SBP less upbeat on growth prospects in 2018/19 as twin deficits bite

KARACHI: The central bank on Wednesday warned of rising risks to growth outlook and sounded less confident that the economy would grow at 6.2 percent or more this fiscal year as headwinds from widening current account and fiscal deficits are intensifying.

“… the growing external vulnerability and high fiscal deficit will continue to pose major downside risks to the achievement of this (fiscal year) target,” the State Bank of Pakistan (SBP) said in its third quarterly report on the State of Pakistan’s Economy.

“Moreover, on the real side, the ongoing dry spell and water shortages may adversely impact the value addition potential of the agriculture sector.” The government set growth target at 6.2 percent for the FY2019 as compared to a 13-year high growth of 5.8 percent in FY2018.

The SBP said the sustainability of current growth momentum rests on effectively managing the internal and external gaps. “On the external front, there is a need to arrange external financing in the short-term, and resolve structural issues affecting competitiveness in the medium and long term.”

The SBP, however, said export growth prospects remains encouraging on the back of currency depreciation, recovery in global demand, fiscal incentives for exports, ease in power supply and improved price outlook for rice and cotton in the international markets.

The SBP expects growth in workers’ remittances to further gather some pace, “partly on account of the steps taken by the government and SBP to attract inflows through the official channels”.

“At the same time, a deceleration in imports is expected due to proactive monetary management by the central bank, PKR (rupee) depreciation and the continuation of administrative measures to dampen the domestic demand for non-essential import items,” it said.

Yet, the SBP expects import bill to stay higher owing to notable increase in international commodity prices, especially of oil that would keep the trade deficit high in FY19 as well. Foreign direct investment inflows are expected to remain lower in FY19 than last year as number of China-Pakistan Economic Corridor energy projects are in their advance stages of completion.

“Therefore, in overall terms, the high current account deficit, together with limited financial inflows, would continue to keep the balance of payments under pressure,” the central bank said.

The SBP further said high domestic demand, lagged impact of adjustment in energy prices and rupee depreciation are likely to contribute to higher consumer price inflation in FY2019. “Smooth supply of staple food items and soft oil price on the other hand could offset these underlying pressures and help keep inflation around the target of six percent set for FY19.”

The SBP said effects of rupee depreciation on inflation came into play during the third quarter of the last fiscal year. The central bank increased the policy rate in January as inflationary expectations shored up.

“Factors such as higher external borrowings and revaluation impact also made matters worse for the government in the face of PKR depreciation.” The SBP said the country may face trouble to achieve budget deficit target for FY2019, casting doubt on the government’s ability to repair the country’s finances.

“Fiscal pressures will remain there if not handled well,” it added. The SBP said the rationalising of expenditures may help reduce some stress temporarily while the reforms are needed to expand the tax base and enhance the efficiency of the tax system to put the internal finances in order.

The government set a fiscal deficit target at 4.9 percent of GDP for FY2019, which is based on a 12.7 percent anticipated growth in FBR tax revenues and a 10 percent increase in expenditures, with emphasis on current expenditure.

“While the current budget has reduced tax rates without rationalising expenditure, achieving the fiscal deficit target in this backdrop appears challenging,” the central bank said. The SBP said fiscal deficit increased to 4.3 percent of GDP during the July-March period of FY2018, surpassing the full-year target of 4.1 percent.

“Sharp increase in both current and development expenditure, largely emanating from jump in provincial spending amid slower growth in Q3FY18, drove the higher deficit,” it added. “The revenue growth decelerated, primarily due to a slowdown in direct tax collection on account of lower banks’ profitability and voluntary payments.”