FeaturedNationalVOLUME 19 ISSUE # 12

Economic stability achieved, really?

The caretaker administration’s efforts over the last six months have led to significant economic improvements, including a reduction in the exchange rate volatility and a narrowing gap between the open market and official rates, which has fostered economic stability.

Over the past six months, the caretaker administration’s initiatives have resulted in notable economic improvements. These include a reduction in exchange rate volatility and a narrowing gap between open market and official rates, contributing to overall economic stability. Key accomplishments encompass a decrease in the trade deficit to $1.9 billion in January 2024, down from $2.6 billion the previous year. Furthermore, there was a significant 27% surge in exports to $2.8 billion in January. Successful negotiations with the International Monetary Fund (IMF) led to a $700 million tranche in January 2024, coupled with an additional $1.5-1.6 billion secured from other multilateral institutions.

The government also successfully curtailed the fiscal deficit to 1.3% of GDP and reduced the current account deficit by 71.1% to $831 million in the first half of FY2024. The establishment of the Export-Import Bank (EXIM Bank) represents a strategic move to bolster export financing.

However, Pakistan is still facing many domestic and international issues. Security issues pose a significant threat to the stability and growth of the Pakistan economy. The persistent challenges in this domain, encompassing both regional tensions and internal conflicts, have far-reaching implications that extend beyond the immediate concerns of safety and geopolitical stability.

On the regional front, tensions with neighboring countries can create an atmosphere of uncertainty that negatively influences investor confidence. Investors, both domestic and foreign, closely monitor geopolitical situations before committing to long-term ventures. The specter of conflict or diplomatic strains can lead to a cautious approach, hindering the inflow of foreign capital and impeding economic activities. Moreover, regional security concerns can disrupt cross-border trade and economic cooperation, impacting the smooth functioning of supply chains and regional economic integration.

Internally, ongoing conflicts and security challenges within Pakistan contribute to an environment of instability. Instances of terrorism, insurgency, and other forms of violence can undermine the rule of law and create an atmosphere of fear, deterring businesses from making substantial investments. The perceived threat to personal safety and property can prompt businesses to scale back operations or relocate, leading to a slowdown in economic activities and employment generation.

The adverse impact on investor confidence is particularly noteworthy. Investors seek stable and secure environments for their capital, and any perception of heightened risk can divert investments to more secure regions. This not only affects the overall economic growth but also impedes the development of key sectors that heavily rely on sustained investments, such as infrastructure, manufacturing, and technology.

Political instability is a critical concern for the economic landscape of Pakistan, exerting a pervasive influence on the business environment and investment climate. This instability manifests through political uncertainties, policy fluctuations, and frequent changes in leadership, collectively contributing to an atmosphere that is often perceived as unpredictable and potentially detrimental for both domestic and foreign investors.

The continuous flux in political dynamics, characterized by shifts in government, can lead to a lack of consistency in policy frameworks. Frequent changes in leadership often bring about alterations in economic strategies, regulatory frameworks, and development priorities. This inconsistency can create challenges for businesses in terms of adapting to new policies and navigating regulatory environments, resulting in a degree of uncertainty that discourages long-term investment planning.

For foreign investors, the perception of political instability can be a significant deterrent. The risk of abrupt changes in government and policies introduces an element of unpredictability that may overshadow the potential returns on investment. As a result, foreign investors may opt for more stable markets, diverting capital away from Pakistan and limiting the inflow of foreign direct investment (FDI).

Trade imbalances present a substantial challenge to the economic well-being of Pakistan, characterized by persistent trade deficits and a pronounced reliance on imports. This scenario not only impacts the country’s balance of payments but also leaves the economy vulnerable to external shocks, influencing the stability of foreign exchange reserves.

A trade deficit occurs when a nation’s imports surpass its exports, resulting in a shortfall in the trade balance. In the case of Pakistan, the persistence of such trade imbalances signifies that the country is consistently importing more goods and services than it is exporting. This imbalance can have far-reaching consequences for the overall economic health.

One of the primary concerns stems from the strain on the balance of payments. When a country consistently runs a trade deficit, it must finance the gap by attracting foreign capital or utilizing its foreign exchange reserves. A chronic trade imbalance can lead to increased dependence on external financing, making the economy susceptible to fluctuations in global economic conditions, interest rates, and investor sentiment.

Moreover, the reliance on imports, particularly for essential goods and raw materials, exposes Pakistan to external shocks. Fluctuations in global commodity prices, changes in demand for exports, or disruptions in the supply chain can have direct consequences on the cost of imports. This, in turn, affects the overall cost structure for businesses, potentially leading to inflationary pressures within the domestic economy.

Persistent trade deficits also put pressure on foreign exchange reserves. As the country continues to import more than it exports, maintaining an adequate level of reserves becomes crucial to meet external obligations, such as servicing debt and facilitating international transactions. Insufficient reserves can lead to currency depreciation, negatively impacting the purchasing power of the local currency and potentially triggering inflation.

Inflationary pressures represent a critical economic concern for Pakistan, as the steady rise in inflation rates has the potential to erode the purchasing power of both consumers and businesses. This phenomenon not only poses immediate challenges but also exerts a broader impact on overall economic stability.

Businesses, too, are significantly affected by inflationary pressures. The increased costs of production, driven by higher prices for raw materials, energy, and labor, can squeeze profit margins. This may lead to difficult decisions for businesses, such as cutting costs, raising prices, or absorbing the increased expenses. In any case, these adjustments can have ripple effects throughout the supply chain and the broader economy.

Moreover, inflation can disrupt investment decisions. Uncertainty about future prices and the purchasing power of money may lead businesses to delay or reconsider capital expenditures, hindering long-term economic growth. Investors, both domestic and foreign, may also be deterred from committing capital in an environment characterized by unpredictable inflation, as it introduces an additional layer of risk into financial planning. Pakistan faces serious issues which need long-term planning and strict enforcement.