Wednesday July 17, 2024

Towards industrial policy 2.0: Part - V

By Ishrat Husain
June 09, 2023

Infrastructure: Pakistan’s unending energy crisis and high-end user costs have enormously damaged industrial growth and diversification, particularly the export sector.The present model of single buyer-single seller is the root cause of this recurring problem. Unless private-sector firms selected through a transparent competitive process are brought in at the retail stage of distribution of electricity and natural gas and the monopolies of DISCOs are dismantled, the situation will remain precarious.

There are very few countries that subsidize piped gas for households and penalize industrial units. Circular debt will keep piling up while the rising costs to the industrial units, particularly those in international trade, will drive them out of business.Labour laws: Pakistan has a youth employment problem. There are more than 70 labour laws on its books which, according to its own reckoning, “are complex, overlapping, anomalous and at times render the subject matter difficult to understand, besides creating confusion for those who deal with them.” Despite the passage of a dozen years, the mission of consolidating and simplifying these laws into five core laws has been deflected by the power tussle between the federal and provincial governments.

Despite the abundance of laws and regulations, contract, casual, temporary and daily wage modes of employment have become the accepted norms in the manufacturing industries. Formal and wage employment in the manufacturing sector has remained stagnant. These laws also encourage firms to remain small and not scale up their size of operations. Consequently, the skill level and the average schooling are low, on-the-job training is missing, women are not found for dexterous jobs for which they are well suited, wages fall below a decent living benchmark, and overall labour productivity lags behind that of peer countries.

Only 7.0 per cent of firms in Pakistan offer formal training to their workers compared to 85 per cent in China and 50 per cent in Vietnam. Firms that provide formal training are found to have much higher productivity. It must be realized that a single rupee of investment in skills and improved efficiency of the labour force will have on average at least 30-40 per cent additional returns that can be distributed in the ratio of 75:25 between owners and workers. Labour productivity is thus a viable avenue for profit maximization, capital formation for expansion and investment, new job creation, awarding decent living wages and increasing global competitiveness.

To sum up, a resurgence of industrialization is needed to increase exports, stimulate GDP growth, adopt technology, create jobs and develop a skilled workforce. The industrial policy has to be ensconced in the overall growth strategy of the country with adequate social safety nets for those likely to lose out from the pursuit of this policy. Pakistan’s journey towards industrialization, which has been off the track for the past few decades, can be put back on the rails by not relying on the contours of Industrial Policy 1.0 which has been discredited.A new policy is needed in which “technological competence, skills, work discipline and trainability, competitive supplier clusters, strong support institutions, good infrastructure and well-honed administrative capabilities” are developed, nurtured and promoted and rent-seeking subsidies and protection to specific firms and industry or sector are shunned.

Industrial Policy 1.0 was supposed to benefit consumers, producers and others in the economic chain. The concessions and subsidies in the name of ‘infant industry’ have continued unabated as there were no benchmarks set to evaluate performance and whether the intended goal has been achieved or not. The policy had no built-in sunset clause and some of the industries are enjoying the benefits even after a lapse of several decades. As distortions were introduced through administered input and output prices, firm, subsector, industry-specific differential concessions, the resultant manipulation, collusion, speculation, gaming, cumulating to excessive rent seeking have failed to produce the desired results.

A wedge is created between ‘observed prices’ and their fundamental determinants. Investors shy away from productive activities and shift to unproductive activities where quick, short-term gains can be achieved in an environment of market distortions and imperfections. Private profits keep accumulating at the cost of benefits to society. Overall, low economic growth coexists with excessive returns earned by selected market players.Industrial Policy 1.0 was therefore bound to fail sooner or later. Governments were accused of indulging in crony capitalism through concessions, exemptions, bank loans, preferential allocation of land at below market prices, and import licenses to selected few. The beneficiaries of these favours were political supporters, friends and family members – or resulted in blatant exchange of pecuniary benefits to those administering the policy.

Governments are also not very good at identifying the sectors to be promoted. It is only businesses themselves with a sharp eye on markets, relative returns to investment and taking account of the dynamic comparative advantage that can undertake that task.A growing source of capital flows for investment is the Sovereign Wealth and Private Equity Funds. Between 2018 and 2022, Emirati funds and firms invested $34 billion in India. Instead of asking for deposits for boosting the central bank reserves and other forms of aid which is indeed demeaning for a country like ours, the private sector under the Industrial Policy 2.0 should be able to tap into these funds as recent results indicate that the relative returns to corporates in Pakistan are still quite attractive despite the difficult macroeconomic situation.

Saudi Arabia has also committed a substantial amount for investment in Egypt. Had Pakistan maintained its exports-to-GDP ratio at the level of 16 per cent as in 1999, the total merchandise exports would have reached $56 billion in 2022 – 75 per cent higher than the $32 billion actually realized; and the current account deficit with even higher level of imports would have been manageable. Import duties on intermediates and final consumer goods have to be brought at par with other competing nations as they act as a tax on exports and increase the profitability of selling in the domestic markets. Pakistani publicly listed exporting firms are found to be on average 20 per cent more productive than the domestic-oriented firms (World Bank).

According to a 2018 report by the Pakistan Business Council, the manufacturing sectors they recommend for potential value addition and export diversification are automobile, electronics, engineering, and food processing. For import substitution, the sectors chosen are steel and iron and petrochemicals. Some other business groups would like to upgrade and establish new oil refineries which can also lead towards a petrochemicals chain. On the face of it, these appear quite reasonable but detailed feasibility studies have to be carried out by the potential investors themselves.

The government can act as a facilitator, enabler, provider of level playing field, and problem solver but not a direct intervener in investment choices. Besides maintaining political stability, pursuing sound macroeconomic policies, improving delivery of public goods and services through devolution, the government has to curtail its claims and pave the way for access to bank credit and capital markets by the private sector for increased investment in productive sectors such as agriculture and manufacturing.

The broadening of the tax net as well as expenditure rationalization will not only reduce the budgetary deficit requirements but also help the private sector by lowering tax incidence while providing complementary public investment. Old habits die hard but unless mindsets change, and there is serious political commitment that earnestly implements the required changes, we will end up facing one crisis after another every few years and keep knocking at the doors of the IMF and our friends. Industrial Policy 2.0 may also meet the same fate as its predecessor.


The writer is the author of

‘Governing the ungovernable’.