Pakistan's quarter-century Ponzi scheme has been a complex and intriguing financial phenomenon, and the recent attempt to exit it presents an opportunity to analyze and reflect on the underlying issues. While the country has made some progress in reducing its interest burden and achieving primary surpluses, the underlying architecture of its financial system remains flawed. This article delves into the reasons why Pakistan's Ponzi scheme never collapsed, the recent exit attempt, and the need for institutional reforms to ensure long-term financial stability.
The Ponzi Scheme's Resilience
Pakistan's Ponzi scheme has been a remarkable example of resilience, and there are several reasons for its longevity. Firstly, the country has a captive lender base, with domestic debt held by its own banks, which are funded by the State Bank of Pakistan (SBP). This allows the government to roll over debt and maintain the scheme's viability. Secondly, inflation has played a significant role in reducing the real value of the government's debts, acting as a quiet settlement mechanism for the Ponzi scheme. The great inflation of 2022-2024 and the lesser spike in 2019 have effectively written down the government's rupee debts.
However, what makes Pakistan's Ponzi scheme truly fascinating is the role of the State Bank's profits. The government pays interest on its domestic debt, which is earned by the financial system. These profits are then transferred back to the government as 'non-tax revenue'. This creates a loop where the government pays interest, the financial system earns it, and the State Bank's profits are used to fund the scheme. It's a clever mechanism that allows the government to avoid the need for significant institutional reforms.
The Exit Attempt
The recent improvement in Pakistan's financial position is not a rounding artifact but a genuine attempt to exit the Ponzi scheme. Interest rates have fallen from their crisis peak, leading to a projected drop in the State Bank's transfer by 41%. The federation has run a primary surplus for two consecutive years, passing the Minsky test. Additionally, the government has spent less than budgeted on both current and development heads, which is a significant achievement.
However, the question remains: what is holding up this exit attempt? The answer lies in the external program, not in domestic architecture. Pakistan's economic and legal institutions have failed to discipline spending and create a sustainable financial system. The 18th Amendment and the Seventh National Finance Commission (NFC) Award, which aimed to decentralize decision-making, have not lived up to their promise.
Financial vs. Institutional Gains
The gains achieved so far are primarily financial, not institutional. The primary surpluses and falling interest burden are real and reversible, as they are enforced by external programs with expiry dates. However, the underlying architecture of the financial system remains broken. The federation has not played its role straight, and the provinces have not become residual claimants.
The federation was handed the worse bundle, including the deficit, debt, and the duty to fund itself from the minority share of every tax rupee. This has led to a situation where the center never shrank, and the provinces have not developed their tax capacity. The levy migration, the unexplained lump, and the untaxed sectors are all evidence of the broken architecture.
The Bargain We Have Not Struck
The exit from the Ponzi scheme will not come until prudence and national economic growth interests our rulers more than its convenient alternatives. The elite bargain remains unstruck, and the current financial gains are reversible. The government's ability to sidestep the fundamental problem and undercut the broken architecture is a cause for concern.
In conclusion, Pakistan's quarter-century Ponzi scheme is a complex and intriguing financial phenomenon. While the recent exit attempt is a step in the right direction, the underlying architecture of the financial system remains flawed. The gains achieved so far are primarily financial, not institutional, and the country needs to strike a bargain between prudence and national economic growth to ensure long-term financial stability.
