A Perspective on Pakistan's Economy

[NewStudent]

I am a new user here, although I have been a silent observer of the forum for quite some time. I have seen various point of views about economy, mostly of die hard supporters of political parties, where their main focus is to support their point of views about economic issues, rather than having an unbiased over view.

Let me take an unbiased view of Pakistan economy and more specifically its issues.

Pakistan has two major problems. First, is trade deficit and other one is fiscal.

Let’s take trade deficit first. In simple words, trade deficit is because of more imports and less exports. Pakistan, from its inception, may be with few exceptional years, has constantly facing this problem. Pakistan’s economy seems to be growing over time; however, this growth is fuelled mainly by imports. Therefore, any hindrances in imports may certainly adversely affect the economic growth.

Current government policy is IMF based solution of reducing both these deficits. For trade deficit, the classical solution lies in depreciation of the rupee, which government did adopt. This policy, has its own implications. On the positive side, it reduced the trade deficit by lowering imports. However, as stated earlier Pakistani import based economic growth is certainly hurt. Besides, exports have marginally increased. This is also a problem.

So in sum total, trade policy is partially successful.

Coming to fiscal deficit. Fiscal deficit is because of high government expenditure with lower revenue collection. IMF solution implies an increase in tax collection, while lowering government expenditure. Government is a big actor in the economy; any changes on fiscal side do have implications for economic growth.

Both the solutions are anti growth. Given, 30 to 35 percent on debt repayment along with similar expenditure on defence, leaves the government with just 30 percent to spend on the whole economy. It seems difficult to lower further expenditure, therefore government tries to collect more taxes. Tax collection from business is certain to lower business growth and hence economic growth.

Government inefficiency on top of it further deteriorates the situation. Currently, we are watching this phenomenon, where government is trying to increase its revenue through tax collection. However, still the situation is not much better as expenditure is increasing at much faster rate than taxes.

In some total. fiscal policy is partially successful in increasing government revenue, however, expenditure is way more.

On both these fronts, there are mixed results, despite government efforts. These are classic economic solutions for these problems. Problem in fact, doesn’t lie in selection of solution, it is the severity of the problem that renders government attempts futile.

Now come to the problem that government/central bank could have fixed, but chose not to, rather going against it. It is the monetary policy. Monetary policy is directed to control the money flow in the economy (and hence business). The main instrument through which money flow is controlled is interest rate. Inflation (more money chasing few good) is one such phenomenon that monetary policy tries to control.

According to text books, if there is high inflation, i.e. more money, then central bank can control it by making money more expensive. The more it is expensive, the less will people have money. Price of money is interest rate. The higher the interest rate, the less will people keep the money, and hence forth, lesser money means lower inflation. Central bank policy is implemented through commercial banks which lend credit at higher interest to consumers and businesses. In simple words, inflation is controlled by higher interest rate.

What is wrong with this solution? This is the question that needs a thorough answer. In the above example, it is assumed that market i.e. consumers and businesses are holding the majority of money, and they are responsible for inflation. This the main flaw in the whole logic. In case of Pakistan, most of the bank credit lies with government i.earound 70 to 80 percent. Some of it with businesses and very little with consumers.

One can now assess how this policy is playing havoc with all other policies, i.e. trade and fiscal policies as well as economic growth.

Let’s take trade policy and economic growth together. For higher exports, business needs cheap money. The money they are getting is almost at 17 to 18 percent. With such expensive money, their exports are also expensive, thus negating the effects of rupee depreciation and hence no increase in exports.

Besides, lower exports, other non exporting industries are finding themselves trapped with such expensive money and thus are becoming non competitive. This is certainly not helping them, as business because of higher costs may have to fire employees, therefore more unemployment. Some of businesses may get close. This is certainly lowering whole economy growth.

In terms of fiscal policy, the higher interest rates are also affecting the fiscal side in the sense that most of the government repayments are local and not foreign, mostly from commercial banks and state bank. The repayments of those loans taken both from commercial as well as state bank will put much pressure on government, thus increasing government expenditure, exactly the opposite of what is required to fill the fiscal deficit. Thus increase in government expenditure, necessitates more taxes and thus a vicious cycle sets in. Also, the higher the taxes, the lower will business grow. Another effect is crowding out effect. Since government is the most trustworthy and risk free, so commercial banks happily give credit to government. If most of the credit goes to government, businesses will be starved out of their necessary credit, thus less investment will take place from businesses meaning low economic growth.

