Galloping current account deficit

The year 2011-12 was marked with a significant deterioration in the current account balance of the country. According to the latest data released by the State Bank on 17th July, current account deficit of the country swelled to dollar 4.52 billion during FY12 in sharp contrast to a surplus of dollar 214 million in the preceding year. The deterioration in C/A balance was primarily the result of a huge surge of about 41 percent in deficit on merchandise, services and income accounts which jumped to dollar 21.8 billion in FY12 as against a deficit of dollar 15.5 billion in 2010-11. Merchandise account recorded the highest deficit of dollar 15.4 billion as against dollar 10.5 billion in the previous year due to a decline in exports and a significant increase in imports which amounted to dollar 24.7 billion and dollar 40.0 billion respectively during FY12. Deficit of service sector account went up by dollar 1.1 billion or 55 percent from dollar 1.9 billion in 2010-11 to dollar 3 billion in the outgoing year. Income sector deficit also rose to dollar 3.4 billion during 2011-12. Although, current account transfers which also included home remittances also went up significantly to dollar 17.4 billion during the year but these were not enough to fully neutralise the negative impact of other components of current account. A significant deterioration in the current account balance during FY12 could be attributed to a number of reasons. Trade imbalance grew sharply due to a fall in export receipts and a substantial increase in import payments while income and services sector deficits also continued to show a rising trend as usual. The expected inflows from CSF, auction for 3G licences and arrears from PTCL privatisation did not materialise. Foreign investment fell to an abysmally low level and flight of capital, though not officially reported, also appears to have indirectly impacted the outcome in the C/A balance to a certain extent. The worsening of current account deficit during FY12 is certainly a matter of concern for the policymakers who, impressed with a nominal surplus in FY11, were hoping for a sustainable current account position in the coming years. It was expected that the country would be able to finance future C/A deficits, if any, through normal capital inflows without worrying too much either about the sources of finances or its consequences. Obviously, such hopes have now been dashed to the ground and the economic managers must have been surprised to see the increasing vulnerability of the external sector. It is definitely a matter of great concern that the current account deficit actually registered during FY12 at 2.0 percent of GDP is much higher than 0.6 percent projected for the year, sources of financing have dried up with the result that SBP had to use about dollar 4 billion from its pool of reserves to finance the growing C/A deficit and the rupee has shed its 9 percent value against the US dollar in 2011-12. The implications of such a negative turnaround are obvious. More worrying is the fact that worsening trend in the external sector is not likely to reverse anytime soon. Imports would continue to grow rapidly due mainly to a loose fiscal regime which is likely to be continued in the absence of some concrete measures in an election year, exacerbating demand pressures in economy further. On the other hand, exports of the country are not likely to expand significantly because of highly adverse factors impacting the productivity of economy such as severe energy shortages, lack of good governance, political uncertainty, war on terror and lower prices of Pakistani exports, especially cotton and its products in the international market. Moody's decision to downgrade country's government bond ratings to Caa1 from B3 a few days ago is a reflection that outsiders don't expect improvement in the external sector and the country's ability to service its debt in the next few years. Such a pessimistic view of the economy and its foreign sector could scare away foreign investors and dampen its prospects further. Flight of capital and increasing level of forex reserves with the scheduled banks in Pakistan is an indication that even domestic constituents are not very confident about country's economic prospects. While most of the external sector developments continue to be negative, there are certain positive signs which could alleviate pressure on the current account to a certain extent. Oil prices in international market have eased, and authorities of the country are cautiously hopeful about improving relations with the US following a decision on restoration of Nato supply routes. Not only would it pave the way for a significant flow of funds from the US, it would make the negotiations with the IMF somewhat easier if Pakistan wants to approach the Fund for the grant of some facility in the near future to overcome its growing difficulties, particularly in relation to BoP. A consistent increase in home remittances and the determination of authorities to stick to market determined exchange rate of the rupee are also bright signs. However, all said and done, it needs to be remembered that long-term sustainability of the external sector could only be ensured by enhancing productivity of economy, which could be the only guarantee to increase exports and contain present galloping current account deficit to manageable levels. Given so many impediments, it is indeed a Herculean task, but has to be undertaken with a view to upholding country's financial solvency and avoiding frequent recourse to the IMF for loans which have to be repaid with interest.