This is an overview of the economy of Pakistan during the calendar year 2019. Of late, economists have begun to recognize that the study of an economy during any period of time must also include an assessment of the political and social environment in which it has functioned. This is a profound change in economists' thinking that has occurred in the last decade or so. Given that, this assessment will also include a discussion of the state of politics in Pakistan in 2019 and the way the Pakistani society began to function during this time.
The Performance of the Economy in 2019
During FY19, the Pakistani economy approached near collapse. The government that came to power in July 2018 inherited an economy that looked prosperous by some measures but was unhealthy on several counts. For example, the economy had grown by 5.5 percent in the financial year 2018 (July 1-June 30), the highest rate in almost a decade while inflation averaged only 3.9 percent. However, behind this seemingly good performancewere two unhappy trends. First, the budget deficit had risen to 6.6 percent of GDP while the current account deficit had soared to 6.3 percent of GDP. As a result, gross international reserves with the State Bank had fallen to USD9.8 billion, down from over USD16 billion a year ago. At that level, reserves provided less than two months of cover for prospective imports.
Faced with such pressure, the Pakistan Tehreek-e-Insaf government headed by Prime Minister Imran Khan initially sent mixed messages. There was some talk of getting funds from friendly governments to shore up reserves and avoid a harsher fiscal adjustment that would inevitably result from approaching the International Monetary Fund for relief. A number of missions headed by Prime Minisiter were undertaken to Saudi Arabia, the UAE, Qatar, Turkey, China and Malaysia. Though a budget had been announced by the outgoing government in May 2018, it was clear that another finance bill would have to be passed to reflect the new realities that had emerged since the arrival of new government. On the fiscal side, there was emphasis on extracting more revenues from tax evaders and non-filers and squeezing corruption out of the system but this was partly blurred by continued offers of tax amnesties and preliminary reports of missed targets. Furthermore, the public stance with respect to spending remained populist in the sense that many welfare-enhancing schemes and projects were talked about. Some of these were incorporated in the new budget. On the current account side, however, the message was clearer. The rupee was allowed to depreciate and fell from 121.72 to the American dollar at end-June 2018 to 139.80 by end-December 2018.
The main lines of the emerging economic policy stance became clearer in the second half of FY19. A new budget was passed for the rest of the fiscal year. The focus of attention was on the lines of an eventual IMF program as negotiations with that institution proceeded throughout the spring of 2019. Agreement on a Fund program was announced in May 2019. During the negotiations period and beyond, nominal interest rates were increased significantly and the exchange rate was allowed to depreciate further.
The IMF program approved by its Executive Board on July 3, 2019 had a number of features common with the institution's work in other countries. It provided for USD6 billion in loans to Pakistan over a 39-month period. To deal with the payment crisis Pakistan faced, the IMF went for an immediate disbursement of USD1 billion. It required the Government to take steps to reduce the primary deficit (deficit after the payment of interest on government debt) to an expected deficit of 1.8 percent of GDP in FY19 to 0.6 percent in FY20 and eventually to a surplus of 2.5% in FY23. It required the authorities to pursue a flexible, market-oriented exchange rate policy and a supportive monetary policy. The key fiscal policy adjustment mechanism involved a substantial increase in the ratio of revenues to GDP; meanwhile, spending was allowed to rise modestly by 0.2 percent of GDP. The key current account adjustment mechanism involved prospective exchange rate flexibility.
In August 2019, barely one month after the IMF Board had approved the program, the government released preliminary estimates showing that the fiscal deficit for FY19 was worse than earlier believed. It was not 6.8 percent of GDP, as assumed in the IMF program, but 8.9 percent. The revenue ratio had come in not at 15 percent of GDP but at 12.9 percent. These massive deviations from assumptions thought firm only a few months before raised concerns.
Growth fell from 5.5 percent in FY18 to 3.3 percent in FY19, the first year of the new government. All sectors saw decline in the rate of growth. (see the table) For industry and manufacturing, this was not surprising given the substantial shift in exchange and interest rates. The related sharp drop in large scale manufacturing growth was especially troubling since formal employment and revenue growth come mostly from this sub-sector. For agriculture, slower than expected growth may be traced to other factors as well such as lower water availability and low fertilizer use. All major crops were affected. Adjustments in energy prices and increase in import cost resulted in increase in inflation from 3.9 percent in FY18 to 7.3 percent in FY19.
The sluggishness of the private investment rate is also worth highlighting. This has fluctuated around 10 percent in the last three years. More significantly, it has fluctuated within a similarly narrow band (from 9 to 11 percent of GDP) for the past 30 years. Even the relatively high growth experienced during FY13-18 failed to increase the private investment rate beyond this narrow band, suggesting that this episode of rising growth was associated mostly with consumption and not with investment. It is important to note that private investment rate remained stagnant over such a long period across several business cycles and, more recently, in an environment of improving physical and energy security conditions. FY 2019 saw a sharp jump in the overall fiscal deficit brought about mostly by a lower revenue ratio. Total government revenue fell from 15.2 percent of GDP to 12.7 percent while the overall deficit rose from 6.6 percent of GDP to 8.9 percent. While development expenditures fell sharply from 4.7 percent of GDP to 3.2 percent, overall public spending fell only modestly as current spending increased from 17 percent of GDP to 18.4 percent, in part due to the rise in debt servicing costs occasioned by depreciation and higher interest rates. All of these trends are of concern.
Finally, despite the large depreciation of rupee and a considerable hike in the State Bank's policy rate, the reserves position is not entirely comfortable. Reserves with the State Bank fell precipitously from USD16.1 billion at end-FY17 to USD9.8 billion at end-FY18. They continued to fall during FY19, despite the infusion of funds from friendly governments, and reached USD7.3 billion at end-FY19. Since then, they have risen again but continue to be below USD9 billion.
