Economic Challenges of Pakistan

How to deal with economic woes of Pakistan and IMF Conditionalities.

Outline:
1. Introduction:- The dismal economic picture.
2. Economic woes of Pakistan and way forward:-
i) Low economic growth.
ii) Fiscal, current account and trade def0069cit.
iii) Sky rocketing debt and servicing.
iv) Dwindling Foreign exchange reserves & devaluation of rupee.
v) High inflation
vi) Rising population and unemployment.
vii) Energy crises and decaying infrastructure.
viii) Political stability, law and order / security.
ix) Loss making public sector enterprises.

3. Pakistan will remain in FATFs “grey list” until the completion of another review in
February 2020.
i) Reasons behind putting Pakistan on the “grey list”.
ii) Implications for Pakistan.
iii) Consequences for Pakistan if it is Black listed by the Global watch dog
FATF.
iv) Is this financial or political issue?

4. Cure or curse: Our perpetual dependence on the IMF.

i) Pakistan has borrowed twenty-two times from IMF since its membership.
ii) It has got largest loan in history of US$ 6 Billion from IMF based on tough
conditions.
iii) Prolonged interaction breeds complacency and self-interest.

5. World bank’s projections for Pakistan’s economy.

6. Translating socio-political positive developments into public policy i.e

i) Growing remittances.
ii) Demographic dividends
iii) Woman empowerment.
7. Conclusion.
 ESSAY

Economy of a country has, over the years, assumed greater importance than
before. Now a days modern nations are seen through the prism of economic
strength contrary to the historical view of military might. In case of Pakistan, many
problems of political, economic, social, security – areas are as old as the country
itself. Since its inception, they are the same challenges with merely different
dimensions. Octogenarians and nonagenarians must have a feeling of déjà vu
regarding the country’s economic ills. Pakistan’s economy has experienced
frequent boom and bust cycles. Typically, each cycle comprised of 3-4 years of
relatively higher growth followed by a macroeconomic crisis which necessitated
stabilization programs. Presently our economy is undergoing a depressing state of
affairs. It is spending more on imports than it receives on exports, with its current
account deficit having risen from USD $ 2.7 billion in 2015 to $ 18.2 billion in 2018.
The major driven of this rising current account deficit was expanding trade deficit
which was mainly due to rising imports under the new China – Pakistan Economic
Corridor (CPEC) and low exports in general. This mounting deficit triggered debt
trail, causing deeper trouble for the economy. As per summary of the consolidated
Federal and Provincial budgetary operations for 2018-19 total national spending
stood at Rs. 8 trillion during fiscal year. Total borrowing in the period came in at
Rs. 2 trillion, which constitutes 25% of the total expenditure. In the meantime, the
rupee lost considerable value, inflation galloped, tax and non-tax revenues
became harder to collect and Pakistan desperately sought an International
Monetary Fund (IMF) loan package to tackle the runaway debt and deficit. Political
instability has also remained one of the main factor for aggrieved economic
situation of the country.

On the top of dismal economic performance sits the low economic growth rate
which has hampered the country’s economic recovery. The growth rate of about
3.3 percent in FY 2019 is not sufficient to support sustainable economic
development. The government in its budget scheme projected the growth rate at
4.4 percent but has miserably failed to achieve that goal. The International
Monetary Fund (IMF) estimated the growth rate as lowest in South Asia, even
behind Bangladesh and Sri Lanka. The low economic performance leads to wide-
spread unemployment, poverty, malnutrition, inflation etc. About one million young
people enter the labour force of the country every year, to absorb such a huge
proposition of unemployment youth in jobs, we need to have at least 7 percent
economic growth rate for at least five years. The current trend, however, is just
compounding the joblessness and pushing millions move into the poverty trap. All
these hardships are hampering investment, both domestic and foreign in
employment generating sectors, i.e. manufacturing sectors. Therefore, there is a
dire need to implement stabilization measures aimed at containing consumption
while, at the same time, providing incentives to export industries. However, the
present government has already put in place most stabilization measures , the
focus must shift towards productivity – improving reforms. The need for this shift
cannot be overemphasized. As Paul Krugman – a Noble Laureate economist –
puts it, “ productivity is not everything, but in the long it is everything”. Productivity
growth rate depends on how effectively economic resources of a country can come
together for production purposes.

