SBP projections for 2016-17

The SBP Annual Review for 2015-16 has just been released. The Review presents a balanced assessment of the performance of the economy. It highlights the apparent success in indicators like the continuing rise in the GDP growth rate, sharp decline in the rate of inflation and the achievement of a degree of macroeconomic stabilisation. However, it also points out a number of major challenges like raising the low rate of savings and investment, arresting the decline in exports, achieving a more balanced tax system and substantially enhancing the spending on social sector development. Far-reaching structural reforms are required to confront these challenges.
The objective of this article is to assess the likelihood of projections of key macroeconomic magnitudes for 2016-17 in the SBP Review. This is undertaken especially in light of performance of the economy in the first four months of 2016-17.
GDP growth rate The Annual Plan target growth rate of the GDP for 2016-17 is 5.7%. The SBP expects it to range between 5 and 6 percent. If the higher projection of 6% is achieved, this will be the first time since 2006-07. It will clearly signal that the economy has fundamentally moved up to a higher growth trajectory.
However, the first indications of performance of different sectors are not very encouraging. The area under the cotton crop has fallen short of target by almost 21% and the expectation is that the output will be close to 11 million bales, only one million bales above the extremely depressed output of last year. In addition, rice output is unlikely to be substantially above last year, due to lower prices. The forthcoming Rabi crop of wheat may be adversely affected by lower rain fall. Further, minor crops are on the decline, with negative growth in three out of the last five years. The on-going big increases in prices of pulses, fresh vegetables, oil seeds and tobacco indicate underlying supply problems. As such, a big spurt in overall agricultural production in 2016-17 is unlikely.
The situation with regard to the large-scale manufacturing sector is worrying. The growth rate in the first two months of 2016-17 is only 2%, as compared to a target of 6%. The decline in exports has implied negative growth in the textile sector. Industries like chemicals, automobiles and fertilisers, which showed exceptional buoyancy in 2015-16, have largely run out of stream. In fact, if the full impact of the closure of the Pakistan Steel Mill is allowed for then the growth rate of the large-scale manufacturing sector is down to about 1%. Also, according to NEPRA, the growth rate of electricity generation is a modest 4% in the first quarter of 2016-17.
Turning to the services sectors, the trade sector is showing limited growth in line with the slow growth of manufacturing. Banking profits are apparently down. Public expenditure has demonstrated no growth in real terms in the first quarter of 2016-17. The only sector which continues to exhibit some dynamism is construction, although even this sector has been somewhat negatively impacted by the big hike in taxes on property. CPEC investments, especially on the infrastructure projects, are being implemented at a slow rate.
Overall, if present trends continue, the GDP growth rate is unlikely to exceed 4% to 4.5% in 2016-17. This is substantially below the SBP projection of 5% to 6% growth rate.
Rate of inflation The targeted rate of inflation is 6%, while SBP projects it at 4.5% to 5.5% in 2016-17. During the first four months, it has averaged 4%. This implies that SBP expects the increase in CPI to average just below 5% to above 6% in the next eight months.
The international price of oil has stabilised in recent weeks, along with many other commodities. The growth rate in the domestic WPI has also tended to remain unchanged since July 2016. However, the low base effect is likely to become more pronounced from February 2017 onwards. As such, the inflation rate projection by SBP of some increase in the rate of inflation appears to be valid.
Fiscal deficit Perhaps surprisingly, SBP expects that the fiscal deficit target of 3.8% of the GDP will be exceeded and it could range from 4 to 5% of the GDP in 2016-17. This will, no doubt, raise eyebrows in the Ministry of Finance.
However, SBP has rightly sounded a note of warning. In the first quarter of 2016-17, the consolidated deficit is close to 1.4% of the GDP, equivalent to almost 37% of the annual target. This is due primarily to 8% fall, rather than increase, in total revenues. If this persists and attempts are made, in particular, due to political pressures, to reach or even exceed the target level of public expenditure, then the deficit could be even higher at between 5 to 5.5% of the GDP.
Current account deficit This is one macroeconomic magnitude which may have been substantially under projected by SBP for 2016-17. The Central Bank expects the current account deficit to range from 0.5% to 1.5% of the GDP, as compared to the Annual Plan target of 1.5% of the GDP. This optimism is based on revival of exports by up to 5% and an increase in remittances by up to 8%. During the first four months exports have declined by 6% and remittances have fallen by 4%. The current account deficit has jumped up by 63% and already exceeded 0.6% of the GDP.
The projected size of the current account deficit is linked both to strong policy actions being taken quickly to boost exports and FDI. Imports may pick up in coming months, due particularly to a jump in imports of machinery for the power sector projects in CPEC. The turbulence in international markets, following the Trump victory may hinder the performance globally and of Pakistan in exports and flows of remittances. Also, the CSF inflow of almost $1.7 billion has become even more unlikely. Given the downside, it is likely that the current account deficit may reach 2 to 2.5% of the GDP, substantially in excess of SBP's projection.
Overall, the projections by SBP of key macroeconomic magnitudes are on the optimistic side. There is a high likelihood that the GDP growth rate will be less than projected and the two deficits could be significantly larger. However, the inflation rate projection is likely to be realised, especially if SBP maintains a monetary policy which is consistent with the attainment of the projected increase in the CPI of about 5%.
(The writer is Professor Emeritus and a former Federal Minister)