'Perfect doom loop': economist Atif Mian breaks down Pakistan's current policies

Atif Mian, a noted Pakistani-American economist and currently the professor of Economics, Public Policy, and Finance at Princeton University, has said that Pakistan’s economy is under a “perfect doom loop”, remarks that come as Islamabad looks at administrative restrictions to curb its bulging import bill.

In a series of tweets on accounting versus economics, Atif, who also serves as the Director of the Julis-Rabinowitz Center for Public Policy and Finance at the Princeton School of Public and International Affairs, identified a list of problems that have emerged due to government intervention in restricting imports, using administrative actions.

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“When you try to cut imports through administrative restrictions, you essentially open multiple auction markets where some bureaucrat decides what is ‘essential’ and what is not. It is a recipe for corruption and for gatekeepers to get rich quick,” he said.

“A restriction on imports … will inevitably strike at the heart of ‘production networks’. For example, if an exporter cannot import raw material, or an intermediate input for production - the entire export chain will break down,” said the economist.

Despite imposing stringent import curtailing measures, such as restrictions on Letters of Credit (LCs), Pakistan has been unable to curb the outflow of US dollars, whereas inflation continues to tread well above the 20% level.

On the other hand, the shortage of much-needed dollars is leading to a shortage of essentials i.e. pharmaceuticals, energy, food items, and has given birth to an illegal market of foreign currency.

Atif in his tweet thread shared that the multiplier effects of disruptions in these production networks are "quite large".

“So now you have a situation where your attempt at closing the trade gap has led to (a) reduced economic output, and (b) further pressured balance of payment as exports will start drifting down.

“But this is not all, there's more pain to come,” said the economist.

He said that the original problem of Pakistan is its rising twin deficits i.e. deficits in the balance of payment, and deficits on the fiscal side.

“What happens when growth slows down due to reduced economic output?

“A well-known fiscal math fact is that tax revenue is quite elastic to growth, but fiscal expenditure is not. In plain English, when growth slows, your tax receipts go down, but you still have to pay the salaries and service the debt

“So when supply (growth) shrinks and deficits rise, you will see, (c) stronger inflation,” he added.

The economist said that at present, Pakistan economy is facing three major challenges i.e. falling growth/output, continued balance of payment pressures, and stronger inflation.

“But, there is yet more pain to come,” Atif warned.

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He said that the import-curtailing administrative actions were deemed "necessary", because it was afraid to devalue the currency.

“So now you have (a), (b) and (c), while having a large black market exchange rate premium,” he said.

The economist said that the government cannot sustain the unsustainable, and eventually the exchange rate will snap.

“So in anticipation, FDI (Foreign Direct Investment) dries up, domestic investment dries up, there is capital flight, there is hoarding of dollars, domestic liquidity dries up ...

“This gives you, a perfect doom loop,” said Atif. “So a policy that started with ‘plugging an accounting hole’, ends up doing very serious - and totally avoidable - damage to the economy.

"The damage will last years. For a real-world example of such policies in action, see my homeland,” he concluded.

Pakistan is currently in the midst of a financial crunch with policymakers running from pillar to post to secure additional funds for a country reeling from flood disaster. Authorities in Islamabad and the International Monetary Fund (IMF) are also engaged in discussions over the 9th review of the Extended Fund Facility. However, the talks have remained stalled at the ninth review, with prior conditions remaining the bane in progress.

Experts have called for a quick revival of the IMF programme as foreign exchange reserves deplete to a level that covers less than a month of imports.