Pakistan continues to suffer from a syndrome of high fiscal deficits and severe
incidence of debt. Fiscal deficit turned out as Rs.3444.9 billion or 8.9% of GDP in
FY-2019. The previous government has left behind a huge fiscal deficit of Rs. 2260
billion or 6.6% of GDP in FY-2018. Here comes the question that what is wrong
with the fiscal situation. There is a conventional description that expenditures are
greater than revenues and the government could not control wasteful
expenditures. Government generates revenue to meet their expenditure and
finance public sector development projects. Revenues comprises of tax revenues
and non-tax revenues. Story of tax collection is quite dismal in Pakistan. Federal
Board of Revenue collected Rs.3.762 trillion tax revenue during the FY 2019 as
compared to Rs. 3.842 trillion collected in FY 2018 showing decline of 2%.
Pakistan is one of lowest ranked countries in tax to GDP ratio. During the last five
years, tax revenue as a percentage of GDP reached at 11.8% (Economic Survey
Report 2018-19). Although the steps taken by the Government helped to reduce
fiscal deficit in the first four months of this fiscal year 2020 compared to last year.
However, more tough decisions are required in order to curtail fiscal deficit.

The government should take revolutionary steps and devise policies to enhance
tax collection which is major source of revenue. Tax rates in Pakistan are highest
amongst other countries in the region especially sales tax i.e 17% which, in a
largely undocumented economy provides incentive to evade. Heavy reliance on
indirect taxes has restricted the level of economic activities and consequently
Pakistan is moving fast towards premature de-industrialization. Therefore, the
focus of the government should be on broadening of tax base instead of
overburdening the existing taxpayers. On the expenditure side, things are no less
precarious. Reckless non development spending and high debt servicing leaves
little room for expenditure on social and building business infrastructure. Excessive
borrowing is made to finance fiscal deficits. Furthermore, substantial amounts of
revenue go into debt servicing and interest servicing. There is a need to reduce
reliance on foreign debts and increase revenues.

Widening trade & current account deficit is another skeleton in the cupboard of
Pakistan’s dismal economic outlook. Trade deficit for the fiscal year 2019 was
recorded at $31.82 billion. The deficit is mainly because of burgeoning imports.
The trade deficit is on declining trend in the ongoing fiscal year because of
government’s corrective measures to slow down to reduce imports and slow down
pressure on foreign reserves. However, exports are a key area where Pakistan
needs to improve. Its roughly $ 25 billion of export portfolio is no where near
developed countries. What Pakistan needs is consistent economic policies are
kept with long term in mind. Bangladesh did not reach this position by focusing on
short term needs only. It got there by developing areas which are strong point such
as textiles. Pakistan, on the other hand, has not. Energy crises is put a huge dent
on its development. Alternative energy resources and electricity price hikes are
increasing the cost of production, thereby losing the competitive value of Pakistan
exports. Exporters need to be given incentives for long terms in order to boost up
exports to reduce trade deficit. To make significant impact on current account
deficit, Pakistan needs to ensure an investment friendly environment that attracts
more foreign direct investment instead of relying on foreign aid.

The level of public debt is also high. Accumulation of capital is called public debt.
Gross public debt at the end of fiscal year 2019 has reached at Rs. 32,706 billions
which is 84.8% of GDP. Main reason for accumulation of debt is excessive
borrowings made to meet up the fiscal deficits. Loss of capital due to rupee
devaluation has also caused an increase in external debt. Indeed, around 30% of
Pakistan’s government expenditure is earmarked for debt servicing which cannot
be supported by its decreasing revenues. Therefore, in order decrease reliance on
debts, government is required to take initiatives for domestic resource
mobilizations and enhancing its revenues.

Despite the massive rupee depreciation, Pakistani exports have remained almost
the same. Low foreign investment due to Pakistan’s security and political
challenges has also severely hit foreign exchange reserves. Foreign exchange
reserves stood at $9.8 billion. The Persistent, large deficits have had the effect of
running down FX reserves to critical levels. In order to increase reserves, current
account deficit is required to be controlled.

Increasing inflation has reduced the purchasing power of millions and pushing
them into the poverty trap. The orthodox monetary cure for curbing inflation is
higher interest rates. The SBP raised the policy rate from 6.5% to 7.5% in July
2018 and, all the way, up to 13.25% in July 2019. This type of measures are taken
if inflation is demand pull inflation. However, the nature of inflation of Pakistan is
mostly cost-push and not demand pull. While inflationary pressures remain in the
economy, there is a building consensus that inflation has peaked. The average
inflation numbers that the SBP looks at will continue to be high for some more
months, but the year-on-year inflation numbers should show the slowing
inflationary trends.

Another important sector where reforms is needed is the outdated energy sector.
Pakistans’s main source of energy is thermal, which affects the economy in a
negative way. Fuel is imported which is a huge burden on the economy and also
adds in the current account deficit. To promote sustainable economic growth,
policy makers need to encourage the much needed infrastructure investment to
alleviate chronic energy shortages. The country’s ongoing energy crisis, which has
caused significant losses in industry, has led factory owners to increasingly
relocate to countries such as Bangladesh. There is a need to innovate the methods
to generate energy, mainly through renewable resources. Pakistan has the
opportunity to reap the most benefits from CPEC projects related to energy.

