In our article, ‘Economic fundamentals’ published in these pages on October 31, we had argued that Pakistan’s economy has strong fundamentals as almost all sectors were registering a robust performance. However, this was at risk because of policy failures on the fiscal and external accounts.
In its latest update on the economy that was released last Thursday, the World Bank has made a similar assessment. The report, however, is based on the completed data for the fiscal year 2016-17. Our analysis, on the other hand, has established that this strong performance is continuing well into fiscal year 2017-18. The World Bank has also highlighted the vulnerabilities that have spawned recently and may erode the gains made by the economy over the last four years. The key vulnerabilities are the fiscal and external deficits that pose increasing threats to macro-economic stability.
The economy now is in the fifth month of the fiscal year. Reporting of data on critical variables on a monthly basis is limited and slow to emerge. While there is some positive news, economic buoyancy is constantly undermined by enduring policy failures.
The price data, released on the first of every month, contains perhaps the best information. Inflation, which is measured by the consumer price index (CPI), increased by 3.8 percent in October 2017 as compared with 3.9 percent in September and 4 percent in October 2016. Average inflation for July-October was 3.5 percent as compared with 3.95 percent for the same period last year.
These are very healthy trends. However, the recent hike in petroleum prices will affect inflation in the coming months. But we don’t see inflation becoming a challenge any time soon as international commodity prices, including those of petroleum, are predicted to remain stable.
The only data available on production for the month of October is the cotton arrivals. It shows a growth of 17 percent. The rice and sugarcane crops, as we noted in our October 31 article, are projected to register positive growth. The World Bank has projected a significant uptick in the large-scale manufacturing during the current year. Therefore, the real sector is performing well.
This strong performance is also validated by the continuing growth in revenue collections, which registered a growth of 18.5 percent – almost close to the required growth of 19.2 percent for the year. Clearly, a rise in economic activities is responsible for the increased revenue collections on both domestic production as well as imports. The petroleum price decision would be helpful for revenue collection.
We turn now to some not-so-encouraging signs, which are mostly related to continuing policy failures. The first sign is the emerging data on fiscal deficit, which – though not final – paints a fairly dismal picture. In its latest report published on November 10, the SBP has reported that the central government debt roughly increased from Rs20.8 trillion at the end of June 2017 to Rs21.8 trillion at the end of August 2017, showing a marginal increase of Rs1 trillion (or 2.8 percent of the GDP) within two months. This is a worrisome number that casts a dark shadow on the efficacy of fiscal management.
In a previous article, ‘Fiscal challenges’ published in these pages on October 10, 2017, we had estimated the quarterly deficit at Rs651 billion or 1.8 percent of the GDP against the target of 4.1 percent for the full year. Later, in a press conference on October 16, 2017, the finance minister was given a figure of Rs324 billion (or 0.9 percent) for the first quarter. In another article, ‘Mr Dar’s press conference’ published in these pages on October 24, 2017, we had pointed out that, based on the financing data from the SBP, the number given to the FM significantly understates the deficit. Thus, there is an acute uncertainty about the extent of the fiscal deficit, which the government would do well to remove at the earliest.
The external account position will be available in the third week of November. We expect that while imports will continue to rise, exports will also make further gains. The current account deficit will also maintain its trajectory of around four to five percent of the GDP. That leaves the question of its financing. There are no significant inflows immediately in the pipeline, except the short-term borrowings. Press reports show that the government plans to go for the issuance of Sukuk and Eurobonds worth $2 billion during the month of November.
While it is necessary to raise financing to support the rising current account, which is a leading indicator of rising economic activities, it would be unfortunate if the country uses such precious and expensive resources to support an otherwise indefensible exchange rate. The latest SBP report on external reserves is equally worrying. The reserves, as on November 11, 2017 stood at $19.9 billion – of which $13.9 billion belonged to the SBP (official) and $6 billion to the commercial banks (foreign currency deposits: FCY). The official reserves have declined from a near-high of $20 billion in early October 2016 – a loss of $6.1 billion.
Curiously, since May 2017, commercial bank reserves rose from $4.8 billion to their present level of $6 billion, a net increase of $1.2 billion. This is not an encouraging development as it raises the possibility of dollarisation in the economy. In an uncertain situation regarding the fate of the exchange rate, people will find it rational to convert their savings in dollars to hedge against the possible loss in their value.
Here then is the summary of our submissions: we have a buoyant economy that is poised for a healthy round of growth with price stability. However, its sustainability is threatened by fiscal indiscipline and external account vulnerability. The runaway deficit is contributing to an unsustainable current account. Simultaneously, it is refusing to allow the market forces to achieve equilibrium in the external account. An over-valued exchange rate subsidises imports at the cost of denying exporters of the true value of their exports and further intensifying the imbalance in the market.
The prime minister, in the absence of the finance minister, should take charge of the situation and lead the challenge with a straight bat – just as he acted in setting the petroleum prices as per their economic justification.
The writer is a former finance secretary. Email: waqarmkngmail.com