakistan has already highlighted  the predominance of military-led organizations in the construction industry and how this undermines competition.

The EAG acknowledges the urgency to take policy decisions to bring Pakistan out of the current crisis. However, the EAG also believes that policy measures which undermine competition and weaken contracting institutions will fail in achieving the intended objective.

EAG recommends the way forward should include a combination of external debt restructuring to address the immediate liquidity issues and structural reforms to improve the productivity and competitiveness of Pakistan. The external debt servicing burden, if not directly addressed, will keep the investment climate hostage to the macro uncertainty that comes with it. Pakistan’s external debt servicing burden as a percentage of its dollar income is one of the highest in the world.

In addition to external debt restructuring, the EAG also emphasizes the need to open-up the economy to domestic and international competition, and undertake structural reforms put forward in the EAG vision document. Some of these reforms include revisiting pricing regimes, revamping the education system with emphasis on mainstreaming vocational training, joining regional trading blocks, and reorienting industrial policy towards rewarding innovators, improving land-use within cities, and simplification of the tax code.