An Overdue stitch for the economy
History is repeating itself. Like the PPP (2008-13) and PML-N (2013-18) governments, the incumbent PTI government also discovered that its predecessor had left an economic mess for it to sort out.
A close analysis of external and internal factors by the last three governments reveal that while all three (and their respective caretaker governments) had to face some common chronic challenges, the trigger for economic mess was unique in all three cases.
The PPP government inherited a messy economy because the economic boost in the Musharraf-Shaukat Aziz era was dependent on an easy flow of dollars – thanks to the ’US War on Terror Coalition Support Fund’ – rescheduling of foreign debts, consumer led growth, and investment in the speculative (real estate and stick market) sectors. The year 2007-08 saw massive fiscal indiscipline. While international oil prices doubled (from $55 to $110) from January 2007 to March 2008, they were increased by only 9 percent for Pakistani consumers (to please voters for Elections 2018).
Same was the case for the electricity tariff where the impact of oil prices was not passed on. That was the beginning of the energy circular debt and aggravated the power outages. Government borrowing from the State Bank reached an all-time high, leading to widening of the current account deficit, rise in public external debt, loss in foreign exchange reserves, and higher inflation. Fiscal indiscipline by the PML-Q was the root cause of the problems that the following PPP government had to face.
The PML-N too got a messy economy, as the previous PPP government had to survive a huge burden of poor policies from its predecessors, two devastating floods of 2010 and 2011; the blowback of the war on terror – not only in the form of increased militancy but also in financial terms ($251.8 billion as estimated by Dr Hafiz Pasha) – and the historic high international petroleum prices which rose up to $152 per barrel.
This had led to the piling up of the energy circular debt and unprecedented power outages during the PPP era. Four finance ministers, three governors of the State Bank, and four finance secretaries in the first three years of the PPP government were tried for successful economic firefighting but things could not improve and the PML-N government had to accept the challenge of turning around the economy.
The PML-N government (2013-2018) was lucky to have most external factors in its favour. It found petroleum prices at an historic low (prices went down to $20 per barrel). The inflow for CPEC funds and Chinese investment for mega infrastructure and energy projects gave impetus to a stumbling economy. There was no major natural catastrophe. The law and order situation considerably improved, as did the supply of energy.
Apart from the IMF’s $6.5 billion, there were certain other factors that helped build foreign exchange reserves including a one-off payment from a 3G-4G auction, proceeds from Euro and Sukook Bonds, and payment from Saudi Arabia. The question arises: with all these positive externalities, why did the PML-N not leave a healthy economy for the PTI government?
Before answering this question, let us have a look at the chronic issues affecting Pakistan’s economy, which the last three governments found difficult to address.
The first issue is that there is a very narrow tax base. None of the previous governments was very successful in bringing taxable tax-evaders into the tax net (Although the PML-N government doubled the FBR revenue in five years, it failed to broaden the tax base). The second issue is the energy circular debt, which was ignored by the PML-Q (Shaukat Aziz) and which later proved out of control for the PPP because of the extraordinary high crude oil prices. The PML-N government did temporarily clear off the debt after coming into power, but that debt got tripled during the party’s five-year tenure. The third issue affecting our economy is lack of political consensus to reform loss-making public-sector enterprises (LPSEs). Each political party, while in opposition, opposed the then government’s efforts to reform LPSEs.
Now let us see why the PTI finds itself in an economic mess. The biggest problem with the last government’s economic performance was its inability to use the then fortuitous circumstances in addressing the chronic issues faced by Pakistan’s economy. Those issues got further aggravated by a wrong set of policies, especially the policy to artificially stabilize the value of the rupee for which (borrowed) $24 billion were injected by the government in the open market to keep the value of the rupee below Rs105 per dollar from 2014-2017. This overvaluation of rupee from 2014 to 2017, according to Dr Pasha, was a serious mistake, leading to subsidized imports and reduced exports (trade imbalance), large current account deficit and fast rising debt repayment liabilities.
In his latest book, ‘Growth and Inequality’, Dr Pasha writes: “the root causes of the incipient financial crisis today and the need ultimately to go [sic] the IMF are a unique combination of both internal and external factors. Due to a wrong set of policies, especially with regard to the exchange rate, Pakistan has been afflicted by a very rare form of the ‘Dutch Disease’” (apparent causal relationship between the increase in the economic development of a specific sector and a decline in other sectors).
“Large external borrowings have been used to keep the exchange rate nominally stable while leading to plummeting of exports and mushrooming of imports, thereby causing a big widening of the trade gap and resulting in a much larger current account deficit”.
He further writes that “the excessive external borrowing has also led simultaneously to a fast rise in debt repayment liabilities”.
Today, petroleum prices are once again bouncing back, touching nearly $60 per barrel. With the successful conclusion of CPEC’s funded phase-I, flow of funds under CPEC is over. Successive governments’ failure to address the chronic issues of low tax-base, LPSEs, and energy circular debt has led to a stage where circular debt and bailout to LPSE each has exceeded the annual defence budget.
It was quite easy for the current government to go on a lending spree, ignore fiscal discipline and let the economy suffer from a “rare form of the Dutch disease”, leaving a huge economic mess for whoever forms the next government. However, it has chosen a difficult path to address the chronic issues facing Pakistan’s economy.
The unpopular moves to depreciate the value of rupee to its real effective exchange rate, increase energy tariffs to stop further accumulation of energy circular debt, reduce imports through regulatory duties, and possible withdrawal of the unrealistic tax relaxations given in the last budget, will be painful both for the people (who will feel inflationary pressure) as well as the PTI government (which will lose its political capital). However, this pain must be endured by both – considering it an overdue stitch that would save nine stitches in months and years to come.
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The opinions expressed in this article are the author's own and do not necessarily reflect the viewpoint or stance of SDPI.