Economic fundamentals

Even though there are differences among experts on its definition, the term ‘economic fundamentals’ is highly popular and well understood. It essentially means macroeconomic activities such as economic growth, employment, investments, inflation, balance of payments, public debt, stock market and the like. When favourable trends are noticed in most of the above variables, we say that the economic fundamentals are strong.

There is a great deal of clamouring about the state of the economy, which is mostly depicted as weak, crumbling, melting and falling. It is important, therefore, to discern what’s good and what’s wrong with the economy. A brief analysis of the economic fundamentals would clear the picture.

Last year, GDP growth was recorded at 5.3 percent and has been projected at six percent for the current year. All indications point to the fact that this growth rate would be achieved. The production data of large-scale manufacturing (LSM), a leading indicator of economic growth, for July-August shows a robust growth of 11.3 percent compared with a meagre 2.1 percent. The main summer (Kharif) crops – cotton, sugarcane and rice – are estimated to register higher than the targeted production. Cotton arrivals, as on October 15, were nearly six million bales up compared with 4.4 million bales for the same period last year, showing an increase of 37 percent.

Rice is estimated at 7.3 million tonnes up from 6.8 million tonnes last year, showing an increase of seven percent. Sugarcane output for 2017-18 is estimated at 81.4 million tonnes up by 11 percent from a record production of 73.6 million tonnes last season. Energy production is rising and the availability of stocks of wheat, sugar, petroleum products are adequate. All these developments, unmistakably, point to a fairly strong production sector performance.

Inflation for the month of September was 3.9 percent – the same as last September – while the average inflation for July-September (Q-1) was 3.4 percent as against 3.9 percent in Q-1 last year. This is an exceptional price stability that has never been seen in the last 15 years. Undoubtedly, this has been contributed by the low international oil and other commodity prices – a trend that has been largely stable for nearly three years. Going forward also, world prices look stable and hence inflationary pressures would be modest.

Data on investment is published on an annual basis but one could discern trends by looking at two leading indicators: the data on machinery imports and the credit to the private sector. The machinery imports in Q-1 were up by 25 percent together with other industrial raw materials pointing to a rising economic activity. The higher current account deficit is a reliable indicator for increasing higher investment and, hence, higher national savings.

In fact, the revised national accounts for 2016-17 significantly underestimated the foreign savings at 2.7 percent whereas the final figure was close to four percent and hence investment trend is rising. As we note below, the Q-1 current account deficit has a strong growth also. Last fiscal year, credit to private sector was unprecedented and stood at Rs.748 billion. In Q-1, there is a net retirement of Rs36 billion as opposed to a retirement of Rs125 billion in Q-1 last year. This is a lean period in the private credit cycle and should pick up as we move in Q-2 onwards.

Regarding employment, the data is not as regularly compiled as in the cases of other indicators. However, investment and economic growth are both highly correlated with employment. We have, therefore, a good basis to surmise that increasing economic activities are creating employment opportunities.

As we have discussed last week, balance of payments (BOP) is in a precarious state. The current account deficit worsened by 127 percent, rising from $1,367 million in Q-1 last year to $3,557 million in Q-1 this year. Financing of only $1,411 million was available, leaving a gap of $2146 million. To fill this gap, which was as much as for the last full year, reserves were used, leading to a significant depletion in only one quarter. We had also discussed a concomitant factor contributing to BOP – the fiscal deficit – which remains high, based on SBP figures, although the final figure for Q-1 would be released in November.

Public debt was not an issue until the last fiscal year when the fiscal deficit shot up to 5.8 percent and continues to rise. The external debt is the one that poses a challenge in terms of default risk. We are not there at all as the external debt sustainability indicators, as on December 31, 2016, are within the benchmarks set out in the medium-term debt management strategy. The data related to June 30, 2017 has yet to be published.

The stock market, despite all caveats about its unpredictability and reliability, remains an important barometer of economic health. From an unprecedented level of 53,000 points in May, the index has lost nearly 25 percent of its value equivalent to $18 billion in market capitalisation. Apart from some policy missteps in the last budget, negatively impacting market sentiments, the stock market is reacting to political uncertainty in the country. Experts firmly believe that market fundamentals are strong and that the market would bounce back once political uncertainty is removed.

The picture of the economy we have presented clearly establishes that its fundamentals are strong and that it is poised to achieve higher growth without fuelling inflation. Mercifully, this has come after the loss of nearly a decade. But, as we have been arguing consistently, the blossoming economy faces threats from policy inaction and missteps.

The twin deficits of fiscal and external accounts are rearing their menacing heads. Before they push the country to seek outside help, which could not happen at a more unsuitable time, we must rise to the occasion and rein them in. Many cabinet members have declared that neither is there a need nor does the government intend to seek outside help. Well, fine. To be credible, please take measures to reverse the deteriorating trends in the twin deficits.