Another aspect is the issue of hot money. Hot money is the short term foreign investment mostly in stocks, T bills and bonds. Higher interest rates in Pakistan will lure the foreigners to purchase Pakistani financial products. They do that by taking loans from foreign banks at very low interest rate mostly 2 to 3 percent and then invest in Pakistan at 13 percent, earning 10 percent without any risk. These inflows certainly help economy as foreign reservoirs are increased. However, imagine, if these reservoirs are mostly based on such short term loans and they abruptly take out all the money. Economy will simply finds itself crashing down. By the way, this was one of the main causes of East Asian financial crisis in 1997.

So what is the solution? Decrease the interest rate.

I have tried to elaborate in much detail. Some readers may find it boring, while may be for others, it may serve as a short guide on Pakistan’s economic problems.

 

[NewStudent]

I am a new user here, although I have been a silent observer of the forum for quite some time. I have seen various point of views about economy, mostly of die hard supporters of political parties, where their main focus is to support their point of views about economic issues, rather than having an unbiased over view.

Let me take an unbiased view of Pakistan economy and more specifically its issues.

Pakistan has two major problems. First, is trade deficit and other one is fiscal.

Let’s take trade deficit first. In simple words, trade deficit is because of more imports and less exports. Pakistan, from its inception, may be with few exceptional years, has constantly facing this problem. Pakistan’s economy seems to be growing over time; however, this growth is fuelled mainly by imports. Therefore, any hindrances in imports may certainly adversely affect the economic growth.

Current government policy is IMF based solution of reducing both these deficits. For trade deficit, the classical solution lies in depreciation of the rupee, which government did adopt. This policy, has its own implications. On the positive side, it reduced the trade deficit by lowering imports. However, as stated earlier Pakistani import based economic growth is certainly hurt. Besides, exports have marginally increased. This is also a problem.

So in sum total, trade policy is partially successful.

Coming to fiscal deficit. Fiscal deficit is because of high government expenditure with lower revenue collection. IMF solution implies an increase in tax collection, while lowering government expenditure. Government is a big actor in the economy; any changes on fiscal side do have implications for economic growth.

Both the solutions are anti growth. Given, 30 to 35 percent on debt repayment along with similar expenditure on defence, leaves the government with just 30 percent to spend on the whole economy. It seems difficult to lower further expenditure, therefore government tries to collect more taxes. Tax collection from business is certain to lower business growth and hence economic growth.

Government inefficiency on top of it further deteriorates the situation. Currently, we are watching this phenomenon, where government is trying to increase its revenue through tax collection. However, still the situation is not much better as expenditure is increasing at much faster rate than taxes.

In some total. fiscal policy is partially successful in increasing government revenue, however, expenditure is way more.

On both these fronts, there are mixed results, despite government efforts. These are classic economic solutions for these problems. Problem in fact, doesn’t lie in selection of solution, it is the severity of the problem that renders government attempts futile.

Now come to the problem that government/central bank could have fixed, but chose not to, rather going against it. It is the monetary policy. Monetary policy is directed to control the money flow in the economy (and hence business). The main instrument through which money flow is controlled is interest rate. Inflation (more money chasing few good) is one such phenomenon that monetary policy tries to control.

According to text books, if there is high inflation, i.e. more money, then central bank can control it by making money more expensive. The more it is expensive, the less will people have money. Price of money is interest rate. The higher the interest rate, the less will people keep the money, and hence forth, lesser money means lower inflation. Central bank policy is implemented through commercial banks which lend credit at higher interest to consumers and businesses. In simple words, inflation is controlled by higher interest rate.

What is wrong with this solution? This is the question that needs a thorough answer. In the above example, it is assumed that market i.e. consumers and businesses are holding the majority of money, and they are responsible for inflation. This the main flaw in the whole logic. In case of Pakistan, most of the bank credit lies with government i.earound 70 to 80 percent. Some of it with businesses and very little with consumers.

One can now assess how this policy is playing havoc with all other policies, i.e. trade and fiscal policies as well as economic growth.

Let’s take trade policy and economic growth together. For higher exports, business needs cheap money. The money they are getting is almost at 17 to 18 percent. With such expensive money, their exports are also expensive, thus negating the effects of rupee depreciation and hence no increase in exports.

Besides, lower exports, other non exporting industries are finding themselves trapped with such expensive money and thus are becoming non competitive. This is certainly not helping them, as business because of higher costs may have to fire employees, therefore more unemployment. Some of businesses may get close. This is certainly lowering whole economy growth.