The overall arching theme is that for a robust economy we should have political
stability, law and order and security. There is strong linkage between country’s
national security and its economy. Economy always follows politics and politics
remains the by product of law and order situation prevailing in a country. The law
and order situation arises when there is insecurity, threat of violence arising due
to a host of factors disturbing the ordinary conduct of life and business in a society.
Country’s Law and order situation arises when there is an internal insecurity due
to host of factors like, religious/sectarian extremism, ethnic cleavages, external
aggression etc. All these can exacerbate the conflict and affect the overall peaceful
functioning of the society. Poor law and order situation puts negative impact on the
economy and shatters the confidence of the local and investors. Therefore, in this
regard it is imperative that persons and properties of businessmen need to be
protected. Through controlling law and order situation, the government can
increase the foreign direct investment, develop better infrastructure, enhance the
lifestyle of citizens and enhance the economic growth.

Loss making public sector enterprises like railways, PIA and Pakistan Steel Mills
etc are a drain on the national exchequer and detrimental to productivity,
innovation and job creation. The current total losses of Pakistan Steel Mill are
around Rs. 200 billion and of PIA are Rs. 400 billion. Instead of generating
revenues, government has to bail out them over time and again. Mismanagement
and corruption have retarded this potential to earn profits. If we want to turn these
enterprises into profitable ventures, we will have to fix the problems of corruption
and mismanagement and rectify the structural and institutional fault limits. The
privatization process these public sector enterprises was brought to a halt and
those laid off from service in 1997 and 1998 were rehired with full benefits for the
past 15 years, thus causing further financial stress. Excess employment over and
above the already high manpower ratios created financial gaps that had to be met
by the government. Chief executives were appointed on the basis of loyalty and
affiliation rather than competence and suitability for the job. A number of these
appointees faced cases in accountability and higher courts for indulging in
corruption and abuse of power. In order to deal with these losses, the present
government has again decided to privatize 49 state owned enterprises within the
next five years. The Pakistan Steel mill will be sold on public-private partnership to
enhance its capacity from 1.1 to 3.5 billion tonnes every year. PIA has been put off
the list and government has been making efforts to bring this national flag carrier
into profitable entity. Although privatization of these enterprises may increase
efficiency and profits of these organization but it will also decrease regulation and
government revenues.
Another serious concern for Pakistan is FATF. The international watchdog for
money laundering and terrorism financing has put Pakistan on the list of “
jurisdictions with strategic deficiencies, also known as the grey list. FATFs
reasoning is Pakistan’s structural deficiencies in anti money laundering and
combating financing of terrorism.
The grey listing could affect Pakistan in different ways. Pakistan’s banking channel
could be adversely affected as it is inevitably linked with international financial
system. The impact on Pakistan’s economy could be relatively wide, touching
imports, exports, remittances and access to international lending. Foreing financial
institutions may ask more questions and apply more checks. Stock prices at
Pakistan Stock Exchange appear to have already felt this impact.
Perhaps the biggest threat from being placed on grey list is Pakistan could be
pushed down further to the black list. This black list comprises Iran and North
Korea the two countries west love to hate. Chances are that Pakistan won’t be
black listed but will remain on the FATF grey-list for some more time. This will be
a sword that will be kept dangling on Pakistan's head to force compellence on it to
shut down the jihad factory that has been running with impunity for decades.
Pakistan’s placement on grey list is far more political than financial in nature. It is
being seen as one of the several ways the US is attempting to pressure Pakistan
to “do more” on issues related to terrorism. US is also major financier of FATF and
the current president of FATF is an Assistant Secretary from the US department
of the treasury who heads the office of Terrorist financing and financial crimes.If
US can have Pakistan placed on grey list, it may also make it difficult for Pakistan
to exit the list. Bottom line is that FATF’s grey listing should not be looked at in
isolation but placed in the larger picture of US-Pakistan relations that have had
many ups and downs.

