LAHORE: Pakistani planners should take cue from numerous Latin American economies that rose from ashes once their economic wizards pursued universally accepted economic principles by confronting vested interests and political pressures.
If that happens, Pakistan’s economy can still be rebuilt from the debris. The economic managers must focus their attention on policy instruments and put their foot down on political compromises.
However, this is easy said than done. The planners need nerves of steel that many in the present regime lack. The main areas of economy that need urgent attention of planners include fiscal deficit, tax revenue, interest rates, exchange rates, trade policy, and privatisation.
In the first 16 months of the present regime, its economic wizards have not been able to control the fiscal deficit, which has to be brought to an acceptable level. Care would have to be taken that reduction in deficit should not be accompanied by increase in debt to GDP ratio.
Large and sustained fiscal deficits that we are running are a primary source of macroeconomic dislocation in the forms of inflation, payment deficits, and capital flight. Unless deficit financing is being used to finance productive infrastructure investment, an operational budget deficit in excess of around 1 to 2 percent of GDP is prima facie evidence of policy failure.
When a fiscal deficit needs to be cut, a choice arises as to whether this should be accomplished by increasing revenues or by reducing expenditures. Military expenditures are sometimes privately deplored, but in general they are regarded as the ultimate prerogative of sovereign governments and accordingly off limits to even the imported international technocrats.
Subsidies, especially indiscriminate subsidies (including subsidies to cover the losses of state enterprises) are regarded as prime candidates for reduction or preferably elimination. Education and health, in contrast, should be regarded as proper objects of government expenditure.
They have the character of investment (in human capital) as well as consumption. Moreover, they tend to help the disadvantaged.
Primary education is vastly more relevant than university education and primary health care (especially preventive treatment) more beneficial to the poor than hospitals in the capital city stuffed with all the latest high-tech medical gadgets.
Increased tax revenues are the alternative to decreased public expenditures as a remedy for a fiscal deficit. Politician’s aversion to tax increases is irresponsible and incomprehensible.
Economic managers should stick to the principle of increasing tax base so that the marginal tax rates remain moderate. Real interest rates should be positive but moderate, so as to discourage capital flight and, increase savings.
Under the sort of crisis conditions that Pakistan is currently passing through, the market-determined interest rate seems to be extremely high. The government would have to find a compromise.
Like interest rates, exchange rates may be determined by market forces, or their appropriateness may be judged on the basis of whether their level seems consistent with macroeconomic objectives.
In the case of Pakistan, the real exchange rate must be competitive enough to promote a rate of export growth that allows the economy to grow at the maximum rate permitted by its supply-side potential, while keeping the current account deficit to a size that can be financed on a sustainable basis.
The exchange rate should not be more competitive than that, because that would produce unnecessary inflationary pressures and also limit the resources available for domestic investment, and hence curb the growth of supply-side potential as is happening currently.
The free trade ideal should be subject to two qualifications. The first concerns infant industries, which may merit substantial but strictly temporary protection. Furthermore, a moderate general tariff might be accepted as a mechanism to provide a bias toward diversifying the industrial base without threatening serious costs.
The second qualification concerns timing. A highly protected economy is not expected to dismantle all protection overnight. It should be in well-planned phases.
The main rationale for privatisation is the belief that private industry is managed more efficiently than state enterprises, because of the more direct incentives faced by a manager who either has a direct personal stake in the profits of an enterprise or else is accountable to those who do.
The government has ensured internal opposition to privatisation by inducting serving and retired top bureaucrats in the public sector companies at lucrative perks.