In terms of fiscal policy, the higher interest rates are also affecting the fiscal side in the sense that most of the government repayments are local and not foreign, mostly from commercial banks and state bank. The repayments of those loans taken both from commercial as well as state bank will put much pressure on government, thus increasing government expenditure, exactly the opposite of what is required to fill the fiscal deficit. Thus increase in government expenditure, necessitates more taxes and thus a vicious cycle sets in. Also, the higher the taxes, the lower will business grow. Another effect is crowding out effect. Since government is the most trustworthy and risk free, so commercial banks happily give credit to government. If most of the credit goes to government, businesses will be starved out of their necessary credit, thus less investment will take place from businesses meaning low economic growth.

Another aspect is the issue of hot money. Hot money is the short term foreign investment mostly in stocks, T bills and bonds. Higher interest rates in Pakistan will lure the foreigners to purchase Pakistani financial products. They do that by taking loans from foreign banks at very low interest rate mostly 2 to 3 percent and then invest in Pakistan at 13 percent, earning 10 percent without any risk. These inflows certainly help economy as foreign reservoirs are increased. However, imagine, if these reservoirs are mostly based on such short term loans and they abruptly take out all the money. Economy will simply finds itself crashing down. By the way, this was one of the main causes of East Asian financial crisis in 1997.

So what is the solution? Decrease the interest rate.

I have tried to elaborate in much detail. Some readers may find it boring, while may be for others, it may serve as a short guide on Pakistan’s economic problems.

Any comments from the respected members?

 

[blueazure]

Any comments from the respected members?

what you mention is 100 percent correct

instead of practicing IMF shock economics , the tabdeeli sarkar could have twisted a finger or two and recovers billions

please post details on asian economic crisis of 97 .

 

[Lubna Mehmud]

Pakistan can be world highest mango, olive, and dates producing country.

Pakistan can also hub of walnut/ nuts production

 

[Protest_again]

I am a new user here, although I have been a silent observer of the forum for quite some time. I have seen various point of views about economy, mostly of die hard supporters of political parties, where their main focus is to support their point of views about economic issues, rather than having an unbiased over view.

Let me take an unbiased view of Pakistan economy and more specifically its issues.

Pakistan has two major problems. First, is trade deficit and other one is fiscal.

Let’s take trade deficit first. In simple words, trade deficit is because of more imports and less exports. Pakistan, from its inception, may be with few exceptional years, has constantly facing this problem. Pakistan’s economy seems to be growing over time; however, this growth is fuelled mainly by imports. Therefore, any hindrances in imports may certainly adversely affect the economic growth.

Current government policy is IMF based solution of reducing both these deficits. For trade deficit, the classical solution lies in depreciation of the rupee, which government did adopt. This policy, has its own implications. On the positive side, it reduced the trade deficit by lowering imports. However, as stated earlier Pakistani import based economic growth is certainly hurt. Besides, exports have marginally increased. This is also a problem.

So in sum total, trade policy is partially successful.

Coming to fiscal deficit. Fiscal deficit is because of high government expenditure with lower revenue collection. IMF solution implies an increase in tax collection, while lowering government expenditure. Government is a big actor in the economy; any changes on fiscal side do have implications for economic growth.

Both the solutions are anti growth. Given, 30 to 35 percent on debt repayment along with similar expenditure on defence, leaves the government with just 30 percent to spend on the whole economy. It seems difficult to lower further expenditure, therefore government tries to collect more taxes. Tax collection from business is certain to lower business growth and hence economic growth.

Government inefficiency on top of it further deteriorates the situation. Currently, we are watching this phenomenon, where government is trying to increase its revenue through tax collection. However, still the situation is not much better as expenditure is increasing at much faster rate than taxes.

In some total. fiscal policy is partially successful in increasing government revenue, however, expenditure is way more.

On both these fronts, there are mixed results, despite government efforts. These are classic economic solutions for these problems. Problem in fact, doesn’t lie in selection of solution, it is the severity of the problem that renders government attempts futile.

Now come to the problem that government/central bank could have fixed, but chose not to, rather going against it. It is the monetary policy. Monetary policy is directed to control the money flow in the economy (and hence business). The main instrument through which money flow is controlled is interest rate. Inflation (more money chasing few good) is one such phenomenon that monetary policy tries to control.

According to text books, if there is high inflation, i.e. more money, then central bank can control it by making money more expensive. The more it is expensive, the less will people have money. Price of money is interest rate. The higher the interest rate, the less will people keep the money, and hence forth, lesser money means lower inflation. Central bank policy is implemented through commercial banks which lend credit at higher interest to consumers and businesses. In simple words, inflation is controlled by higher interest rate.