Pakistan has been member of IMF since 1950. Due to unpredictable nature of the
economy and heavily dependent on imports, IMF has given loan to Pakistan on
twenty two occasions since its membership, recent in 2019. The IMF was created
as a lender of last resort for governments that cannot get a loan from any other
source. Since Pakistan often has insufficient dollar reserves, its on going
relationship with IMF is not surprising. The reason for failed IMF programs may be
‘exogenous shocks’ like, unanticipated floods, sharp increase in oil prices and civil
war or lack of political will to make structural changes in the economy. Out of
previous twelve IMF programs Pakistan has only remained successful in
completion of the last 12th IMF program.
On July 3, the IMF approved the 13th $6 billion bailout package for Pakistan to
help return to the sustainable growth. Throughout the deal spanning 39 months,
the IMF will review Pakistan’s progress on quarterly basis. The package is littered
with conditionalities are putting burden on lives of ordinary people. IMF has
required the country to increase its foreign exchange reserves to $11.187 in the
current year.The IMF has further asked to pay $37.359 billion in external debt
within the duration of the IMF bailout deal. The increase in taxation required by the
IMF was visible in this fiscal year’s financial budget. Government has increased
the Federal Board of Revenue’s tax collection target from Rs. 3.94 trillion to Rs.
5.500 trillion. Prices of oil and electricity has also been enhanced and expected to
enhance further. Another precondition of the IMF bailout was the devaluation of
the Pakistani currency, which the fund deemed to be artificially valued. As a
consequence to this, the rupee has lost half its value since December 2017
resulting in inflation rate reaching five year high at 11.1%.
It is not as if the government was not aware about what was in store for them if
they approached the IMF. In fact, the Prime Minister Imran Khan’s government
tried hard to avoid the IMF for as long as they could. The result was that even
though Pakistan got nearly $9 billion in loans from its ‘friends’ (the Chinese have
given around $4 billion, the Saudis $3 billion and the UAE $ 2 billion), this only
gave some breathing space to the Pakistan economy. After exhausting all other
options, Pakistan was finally forced to go back to the IMF.
Each IMF programme has carried two dimensions: macroeconomic adjustment
meaning more taxes, exchange rate depreciation and interest rates hike followed
by structural reform. And in each case the story has played out in the same way:
the government takes the money, imposes massive hardships on the population
through austerity and ‗demand compression, then reneges on its commitments for
structural reform through a patchy implementation, at best. The government should
take a serious stance on the issues of long term structural reforms by addressing
chronic problems of the economy. The main proposition in this regard is to address
balance of payment issue. A rapid increase in exports is crucial for sustainable
economic growth. Moreover, Pakistan need to broaden its tax base instead of
increasing burden on existing taxpayers. Unless policymakers realise this,
Pakistan will continue to depend on foreign loans and periodically return to the IMF
for financial bailouts.

As per World Bank’s latest overview and projection regarding Pakistan’s economy,
real GDP growth is projected to decelerate to 2.4 percent in FY20 as the
government tightens fiscal and monetary policies. Pakistan’s adjustment entails a
rebalancing from domestic to external demand. While domestic demand will slow
down quickly, net exports are expected to increase gradually. Growth is expected
to recover gradually to 3.0 percent in FY21 as external demand picks up,
 macroeconomic conditions improve, and the package of structural reforms in fiscal
management and competitiveness take effect. This recovery is conditional on
relatively stable oil prices and reduced risks. Inflation is expected to increase
slightly in FY20, driven by the second-round impact of exchange-rate pass-through
to domestic prices. Thereafter, inflation is projected to decline gradually.
The World Bank has listed Pakistan among the top 20 countries that introduced
reforms in ease of doing business after the bank finally acknowledged some of
initiatives that were undertaken early last year but were not fully appreciated in
the previous report. World Bank’s Country Director to Pakistan said that “With
six reforms, Pakistan emerges among top 20 reformers globally in ease of doing
business”.
Last but not least, that inspite of sluggish economic picture, the recent encouraging
development on the social and political landscape of polity play a dramatic role in
the economic recovery of Pakistan. There are reasons to be optimistic that if these
positive developments are translated into public policy. They will pay-off in terms
of progress and prosperity of the nation. They include:-

i) Growing remittances they have stabilized the current account deficit

and improved the country’s external capital inflow. Remittances
should be
motivated to invest in manufacturing sectors
ii) 60 percent youth of the country if put on work will help accelerate
the economic recovery
iii) Successful launch of CPEC programs.
iv) Educated and skilled women should be encouraged to participate
productively and constructively in the economic life of the nation.

To conclude, coming months are going to be tough for the current government as the
rupee is expected to depreciate further, causing inflation to rise.Pakistan’s economic
crises cannot be resolved overnight. Support from IMF and friendly countries will only
provide some breathing room in the short term to its shattered economy. Promoting
manufacturing by creating a more investor friendly environment, broadening of tax base,
and encouraging innovation and modernization in export led industries are most urgent
measures government can take address fiscal and current account deficits. Pakistan must
take advantage of this moment of hard-won reprieve by building a truly stable and
sustainable economy before it once again find itself digging its own economic grave –
and that of its people.