What ails Pakistan’s Economy?
Pakistan’s economy has not shown any signs of improvement in the last couple of years. All the PTI government led by Imran Khan has managed to do is to appoint new finance ministers, who feebly attempt to revive the economy. Unfortunately for them, current economic indices are by themselves so poor making the task of revival doubly difficult. Fiscal mismanagement combined with a lack of interest in setting right the fundamental flaws in Pakistan’s financial situation has created conditions of a downslide that may soon become irreversible. Against this background, comes news of Foreign Direct Investment (FDI) into Pakistan sliding by 12 per cent in the first four months (July to October) of the current fiscal year.
Shaukat Tarin, appointed as the Minister of Finance by Prime Minister Imran Khan in April this year had targeted a growth rate of between 4 to 5 percent.An objective worth attempting, but the contractionary monetary and fiscal policies supported by his predecessors make it extremely difficult to even begin to re-start the economy. Since May 2019, when Pakistan signed a staff-level agreement with the IMF, their subsequent suspension due to Covid-19, and the February 2021 second to fifth review which envisaged their re-execution, all make it clear that claims of economic stabilisation had been achieved by Pakistan in the last calendar year do not reflect ground realities.
The data made available by the State Bank of Pakistan (SBP) is one such indicator. In real terms, FDI inflows stood at US$662 million during the four-month period compared to US$750million a year ago. In October 2021, inflows plunged by 24per cent to US$223million from US$293million in the same month, a year ago. Pertinently, Pakistan has been unable to attract significant FDI investment for than five years now. This comes at a time when the Pakistan government desperately needs foreign inflows and is negotiating with the International Monetary Fund (IMF) for the resumption of financial aid.
For Pakistan, the current cause of concern are inflows from China. These have fallen drastically to US$116million in July-October from US$399million in the same period a year ago. It has been assessed by experts that the decline in Chinese FDI could be the outcome of low inflows to the power sector due to surplus energy production in Pakistan. In fact, the power sector has witnessed a steep decline in FDI, as inflows fell to US$ 173 million compared to US$ 467 million in the same period in the previous year. The same story holds good for coal which attracted only US$78 million, compared to US$ 348 million last year.
In July-October 2021, the highest FDI came from the Netherlands, amounting to US$160million against US$11million a year ago. Similarly, inflows from the US jumped to US$114million from US$28million in the corresponding period a year ago. FDI inflows into the financial business stood at US$114million, an increase from US$106million recorded last year. The biggest improvement was noted in the IT sector which attracted US$71million compared to just US$14million last year. The oil and gas exploration sector attracted US$82million, almost equal to the previous year’s level. Reports however, indicate that the construction sector is finding it difficult to revive itself both domestically as well as foreign investment. One of the major reasons for this is a 100 per cent increase in construction costs. Construction, which has been the prime target of the current government, showed a net outflow of US$2.8million compared to an inflow of US$7.6million last year.
Going back to the overall state of Pakistan’s economy, it is illustrative to reflect on assertions made by Finance Minister Tarin’s (April 2021). He had then said that he would ensure that the harsh contractionary policies proposed by the IMF would be renegotiated and phased out. These have not been borne out. He has clearly capitulated by allowing the rise in the base tariff by Pakistani Rupee 1.39 per unit, which he had virulently opposed initially. The Federal Board of Revenue has reportedly finalized an Ordinance which envisages the end of Pakistani Rupee 330 billion exemptions, but this remains on hold because the IMF is no longer amenable to legislation through ordinances and insists on presentation of a bill in Parliament.
Pakistan’s government recently admitted that three other pending prior conditions before the Sixth IMF Review meeting (4 October-18 November 2021) would be met. These include granting autonomy to the SBP, increase in the power tariff (a Pakistani Rupees 1.39 per unit increase has already been done and the next raise will be implemented in February 2022) and an end to sales tax exemptions for which the Imran Khan government, has readied an ordinance but would now have to be presented to Parliament as a bill. This implies the scale of IMF leverage over Pakistan! What underlies this leverage is certain fault lines in Pakistan’s economic policies which have prioritized growth, not backed by higher exports, but by higher domestic consumption. Such policies have in turn compromised the current account deficit.This is the trend that has accounted for Pakistan being on its 23rd IMF programme in its 74-year history.
The one positive in the economy currently is that since last year remittances have surpassed all previous records, over US$ 29 billion in 2020-2021 with the rising trend continuing till-date and has emerged as the major contributor to ensuring that the current account is not under stress though the trade deficit is rising. This massive rise in remittances has not stopped the government from borrowing; today, more than 50 percent of reserves of a little over US$17 billion are sourced to borrowing. In addition, the Pakistani rupee is being allowed to free fall, as a trade-off not to raise the discount rates due to political compulsions. This has contributed to not only a higher import bill resulting in a higher trade deficit but also raising the budget deficit as each rupee loss of value vis-a-vis the dollar raises debt servicing by Pakistani Rupees 100 billion.
There is therefore an urgent need for the Pakistani government to engage in policies that focus not on higher outlay or expenditure, but on reducing its own expenditure which one hopes would ease pressure to borrow. The real fault line in the economy of Pakistan lies in continuing to borrow to fund the annual rise in government expenditure.