What is wrong with this solution? This is the question that needs a thorough answer. In the above example, it is assumed that market i.e. consumers and businesses are holding the majority of money, and they are responsible for inflation. This the main flaw in the whole logic. In case of Pakistan, most of the bank credit lies with government i.earound 70 to 80 percent. Some of it with businesses and very little with consumers.

One can now assess how this policy is playing havoc with all other policies, i.e. trade and fiscal policies as well as economic growth.

Let’s take trade policy and economic growth together. For higher exports, business needs cheap money. The money they are getting is almost at 17 to 18 percent. With such expensive money, their exports are also expensive, thus negating the effects of rupee depreciation and hence no increase in exports.

Besides, lower exports, other non exporting industries are finding themselves trapped with such expensive money and thus are becoming non competitive. This is certainly not helping them, as business because of higher costs may have to fire employees, therefore more unemployment. Some of businesses may get close. This is certainly lowering whole economy growth.

In terms of fiscal policy, the higher interest rates are also affecting the fiscal side in the sense that most of the government repayments are local and not foreign, mostly from commercial banks and state bank. The repayments of those loans taken both from commercial as well as state bank will put much pressure on government, thus increasing government expenditure, exactly the opposite of what is required to fill the fiscal deficit. Thus increase in government expenditure, necessitates more taxes and thus a vicious cycle sets in. Also, the higher the taxes, the lower will business grow. Another effect is crowding out effect. Since government is the most trustworthy and risk free, so commercial banks happily give credit to government. If most of the credit goes to government, businesses will be starved out of their necessary credit, thus less investment will take place from businesses meaning low economic growth.

Another aspect is the issue of hot money. Hot money is the short term foreign investment mostly in stocks, T bills and bonds. Higher interest rates in Pakistan will lure the foreigners to purchase Pakistani financial products. They do that by taking loans from foreign banks at very low interest rate mostly 2 to 3 percent and then invest in Pakistan at 13 percent, earning 10 percent without any risk. These inflows certainly help economy as foreign reservoirs are increased. However, imagine, if these reservoirs are mostly based on such short term loans and they abruptly take out all the money. Economy will simply finds itself crashing down. By the way, this was one of the main causes of East Asian financial crisis in 1997.

So what is the solution? Decrease the interest rate.

I have tried to elaborate in much detail. Some readers may find it boring, while may be for others, it may serve as a short guide on Pakistan’s economic problems.

Lowering interest rate in present situation is not feasible as inflation is at about 13%.If banks lower interest rate then the banks will be lending at a negative rate. All this problem started with abrupt devaluation. It should have been gradual and export growth oriented. Its the fault of successive governments. GOP is caught in a vicious cycle. Country has a whole should brace for low economic growth for next half a decade while govt reduce its expenditure and hawking away of public finances.

Key is to bring in outside money. Thats the only way out. GOP has to identify key export industries, provide them with sops to improve their trade. Improve the quality of human capital, encouraging FDI. Remittances is another area one could look into. They have encourage human capital export and provide the ease to send money back into the country. Banking has to be made easy and less expensive. Financial services like insurance need to improved. Stock market investing has to be made easy. Encourage corporates to list themselves in stock market and encourage public to invest and grow with them. Encourage entrepreneurship.

 

[NewStudent]

Pakistan can be world highest mango, olive, and dates producing country.

Pakistan can also hub of walnut/ nuts production

Thanks for your input. There are a lot of opportunities available, no one is denying that fact. However, my opinion is about the macroeconomic situation. If we could exploit these as well as other opportunities we would benefit a lot.

Lowering interest rate in present situation is not feasible as inflation is at about 13%.If banks lower interest rate then the banks will be lending at a negative rate. All this problem started with abrupt devaluation. It should have been gradual and export growth oriented. Its the fault of successive governments. GOP is caught in a vicious cycle. Country has a whole should brace for low economic growth for next half a decade while govt reduce its expenditure and hawking away of public finances.

Key is to bring in outside money. Thats the only way out. GOP has to identify key export industries, provide them with sops to improve their trade. Improve the quality of human capital, encouraging FDI. Remittances is another area one could look into. They have encourage human capital export and provide the ease to send money back into the country. Banking has to be made easy and less expensive. Financial services like insurance need to improved. Stock market investing has to be made easy. Encourage corporates to list themselves in stock market and encourage public to invest and grow with them. Encourage entrepreneurship.

Dear Sir,

You stated."Lowering interest rate in present situation is not feasible as inflation is at about 13%.If banks lower interest rate then the banks will be lending at a negative rate."

Well, I am talking about the central bank policy rate, not the commercial banks' rate. Central bank policy rate is too high, and it is in fact increasing the inflation, rather than curtailing it.