FeaturedNationalVOLUME 18 ISSUE # 08

Embedded imbalances

Pakistan has failed to achieve its potential because flaws exist in its economy. The country finds itself in a deep crisis after every few years when it appears that it has almost overcome its financial problems. The same situation has surfaced again. Low economic growth, depleting foreign exchange reserves, stagnant exports, high inflation and unsustainable external debt are its major issues. Every government took only cosmetic measures and prioritised its political goals instead of wider national interests. The result is before us in the shape of gigantic problems.

Pakistan’s problems have worsened in the last 10-15 years, because governments took populist measures which harmed the national economy. Political instability is also a big issue. No political party is ready to accept its defeat in the election. The result is that protests start against every government soon after the election. Another reason is weak and coalition governments, which cannot take decisions to put the economy on the right path and have to face blackmailing from its allies. The government of Prime Minister Imran Khan spent most of its time appeasing its coalition partners instead of focusing on national issues and the economy. The new coalition government is facing the same situation.

Pakistan has failed to break its boom and bust cycle because it could not remove structural flaws in the economy. According to the State Bank of Pakistan, the experience from FY22 brings to fore once again the need to address the country’s structural weaknesses, such as, a narrow base of foreign exchange earnings and meagre inflows of foreign investment. “Therefore, a concerted approach is required to encourage increased localization of the manufacturing base, along with the lowering of energy intensity of the economy by ensuring energy efficiency and conservation. Moreover, amid the growing issues related to climate change and inadequate food security, there is an urgent need to formulate a strategy to meet the challenges. Priority should be given to produce new varieties of seeds that are suitable to varying weather conditions and to devise a framework that emphasizes water management strategies to increase agricultural productivity,” the central bank said in its annual report.

According to the report for the last fiscal year, Pakistan’s economy achieved real GDP growth of around 6pc, for a second consecutive year. “The growth was broad-based as both agriculture and industry saw a notable increase that spilled over to the services sector as well. However, with the continued reliance on consumption as the source of growth, amid sluggish improvement in productivity, the country remained vulnerable to adverse developments in the global economy. Hence, a combination of adverse global and domestic developments led to the reemergence of macroeconomic imbalances during FY22,” it noted.

The report noted that the expansionary fiscal stance in FY22, an upsurge in global commodity prices, and the fallout of the Russia-Ukraine conflict, led to a marked deterioration in the current account deficit. In addition, the delay in the resumption of the IMF programme and political instability exacerbated the country’s vulnerability through the depletion of FX reserves. The resulting depreciation in the rupee amplified inflationary pressures by magnifying the effect of global price increase. Fiscal policy support in the shape of tax incentives for the industry, export and construction, a large increase in provincial development spending, tax incentives and subsidies to protect consumers from the impact of rising international oil prices, supported the momentum of economic activity. Also, the lagged impact of monetary stimulus rolled out during the pandemic, the SBP’s targets for housing and construction, and capacity expansions under the Temporary Economic Refinance Facility (TERF) and Long Term Financing Facility (LTFF) continued to underpin GDP growth. Besides, the sustained rally in domestic and global demand and receding concerns about the Covid-pandemic also catalyzed the momentum of economic activity during FY22.

However, the impact of accommodative policies contributed to higher than planned growth in the economy, and together with the rapid rise in global commodity prices, posed risks to the country’s macroeconomic stability. Particularly, this led to a sizable increase in the import bill in FY22 that significantly outpaced the expansion in exports and widened the CAD to a four-year high level. On the financing side, net inflow of FX loans and liabilities rose considerably compared to last year, but remained lower than planned commitment amid the delay in resumption of the IMF programme and domestic political instability, leading to a decline in the SBP’s liquid reserves during FY22, the central bank explained.

The external account pressures, together with the appreciation in dollar index especially in the second half of the fiscal year, led to a substantial depreciation in the rupee, which further magnified the combined effect of elevated domestic demand and the global commodity price increase, leading to a rise in inflationary pressures. National Consumer Price Index (NCPI) inflation reached the double-digit level of 12.2pc in FY22, exceeding the SBP’s revised projection of 9-11pc. Food group, particularly the non-perishable category, was a major source of inflation because of the persistent increase in global food prices of imported commodities (such as palm oil and tea), alongside the supply-demand gaps in some commodities (in particular, milk and meat). Furthermore, fuel inflation also remained at an elevated level during the year. Inflation in the non-food-non-energy (NFNE) group also swelled during FY22, indicating both demand and cost push pressures.

On the fiscal side, while the sharp pickup in imports boosted tax collection, a broad-based increase in fuel subsidies widened the fiscal and primary deficit during FY22. The expansion in current spending pared the fiscal space for federal development spending during the year. Tax collection at both federal and provincial levels nonetheless edged up. FBR taxes achieved a six-year high growth and slightly exceeded the upward revised budget estimate for the year. The major impetus came from import related taxes that constituted more than two-third in overall FBR tax collection in FY22. In line with the widening imbalances in the external and fiscal account, the public debt burden increased during FY22. Also with the rising interest rates during the year domestic debt servicing requirements increased during FY22, the report added.

Pakistan identifies its challenges every four months and then at the end of every year, but serious efforts have never been made to address them. Policymakers should take practical measures to address them.