Pakistan's economic growth faces new challenges

WHILE the growth is projected to stay on track, new challenges are emerging that can restrain future performance of the economy. The challenges include the spiraling inflation, widening current account and trade deficits, and the growing outflow of repayment of foreign debts, dollar and sukuk bonds, private loans, and corporate dividends.

By M. Aftab (Analysis)

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Published: Sun 4 Nov 2007, 8:59 AM

Last updated: Sat 4 Apr 2015, 11:10 PM

Pressures

These projections stem from the annual report of the State Bank of Pakistan (SBP), the central bank, for fiscal 2007, and forecasts for 2008, unveiled this week. It has some warnings to the government on account of the escalating inflation and widening current account deficit.

SBP said, "inflationary pressures may be further generated if international food commodity prices remain high, or if fiscal compulsions drive the government to pass through a rise in fuel prices as rising international prices rise."

But signs are, as the country moves into the fifth month of the current fiscal, these pressures, plus domestically generated inflation and a rapidly widening trade gap are going to worsen. It will confront the government of President Pervez Musharraf and Prime Minister Shaukat Aziz, already into the nine years of rule, with mounting problems as economic discomfort coupled with serious political restlessness are growing fast. The government faces a record 13 per cent food inflation, while its overall rate is 7.0 to 7.4 per cent, as SBP projects, at a time when national Parliamentary elections are due in the first half of January, and the President is battling to save in the Supreme Court of Pakistan to save his own election.

Monetary Policy

Dr. Shamshad Aklhtar, Governor SBP, unveiling the report applauded the 7.2 per cent GDP growth in 2007 "just below that of China and India." But she warned: inflationary risks persist in the economy. A continuing focus on tight monetary policy is needed so that the inflationary expectations are contained and the seepage of pressures from rising food prices into broader economy is prevented. "But, her insistence to persist with this tight money policy (TMP) has brought Dr. Akhtar in confrontation with the pro-growth government. Industrial output in 2007 was up 6.8 per cent, compared to 5.0 per cent in 2006.

Agriculture saw a recovery and its output rose 5.0 per cent compared to 2006. Services sector growth was 8.0 per cent, raising its contribution to GDP to 53 per cent. The two other most important challenges are a slowdown in exports, and a rapid escalation in imports "resulting in a record widening of the trade deficit to $ 13.5 billion in 2007, and hardly any evidence to narrow it down in 2008. The trade deficit is 9.31 per cent of the size of the economy. If it continues to widen, the present forex reserves of $ 16.0 billion can face a meltdown. As of now, Dr. Akhtar estimates the reserves can foot the import bill for 27 months. The government, however, plans no curb on free imports, as bulk of them are oil — $ 7.0 billion or industrial inputs.

Import bill

SBP is of the view "uncertainty in the global oil prices, increasing commodity prices, anticipated increase in import of telecom equipment following China Mobile's investment in Pakistan's telecom sector, and likely rise in power generating machinery may put upward pressure on the import bill. Imports in 2007 were $ 28.9 billion- up from $ 27.0 billion in 2006. The import projection for 2007 was $29.6 billion. Imports stayed at that level as a result of a decline in global oil prices, reduced domestic demand, lesser import of autos and telecom equipment, and increased domestic production of wheat and sugar.

There is a strong cautionary note on exports. It says, "the poor performance of exports becomes even more worrisome when analysed in the perspective of better environment in the form of robust economic growth in the domestic and key global markets. The export slowdown was broad-based as the textile exports growth declined from last four years' average of 14.4 per cent to only 4.9 per cent in 2007. The non-textile export growth declined from the last four years' average of 19.2 per cent to only 0.6 per cent in 2007.

Decline in export growth

What caused the export growth decline? Poor rice, fruit and cotton crops, together with EU ban on import of fish and fish preparations from Pakistan and industry-specific issues contributed to a sluggish growth in non-textiles exports. But SBP attributes slowdown in textiles exports-which earn 65 per cent of all forex for Pakistan to: low quality of textile products on account of contaminated cotton and unskilled labour, concentration in low and middle value-added products, frequent power outages, and EU market-specific problems like imposition of anti-dumping duty on the bed wear and only partial restoration of GSP facility.

More dangers are lurking just around the corner. The rising cotton price, the main input of textile industry, coupled with abolition of China-specific textile and clothing safeguards in 2008 by EU and US, along with the accession of Vietnam to WTO, are some of the factors, likely to give a tough time to Pakistan's textile industry.

However even if the rising cotton prices may not increase Pakistan's relative cost of production against its competitors principally China and India, and to a lesser degree Bangladesh and other regional countries as global cotton prices are also projected to rise, "Pakistan's apparel exports to US and EU market may weaken, following the end of US and EU safeguard measures imposed on China.

Exports may, however, benefit from a strong Indian Rupee against the US dollar, while the Pakistani Rupee is almost stable. Pakistan Rupee showed a mixed trend in 2007 against the benchmark currency US dollar. The Rupee depreciated 1.14 per cent in the first half of 2007, but then appreciated 0.81 per cent in the second half. In the first half, the widening trade deficit drove the Rupee depreciation while in the second half, improved market related inflows helped it regain most of its lost ground. Consequently, the Pakistani currency saw a net depreciation of 0.31 per cent in 2007.

Remittances

Pakistan is being helped by an increased inflow of home remittances, sent by Overseas Pakistanis, and by FDI. The home remittances which rose to $ 5.5 billion in 2007 are projected by SPB to rise further to $ 6.0 to 7.0 billion in 2008. The remittances in the first quarter of 2008 have totalled $ 1.501 billion a 21.7 per cent increase over the like period of last year. FDI inflow which was $ 8.3 bn (b) in 2007 is likely to rise. A major part of both home remittances and FDI originated from UAE.



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