Pakistan’s real economy is performing well with favourable signs for GDP growth rate, inflation, consumption, and private sector economic activities. Weak economic fundamentals, however, detract from this positive picture. Budget deficit will exceed target by a large margin, the current account deficit for the year will end at an unprecedented high. Pakistan is effectively in a debt trap where new borrowing is servicing past debt. Growth in imports and debt servicing means that Pakistan’s foreign exchange needs are much above what is available. Both domestic and external debt are at an all-time high. Continued weak fundamentals will damage the real sector and reduce growth rate. It will soon impact welfare of the people. The longer we postpone addressing the real causes of the economy, the worse would be its effect.
While tabling this fiscal year’s budget, GoP announced a combination of macro stabilizing and growth measures, to achieve its target GDP growth rate of 6% in FY 18. These measures included higher revenues and lower current expenditure, as well as increase in investment, especially through FDI from China and a large PSDP. As the fiscal year progressed government offered fiscal incentives to boost exports and increase production of agriculture and industry.
Actuals for the half year show growth rates approaching target. LSM has grown by 5.55%, just 0.8% off target. With a favourable monetary policy, demand has fueled production of consumer durables. Estimates for growth of major crops are favourable and half-year power supply grew by 11.8% over last year.
Yet, there are signs that this positive picture may not continue for long. Growth inducing machinery import declined by 3%, import of power generation machinery fell by 26% and construction machinery by 24%. So far, GoP had attributed the economy’s runaway current account deficit to such imports.
Stock of private sector bank credit grew by 7% over June 2017 but declined in terms of flow for July-December 2017-18, compared to the same period last year. Just 10% of bank credit went to fixed investment. Government has also reduced PSDP envelope as well as the pace of release of funds. And each year, the economy misses its target for saving and investment impeding growth.
Already weak, economic fundamentals have worsened. This is especially because of the economy’s inability to deal with the structural twin deficits. Fiscal deficit for half year was 2.2% of GDP against an annual target of 4.1%. It is expected to go up to 5.5% by year end. Fiscal operations show a primary budget deficit, meaning that government is borrowing even to pay markup.
Current account deficit is a particular concern. The deficit for July-February 2017-18 was USD 10.8 billion, 4.8% of GDP. It already exceeds the annual target USD 8.9 Billion or 2.6% of GDP. Trade gap was USD 19.7 Billion. Annualizing this eight-month data, suggests a current account deficit of USD 16.2 Billion for 2017-18, 82% more than the Annual Plan’s estimate. PBS data shows imports for the half year grew by 20.4% and trade deficit by 24.3 %.
External debt has financed the current account. Total external debt and liabilities increased by USD 5,799 Million during the half-year 2017-18. Their stock stood at USD 83,092 Million in June 2017. They grew to USD 88,891 Million by December 2017. Government external debt, not including PSEs, increased by USD 4,408 Million during the first half of fiscal year. During first half 2017-18, the economy serviced USD 3.6 Billion in mark-up and principal. Of this, USD 2.8 Billion was for central government debt, 72% of budget. Ballooning foreign exchange obligations is a major risk for the economy.
Foreign exchange reserves came under severe pressure and fell by a large margin. In one year, between February 2017 and February 2018, net SBP foreign reserves fell by over USD 4.8 Billion down to USD 12.2 Billion or less than three months’ import.
Larger issues lie behind Pakistan’s perennially poor macro indicators. Its weak fundamentals are symptoms of a deeper malaise. An elitist economy has caused chronic social and infrastructure deficit, the true determinants of growth. This makes Pakistan permanently dependent on external savings to meet its foreign exchange needs. The economy is exposed to continuous loan rollover and re-pricing risks. In effect, the economy is in a debt trap, but successive governments have developed no exit plan. We face today the outcome of deeply flawed policies of decades. Decision makers are focused on macro numbers without concern for what drives those indicators. Governance has continued to worsen with government at all levels doing little to reduce the cost of doing business. These are the building blocks of a competitive economy. So far, there is not even a discussion on these matters.
To enhance the economy’s repayment capacity, there must be sustained growth of GDP and of exports. That in turn needs higher savings and investment (including public investment). Inevitably, this will need higher imports, and more external capital. Breaking out of this circular logic that constrains the economy is government’s challenge. The economy needs a combination of stabilization and growth policies with perhaps rescheduling of loans, where possible, and targeted sourcing of FDIs.
Government policy has been adrift and two months before the elections the economy is sliding deeper into a morass of its own making. The immediate cause of this lies in decisions taken five years ago. For years, this Institute cautioned about the impending finale, as an obviously overvalued Rupee encouraged imports and dampened exports distorting the economy. This was the time when GOP celebrated its performance based on cursory and casual reports by foreign media. It also received extensive exemptions by an ever-accommodating IMF. Regrettably, hubris, hyperbole and patting the self on the back are no substitutes for strategy.