The economic malaise

Pakistan today faces the worst financial crisis in its 75-year history. This is attributable to both long-term trends and more recent developments. The former is primarily the path of accumulation of external debt.

During the first 67 years, the external debt rose to $65 billion. However, from 2014-15 to 2021-22, it actually doubled in seven years to reach $130 billion, equivalent to almost 40% of the GDP.

The more recent adverse event is the worst floods in Pakistan’s history, estimated to have cost the economy over $30 billion. Earlier, there was a veritable explosion in international commodity prices from March 2022 onwards after the commencement of the Ukraine-Russia war.

The year, 2021-22, also witnessed the pursuit of very expansionary fiscal and monetary policies, which along with the high international prices led to the second largest current account deficit of $17.4 billion. Consequently, the foreign exchange reserves which had risen to $ 17.3 billion in June 2021 plummeted down to $ 9.8 billion by June 2022. This was, in effect, the beginning of the crisis. Now the reserves are down to a paltry $ 4.6 billion.

Pakistan has consequently suffered a severe downgrading of credit-rating despite the umbrella of an IMF (International Monetary Fund) programme. The small reserves along with the low credit-rating have led to the first major negative outcome in 2022-23. The disbursement of loans to Pakistan has been lower than the amortization of external debt after a long time.

The balance of payments from July to February 2022-23 reveal that the net inflow into the Government account was less by $1.8 billion in relation to the quantum of repayment. Even though the current account deficit was substantially lower in magnitude due to artificial controls by the SBP (State Bank of Pakistan), the negative financial account added to the overall balance of payments deficit and Pakistan’s reserves fell by $5.8 billion in the first eight months of 2022-23.

The extremely worrying dimension of the external financing problem is that, according to the Ministry of Economic Affairs, the total requirement is $22.8 billion in 2022-23, inclusive of the projected current account deficit and debt repayment less the inflow of foreign investment.

The actual inflow has been $7.4 billion on the first eight months, equivalent to only 32% of the targeted amount. In particular, private financing by purchase of Pakistani bonds and loans by international commercial banks has virtually dried up. The target is $9.5 billion from these sources in 2022-23 but only $0.7 billion has been received up to the end of February 2023.

Given the substantially lower inflows by over 40% in relation to the level in the corresponding period of 2021-22, it is not surprising that the quantum of inflow of funds up to June 2023 has become the major stumbling block in the finalization of the ninth review by the IMF. If this process of uncertainty persists then Pakistan will remain perilously close to default.

There are numerable other indicators of the economic malaise, which reflect the extremely fragile state of the economy. Following the transition to a market-based exchange rate policy, the rupee has declined in value by 56%. This is one of the reasons for the historic peak in the rate of inflation along with the supply shortages due to the damage to crops and livestock by the floods and restricted volume of imports following the SBP controls over import LCs.

The truly nightmarish trend is of the Sensitive Price Index, with the major weight of food items. Last week, the rate of inflation, according to this index, was as high as 46.6%. Over the last seven weeks, from the 1st of February onwards, it has been rising weekly from 34.5%. This is now by far the highest ever rate of inflation. Similarly, the CPI is also showing a rising tendency and has reached 31.5% in February.

There are numerous other indicators of developments in the monetary sector, which also highlight the severe plight of the economy. There has been four times faster depletion of foreign assets of the SBP and the Banks. Credit to the private sector is down by as much as 73%. This is not surprising in light of the quantum jump in interest rates. Government borrowing from banks is up by as much as 264% compared to last year. Public sector enterprises have borrowed Rs 180 billion as compared to only Rs 5 billion in the corresponding period of 2021-22.

The picture on the government revenue side is also not reassuring. The growth rate of FBR revenues has remained in the range of 15 to 17%, despite the mini-budget earlier of Rs 170 billion.

Revenues from the petroleum levy are likely to see a shortfall of over Rs 200 billion due to the decline in sales of motor spirit and HSD oil by 15% and 24% respectively.

Along with this shortfall in revenues and the higher cost of debt servicing due to the hike in interest rates, it now appears that the budget deficit will approach 6.5% of the GDP as compared to the target of 4.9% of the GDP. This will imply a primary deficit of over 0.5% of the GDP. Along with the sharp depreciation of the rupee, the level of public debt and liabilities could rise from 75% of the GDP at the end of 2021-22 to almost 80% of the GDP by end-June 2023.

The real sectors of economy reveal the same weaknesses and failure. The Quantum Index of Manufacturing has fallen by 4.4% in the first seven months. However, this is understated and the decline is likely to have been closer to 6%. Earlier, the cotton crop was down by almost 35%, mostly due to the damage by the floods. Wheat output is also likely to be lower. Overall, the expectation now is that the GDP will fall by 1% to 2% in 2022-23.

There is today such a widespread economic malaise that there is not even a silver lining to the cloud. The political polarization has added further to the problems. It is not surprising that the PSX share price index is down by over 8%, in relation to the level at the start of the year.

The overall evidence of a large number of macroeconomic variables showing substantially negative trends leads to the conclusion that this is the worst period in the economic history of Pakistan. We have seen crisis in earlier years like 1971-72 and 1998-99, but during these years the GDP growth rate remained positive and inflation stayed at single-digit rate. Now we have the prospect of a negative GDP growth rate and extremely high double-digit inflation.

We will, therefore, also see the biggest increase over the year in the numbers of unemployed by almost 2 million and the poor by over 18 million. It is truly a very sad period in the economic history of Pakistan.

Copyright Business Recorder, 2023