Shelter from a perfect storm

Over the next year, the world will be battered by multiple headwinds. As we emerge from the Covid pandemic, multiple crises are simultaneously rearing their ugly head:

A commodity super cycle not seen since the 1970s that is straining commodity importers and raising inflation to multi-decade highs around the world. Aggressive interest rate hikes by advanced economy central banks unheard of in the last 30 years that have driven the US dollar to a 20-year high and led to massive capital outflows and depreciation across emerging markets. And the outbreak of conflict in Europe for the first time since World War II, which threatens food and energy security across the world and could permanently rupture the post-war global order. Even one of these crises would have created a major challenge. Together, they have unleashed the perfect storm, creating what the IMF has called “the most universally complex policy environment of our lifetime.”

Like all countries around the world, Pakistan today is also caught in the crosshairs of this storm. It has landed on our shores in the form of a large current account deficit, the highest inflation readings in almost 15 years, a sharp decline in our foreign exchange reserves since the comfortable levels of February, the rupee falling to historic lows, and yields on our international bonds rising to distressed levels.

While the source of much of this pressure is global, it has been compounded by domestic factors. First, an unfortunate bunching of our external debt repayments over the next 12 months. Second, political uncertainty that has led to costly delays in decision-making and policy slippages. The slippages were mainly on the fiscal side: an unbudgeted expansion last year at a time when the economy did not need additional stimulus and an untargeted energy subsidy package, both of which raised the current account deficit at a time when global commodity prices were already straining our import bill. In turn, these slippages led to a long delay in the resumption of our IMF programme. As a result, badly needed foreign inflows dried up even as external debt repayments piled up, leading to a steep $7 billion fall in our foreign exchange reserves since February. It did not have to be this way. This part of our troubles was man-made.

Now, the less bad news. While Pakistan also faces a challenging 12 months, it is relatively well-positioned to navigate the storm. The current state of global market panic is painting countries with a broad-brush. We are being mentioned in the same breath as countries in or near debt distress like Angola, Chad, Ethiopia, Ghana, Sri Lanka, and Zambia. But this is unfair. The truth is that we are far less vulnerable.

First, at around 70 per cent of GDP, our public debt is not particularly high. Second, at 40 per cent of GDP, our external debt is also relatively low. Third, what typically gets countries into trouble is short-term external debt on commercial terms borrowed by the private sector. On all these counts, Pakistan is not in a bad place. Almost 95 per cent of our external debt is medium or long term. Eighty per cent of our external debt is owed to multilateral agencies and official bilateral creditors like China, Saudi Arabia and the Paris Club, and mostly on concessional terms. We have very little commercial borrowing from foreign banks or international bond issuances. Almost all of our external debt is owed by the public sector.

And, fourth, while our external funding requirements to meet our current account deficit and external debt repayment needs over the next 12 months are elevated compared to our own past, they are not as high as in many other countries.

The most important factor that separates Pakistan from vulnerable countries is our on-going IMF programme. After many months of hard negotiations, on July 13 we reached the crucial milestone of an agreement with the IMF staff on completion of the next review of the programme. This paves the way for the IMF Board to release the next tranche under the programme next month. As the ultimate provider of global safety during times of economic stress, the umbrella that the IMF has extended to us over the next 12 months is the most valuable shelter that we have from the coming storm. This, together with our better debt fundamentals laid out above, will dawn on markets in the coming weeks and we will see the worst fears about Pakistan dissipate in the cold light of day.

So, this too shall pass. But does it mean we can simply hunker down and wait for the storm to blow over? Absolutely not. We have to make sure we deliver on our commitments under the IMF programme – notably, belt-tightening on the fiscal side, ending untargeted energy subsidies, containing the current account deficit, and rebuilding our foreign exchange reserves.

This will require steadfast implementation and collective sacrifice. It will require being upfront with the public about the short-term difficulties we should be ready to endure to avoid permanent damage. It will require cutting our energy import bill by placing timing restrictions on commercial activity, encouraging work from home of the kind successfully implemented during Covid, and diverting precious electricity from residential and commercial use to industrial activity. It will need the privileged among us to bear most of the burden, while protecting the more vulnerable through targeted transfers. This is the social bargain we need to uphold to prevent social tension. Most of all, it will need strong leadership that rises above short-term political costs, together with effective communication that takes the nation into confidence and builds a compelling narrative that we can all rally around.

In the final analysis, our present troubles are also a symptom of an underlying malaise that cannot be put off for much longer. This malaise is born of a dependence on stimulus-fueled rather than productivity-led growth. Of an unhealthy reliance on consumption at the expense of saving and investment. Of an inward-looking mindset instead of a global one. Of a frayed social contract under which taxes are not paid and in turn vital public services in the form of roads, jobs, health and education are not delivered. This is not how successful countries operate.

These are subjects for another article, but we are reaching the limits of how much longer we can ignore them. As the fifth largest country in the world, Pakistan needs sustained growth to finally begin punching its weight and realize its vast potential. Our present growth model is not fit for this purpose. This crisis presents an opportunity to turn our attention to these long-neglected issues. We must not waste it.

In an act of self-indulgence that I hope the readers will forgive me for, I would like to end with a couplet penned by my grandfather during the most difficult period that Pakistan has had to endure – the struggle for our independence. I cannot think of a more appropriate call to action during this stormy weather.

“Tundi-e-baad-e mukhaalif se na ghabra, ay uqaab/ Yeh tau chalti hai tujhay ooncha uraane kay liyay”

[Oh, hawk! Do not be afraid of the winds of resistance/ For they only blow to make you soar higher]

The writer is the acting governor of the State Bank of Pakistan.