External shocks and domestic mismanagement
The Finance Ministry’s latest report offers a comprehensive look at the persistent challenges facing Pakistan’s economy. While external factors such as the Russia-Ukraine war and climate-related disasters are acknowledged as significant contributors to the country’s economic woes, the report also highlights critical issues like inflation, poverty, and the fiscal deficit. However, it underemphasizes the internal mismanagement that has exacerbated these problems. This report serves as a crucial reminder that while global events have deeply impacted Pakistan, addressing domestic inefficiencies remains paramount for long-term stability.
Pakistan continues to grapple with five persistent and critical economic challenges, including soaring fuel prices, deepening poverty, and escalating inflation. In its fifth quarterly report to the Asian Development Bank (ADB) on the $1.5 billion Building Resilience with Active Country-cyclical Expenditures (BRACE) initiative, the Ministry of Finance emphasized the significant impact of the ongoing Russia-Ukraine conflict on Pakistan’s economy, particularly due to elevated fuel prices.
The report highlighted that fuel prices have a substantial multiplier effect on the economy, influencing multiple sectors. Elevated fuel costs not only curtail direct consumption of petroleum products but also impact industries such as electricity generation, industrial output, transportation, travel, mining, construction, and many more.
In addition to fuel, the report underscored that edible oil is the next major contributor to GDP and household consumption, with a disproportionate impact on low-income groups. Due to the higher price elasticity of oil, demand shocks are more severe compared to wheat and nearly double in poor households. Since Pakistan relies heavily on imported palm oil from Malaysia and Indonesia, it remains vulnerable to any price hikes, which could also affect the dietary health of children.
The report also stressed that the Russia-Ukraine war is exacerbating poverty levels, placing additional strain on Pakistan’s already tight fiscal space. The Post-Disaster Needs Assessment Report of the 2022 floods, released by the Ministry of Planning, Development, and Special Initiatives, projected that national poverty rates could increase by 3.7-4.0%, pushing an additional 8.4-9.1 million people into poverty. Any potential cash assistance or expansion of the Benazir Income Support Program (BISP) could further strain fiscal deficits.
Rising inflation, especially in food prices—the highest in Pakistan’s history—along with increased costs for petroleum products, electricity, gas, and continued currency depreciation, are negatively impacting household consumption, particularly in rural areas, and leading to increased poverty.
The ministry further noted that while the global crisis resulting from the Russia-Ukraine war is expected to slow economic growth, the impact on poverty, food insecurity, and dietary deterioration is likely to be more severe. The catastrophic floods in 2022, which affected 33 million people and 1.8 million hectares of cropland, particularly damaging cotton and rice crops, as well as causing significant losses to public infrastructure and private property, will contribute to slower economic growth in FY2023, higher poverty rates, and worsened food security, especially in rural areas.
On the fiscal front, while revenue collection has shown promise, expenditures remain under pressure, largely due to rising interest payments. However, government efforts to curb non-interest spending have led to an improvement in the primary surplus during the first six months of FY2024. The overall fiscal deficit widened by 2.3% of GDP, while the primary surplus improved by 1.7% of GDP during the July-December period of FY2024. During the first half of FY2024, the Federal Board of Revenue (FBR) reported a 30% increase in revenue, reaching PRs 4,469 billion, compared to PRs 3,429 billion during the same period last year. Non-tax revenue also surged by 108.8%.
The report highlights key economic challenges facing Pakistan, offering a critical, albeit limited, overview of the situation. While the report accurately points to external factors—such as the Russia-Ukraine war and extreme weather events—contributing to the country’s economic woes, it downplays the role of domestic mismanagement in exacerbating these issues. Still, it provides insight into the hurdles facing the economy and policymakers’ perspectives.
The report reaffirms that the Russia-Ukraine conflict has driven up international petroleum prices, which have severely impacted Pakistan due to its vulnerability to global price shocks. Over the last two years, this has led to a sharp rise in fuel prices, triggering a domino effect across various economic sectors. Alongside a reduction in petroleum consumption, other critical sectors such as electricity generation, industrial demand, transportation, and construction have also felt the strain.
Additionally, Pakistan’s reliance on imported edible oil has left the country exposed to global price volatility, which has worsened GDP, household consumption, and food security. The diet of many households, particularly poorer ones, has deteriorated due to these price shocks, further compounding the problem of malnutrition. High fuel and edible oil prices have been key contributors to the record-breaking inflation, especially food inflation. Rising prices of essential commodities, combined with the ongoing depreciation of the rupee, have severely eroded household purchasing power, pushing more families into poverty. The calamitous floods of 2022 only aggravated this trend by destroying 1.8 million hectares of cropland and damaging public infrastructure.
The report warns that an additional 8.4-9.1 million people may fall into poverty as a result of these floods, underscoring the long-term impact of climate change on Pakistan’s economy. Climate-related challenges are reshaping everything from agriculture to infrastructure resilience, yet government action in this area remains insufficient to meet the scale of the threat.
Efforts to address poverty through targeted subsidies are constrained by the country’s limited fiscal space, another major issue the economy faces. The report reveals that high mark-up payments have put severe pressure on government spending, widening the fiscal deficit to 2.3% of GDP in the first half of FY2024.
While debt servicing obligations are unavoidable, the government’s failure to broaden the tax base and cut excessive expenditures has worsened the economic crisis. Expanding the tax base and reducing unnecessary spending are essential steps for long-term resilience against external shocks, global crises, and climate change. Without these measures, Pakistan’s economic challenges will continue to deepen.
Pakistan’s economic challenges are a complex blend of external shocks and internal missteps. High fuel prices, reliance on imports, and the fallout from climate-related disasters have placed immense strain on the economy, driving inflation and deepening poverty. Yet, the lack of a comprehensive approach to broadening the tax base and reducing unnecessary expenditures continues to hamper efforts to stabilize the economy. Long-lasting resilience can only be achieved if the government tackles these structural issues head-on, ensuring that the country is better prepared to withstand future crises and shocks.