Pak Economy: Soaring trade deficit and sliding rupee

By A.B. Shahid

For decades, Pakistan’s balance of trade remained negative, though not as high as now. In 1996-97, with the PPP in power, it touched $ 3.52 billion; today it is a staggering $20.75 billion. This deficit is based on imports of $39.97 billion and exports of $19.22 billion recorded by the Federal Bureau of Statistics (FBS) in 2007-08 but, as always, the export figure will be revised downward and the deficit could be six times of its 1996-97 size.
PPP is in power again and facing challenges that defy a solution to the economic predicament. Although this deficit is the legacy PPP knowingly inherited, its failure to devise a strategy to contain it until the economy attains a sustainable posture exhibits a lack of consciousness of its responsibility. This factor is escalating the psychological impact of the deficit i.e. eroding confidence in the economy.

The deficit is creating a directionless economy, which is the ideal environment for bounty hunters, as proved by the steady slide of the rupee (20 per cent) since January 2 reaching a climax on July 8. It forced SBP to take corrective actions yet again that central banks rarely take.

Trouble began when trade deficit more than doubled to $6.183 billion in 2004-05 over it 2003-04 level. The fact that it was met primarily by workers’ remittances was a red signal about consumption rising rapidly and becoming import-oriented. Containing imports called for supporting domestic producers of import substitutes to cut their costs and stay competitive with imports. Unfortunately, that wasn’t done.

Instead, we went headlong for ‘cheap’ imports not realizing that this addiction had lethal after-effects even on economies like the US. But by then Pakistan had entered the age of ‘liberalization, deregulation and privatisation’, courtesy its erstwhile Prime Minister. In 2005-06 the trade deficit doubled again to $12.011 billion, and in 2006-07 it rose further but was dubbed as the ‘sure’ sign of growth. That ‘growth’ has now pushed the deficit to $20.75 billion.

The figures show rising dependence on external sources to finance consumption as well as the waste that goes along with it. Except for workers’ remittances, no other source depicts any stability because all of them depend on political and economic stability. Tragically, the distortion escalated even during the tenor of the banker Prime Minister Shaukat Aziz.

According to the Governor SBP, imports during Jan-May 2008 were 51 per cent more than those of the corresponding period of 2007. Admittedly, the full-year 2007-08 imports include oil imports of $12 billion but the remaining $28billion is accounted for other imports, a huge component comprising consumer goods. In effect, we had been pumping a balloon that is now ready to burst.

After the downgrading of Pakistan risk by rating agencies it became clear that, except for workers’ remittances, other inflows would dry up and the rupee was in for a big slide. This view encouraged importing far more and quickly, which explains the meteoric rise in January-May imports. The strategy was to subsequently profit by selling everything on hugely inflated prices as the rupee depreciated.

Market players, who had earlier pumped that balloon, also don’t want to risk the wealth they are earning. They therefore began stashing away their wealth to safe heavens. The 3.6 per cent slide in rupee’s value on July 7 and 8, which was reversed on the third day after imposition of SBP’s punitive measures proves that the slide was not caused by import payments but by capital flight-driven speculation, that has stopped for now.

SBP has cut down exchange trading hours, banned forward exchange trading, cut the amount of advance payments for imports to 25 per cent, and told moneychangers to seek its permission before remitting abroad any amount exceeding $ 50,000 or its equivalent in other currencies. It is significant that SBP will now provide 100 per cent exchange cover for oil imports. It should remedy some fears, though not all.

The trade deficit is twice the size of the available exchange reserves. Given the load of external debt instalment payments, the reserves could fund oil imports for about six to seven months, nothing else. This is too optimistic because government imports of food grain must be covered by the reserves, and secondly, what do we do after the reserves are exhausted? That is the crux of the matter.

There is no option but to mobilise external sources. With its risk rating downgraded, Pakistan will find market borrowing expensive. Borrowing from the IMF would force government to cut subsidies more rapidly, which could further enrage businesses and the public. State enterprises could be privatised at this stage only on dismally low prices. Borrowing from friendly countries is the only option but it requires ingenuity and a convincing ability for governance in the coming years to raise domestic resources for repaying the debts.

Pakistan’s friends in the Middle East may be prepared to take a risk on Pakistan yet again but not without clear-cut plans to bolster internal resources through focused policy-making, fiscal discipline and tax collection, reviving domestic industry, and improving agricultural growth (for which these states see a potential). The last federal budget exhibited nothing of the sort.

The current economic state can, at best, be summed up as alarming. But, at the same time the sheer size of young workforce (a ticking bomb if it remains unskilled and unemployed), and the potential for benefiting from nature’s bounty, hold out enormous promises. What we must overcome is the lack of capacity for achieving what we can achieve from these resources.

What we need is a new team.. The team Mr Asif Zardari has put in place lacks the requisite credentials. This was hardly the style to adopt while inheriting an economy with record fiscal, trade and current account deficits.

Source: Daily Dawn, 14/7/2008

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