Emergence of a New Political Order
In July 2018, the people of Pakistan went back to the polling booths to elect new national and provincial assemblies. This was eighth national election held since the adoption of the 1973 Constitution. The elections produced a new political order. They brought to power a political party that was the youngest among the main political groupings that had been active for decades. The political establishment was made up of the Pakistan Muslim League (N), the Jamaat-e-Islami, Jamiat Ulema-i-Islam (F), Pakistan People's Party and Muttahida Qaumi Movement (MQM). Of these five parties, the MQM was the only one that drew its strength from one particular ethnic group, the refugees from the Urdu-speaking areas of the parts of India that did not become Pakistan; two were family-led and two religious parties safeguarding their peculiar interests.
In 1996, Imran Khan decided to enter politics, using his fame as a cricketer who had won the World Cup for Pakistan. He had a large following among the cricket-loving youths in the country. He managed to translate his popularity into political support. He created a new party, the Pakistan Tehreek-e-Insaf (PTI) with the primary aim of addressing the problem created by the country's social backwardness. There was a reason why he put Insaf (justice) into the name of the party. He was convinced that a focus on bringing economic justice to the people would bring him political support, in particular among the urban youth. He was right; the PTI won in the national assembly and in the assemblies of the provinces of Punjab and Khyber Pakhtunkhwa.
In handing over the reins of power to Imran Khan and the PTI, the voters who caste their vote in favor of a politician and the political party he led, were clear what they were voting against. They were less certain about what they were voting for. They were weary of the politics practiced by the political establishment. For long, the Pakistani landscape was dominated by two parties, where few always held senior positions in the organizations. Most of these were the members of the extended families that dominated the organizations. This created an impression of oligarchy that was only interested to look after and promote their economic and political interests. This led to palpable disgust of the youths with old politics and craving for something new. The new leader promised a "naya" (new) Pakistan if he was given power. He spoke tirelessly about the evils of corruption and poor governance and the damage they had wrought on Pakistan. The emptying of state's coffers as discussed in the previous section was largely the consequence of the way the government was managed earlier. The urban youths were excited by the promise of naya Pakistan.
Promising is one thing; fulfilling is something quite different. By the time this article appears in print, the new government would have been in power for 18 months. Most of this time was spent on stabilizing the economy, the approach favored by the IMF. That institution's involvement provided the much needed external finance. This was done directly by the IMF and was also facilitated by issuing its "good housekeeping seal of approval." Corruption in high places has also received a great deal of government's attention. One evidence of success was the almost USD250 million received by the government from a builder who had become a billionaire. This amount was squirreled away in London bank accounts and the luxury property facing the Hyde Park. The amount came in as a result of the work done jointly by the governments of Pakistan and the United Kingdom. The British government used the Criminal Finances Act of 2017 and its National Crime Agency to go after the stashed amounts belonging to the builder. The new government now needs to focus on the medium and long-term, a subject I briefly touch upon in the concluding section of this essay.
Some Positives About Pakistan's Economic Situation
Positives don't figure prominently in the discourse and commentary about the state of economic affairs in the country. Pakistan has a large population. Because of the high rates of growth, the population is young – the median age is about 25 years; about 60 percent of the population is of working age. Most commentators believe that a large population is a burden. This need not be the case if the youths are well educated and trained to work in modern services. If the young are concentrated in large cities as is the case in Pakistan, it is easier to reach them with education and training. In terms of available infrastructure, Pakistan has one of the more impressive agriculture systems in the developing world. It has the world's largest contiguous irrigated area. This could become the basis of a new kind of agriculture, one that produces high value-added crops such as fruits, vegetables and flowers for export. At this time, agriculture's focus is on producing grains and fibers. The world's large grain-producing systems depend on rain rather than irrigation to supply water to the fields. Pakistan also has reasonably well-developed small and medium-sized engineering industries. These are concentrated in places such as Gujranwala, Sialkot, Gujrat and Hyderabad. These could become parts of the supply chains being developed to serve large industries in countries such as China, the United States and Germany. Pakistan has a unique location. It borders the two countries among those largest in the world – China and India – and is close to the world's most important energy areas i.e., the Middle East and Central Asia. Afghanistan, another neighbor but currently a deeply troubled country, has large mineral deposits. Some of these stretch into Pakistan. Once peace comes to that country, this resource could be jointly exploited.
In order to achieve this objective, the government currently in power will need to clearly define and articulate its economic priorities. It should move away from the old paradigm of development in favor of the one that makes use of Pakistan's positives, determines the role of the state in economic matters, builds an export oriented economy, generates domestic resources for financing development and meeting the basic needs of the people, brings policymaking and decisions on the use of public resources closer to the people, tackles the growing environmental problems, and meets the aspirations of the voters who put the government in power. These half a dozen or so elements in the strategy would need a great deal of work by government functionaries.
This approach is "new" for a number of reasons. Its focus is on the external environment. It will have Pakistan produce for foreign markets rather provide goods and services mostly for domestic consumption. By increasing the economy's capacity for exports, it will reduce – hopefully dramatically – Pakistan's dependence on external largesse. In the past, high rates of growth were associated with the periods when Pakistan was in favor with the authorities in Washington. Large amounts of assistance arrived when Islamabad became an American partner in the latter's strategic interests in the area. Under the new strategy, Pakistan would most likely become an attractive destination for foreign direct investment. It is not inconceivable to imagine a future for Pakistan where the rate of growth of its economy begins to match in the not too distant future to those achieved by the more rapidly growing parts of Asia.
The writer is a former Caretaker Finance Minister of Pakistan. He also served as Vice President at the World Bank.
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