FeaturedNationalVOLUME 19 ISSUE # 27

Structural bottlenecks persist

The latest reports from the State Bank of Pakistan (SBP) and the World Bank provide a comprehensive overview of Pakistan’s economic situation, highlighting both persistent challenges and areas of potential growth. As the country struggles with structural bottlenecks and political uncertainty, recent data offers insights into GDP growth, inflation trends, and the critical need for policy reforms. Despite some improvements in macroeconomic indicators, significant issues such as high inflation, fiscal deficits, and external pressures continue to pose threats to economic stability.

Pakistan’s economy is grappling with structural bottlenecks and political uncertainty, despite some improvements in macroeconomic indicators, according to the State Bank of Pakistan (SBP). It projected a real GDP growth rate of 2%-3% for fiscal year 2024. In its semi-annual report, the SBP noted a moderate recovery in economic activities since the previous year. However, it highlighted that “political uncertainty exacerbates the situation through inconsistency in economic policies, weak governance, and public administration,” as stated in the Half Year Report 2023-2024.

The International Monetary Fund (IMF) also pointed out last week that downside risks for the economy remain exceptionally high. In its staff report, the IMF warned that political complexities and the high cost of living could hinder policy effectiveness. It noted that policy slippages and reduced external financing could undermine debt sustainability and pressure the exchange rate.

The SBP underscored the need for policy reforms to address these challenges, with one of the most pressing issues being high and persistent inflation. Despite the uncertainty, the report mentioned that inflation is expected to follow a downward trajectory. Consumer price inflation slowed to 17.3% in April year-on-year, marking the lowest rate in nearly two years.

The central bank emphasized the importance of addressing policy and structural challenges to create a favorable environment for a long-term disinflationary trend and achieving low and stable inflation sustainably. Major issues include limited savings, low investments in physical and human capital, weak productivity, stagnant exports, a narrow tax base, and inefficiencies in public sector enterprises.

The report stated, “While the SBP will continue to anchor inflationary expectations and contain the second-round impact of supply shocks as needed, further fiscal consolidation and reduction in uncertainty are imperative to achieve the medium-term target of 5–7% inflation by the end of FY25.”

According to the World Bank, Pakistan faces tough times ahead with high inflation and modest growth. The World Bank forecasts an inflation rate of 26 percent for this fiscal year, decreasing slightly to 15 percent next fiscal year. Economic growth is projected to be 1.8 percent for the current fiscal year, with a slight increase to 2.3 percent next fiscal year. These projections highlight the ongoing challenges in Pakistan’s economy, including structural issues and external pressures. In the agricultural and industrial sectors, growth is expected to reach 2.2 percent next fiscal year, indicating a slow recovery that still falls short for a country with a large and diverse economic base.

The World Bank highlights Pakistan’s current account deficit, projected to be around 0.6 percent next fiscal year, indicating a slight improvement but underscoring the need for continued fiscal management and reform. More concerning is the financial deficit, expected to reach 8 percent of GDP this fiscal year, decreasing slightly to 7.4 percent next fiscal year. This suggests some fiscal tightening but still presents a significant challenge for economic stability.

The SBP report emphasizes the need to address policy and structural challenges, particularly given the persistent inflationary pressures from non-monetary sources. Notably, Pakistan’s headline inflation has slowed in recent months, from 28.3% in January 2024 to 17.3% in April 2024, with expectations for further easing in the coming months.

The central bank attributes this decline in inflation to its monetary tightening measures, supported by social fiscal consolidation, lower global commodity prices, and improved domestic crop output. The NCPI inflation decreased from a peak of 38% in May 2023 to 29.7% in December 2023, with core inflation also gradually decelerating.

The SBP stresses that while various factors contribute to inflation, monetary policy plays a crucial role, as money supply and inflation expectations significantly impact inflation rates. The report notes, “The size of adjustments in the policy rate and its consequent economic costs can be substantially reduced by addressing the long-standing policy and structural challenges.”

Real GDP grew by 1.7% during H1FY24 compared to 1.6% in H1FY23, and a contraction of 1.9% in H2FY23. This growth was primarily driven by the agriculture sector, with significant increases in cotton and rice production due to favorable weather conditions, better availability of inputs, and policy incentives. These factors also encouraged farmers to expand wheat cultivation.

The SBP noted that the recovery in agriculture supported some agro-based industries. Additionally, the withdrawal of import prioritization measures improved the availability of raw materials for the industry. This is reflected in a considerably lower contraction in large-scale manufacturing (LSM) during H1FY24 compared to H1FY23. The approval of the IMF’s Stand-By Arrangement (SBA) partially eased external borrowing constraints, leading to increased financial inflows during H1FY24. Lower scheduled external loan repayments compared to H1FY23 and a significant reduction in the current account deficit also supported the build-up of the SBP’s foreign exchange reserves.

Pakistan’s path to economic recovery is fraught with challenges, including high inflation, fiscal deficits, and structural inefficiencies. The challenges underscore the necessity of robust policy reforms and effective fiscal management to navigate these difficulties. While recent improvements in the agricultural sector and easing inflation offer some optimism, sustained growth will require addressing long-standing structural issues and enhancing governance. The government’s ability to implement these reforms will be crucial in achieving economic stability and fostering long-term prosperity for Pakistan.