WORSENING CURRENT ACCOUNT DEFICIT OF PAKISTAN

SYED FAZL-E-HAIDER
June 02 - 08, 2008

US$11.586 billion current account deficit of Pakistan in the first 10 months (July-April) of current fiscal year is 75 per cent higher than the corresponding period of last year, according to the State Bank of Pakistan. The critical situation is mounting pressure on the country to increase borrowing and pay more towards debt servicing. The central bank has also cut its forecast for full-year GDP growth from the 7.2 percent target set in the beginning of current fiscal year to 6 or 6.5 percent due to domestic turbulence and external shocks.

While last week, Moody's Investors Service has lowered the Pakistan Government's Bond Ratings to B2 from B1 and the Foreign Currency Bank Deposit Ceiling to B3, the Standard & Poor's has already downgraded its ratings on both political and economic imbalances. The downgrading, according to some local analysts, would influence launching of global depository receipts (GDRs) and bonds in the international market, borrowing from commercial market and all other sources that may provide dollars to Pakistan.

The huge trade deficit of $12.740 billion has contributed over 90 per cent of the current account deficit. The inflows, which are lower than the current account deficit, have made it difficult for the country to arrange more dollars for external payment. It will be extremely difficult for the new economic managers to cover this deficit, as the inflow of investment from abroad, which helped the government meet the country's foreign exchange demand in the recent years, is now on a declining course. Critics blame the previous government for its failure to improve export growth despite rising trade deficit. Former government had been relying on financing trade deficit instead of making strategy to bridge the gap. Local experts believe that financing trade deficit is not sustainable, as the resources of the country are going to be exhaust in the next two years. Trade deficit will force the country to borrow from donors or the market. If the rising gap is not arrested, the country is threatened to again fall in debt trap and the debt servicing would hit development expenditure.

Local analysts believe that rising oil prices could further increase the demand of dollars in the world market and Pakistan will have to borrow to keep the minimum availability of fuel in the country. The country's oil import bill was 47 per cent higher in the first 10 months of current fiscal year than the corresponding period of last year.

Pakistan is heavily dependent on the oil imports and its fuel imports represent more than 30 percent of merchandise imports. Rising oil price has ever remained a risk for its economy. The country's widening trade gap is attributed to the recent record rise in oil prices and no substantial increase in major exportable items like textile products during current fiscal year. Pakistan's central bank considers the decrease in export growth and the rise in cost of financing for funding external deficit as potential risks to Pakistan economy.

The widening fiscal and current account deficits also continued to add to inflationary pressures. The fiscal deficit during the first half of this fiscal year is estimated to be roughly 3.6 percent of the estimated annual GDP - nearly twice the figures for the last two years. This incorporates a decline in revenue growth, as well as rising current spending. Support to aggregate demand due to fiscal deficit contributed directly to a rise in monetary aggregates; raising inflationary pressures, complicating monetary management, and stoking the growth of the current account deficit. The country has been unable to sustain the modest improvement in the current account deficit witnessed during the first quarter of fiscal year 2008, and it widened sharply in succeeding months. The cumulative July to January current account deficit rose by 47.1 percent year-over-year, compared to the 51 percent increase in the same period of the previous year.

Pakistan's central bank projects the current account deficit to be around six percent of GDP during the year against the target of five percent, reflecting the rising imports growth and slow growth in textile exports. The annual fiscal deficit is likely to exceed the four percent of GDP target. The cumulative fiscal deficit for the first half of fiscal year 2008 as a percentage of estimated annual GDP was almost twice that seen in the previous two years, reaching a seven-year high for the period. The decline in the country's foreign exchange reserves also reflects the sharp increase in the current account deficit. Overall foreign exchange reserves declined to $14 billion by the end of February (fiscal year 2008) compared with $15.6 billion as at the end of June in fiscal year 2007.

The rising trade, services and income deficits and huge payments of interest on account of Euro Bond and other loans are the main reasons behind the country's widening gap in current account balance. To cover the aggravating current account deficit is a challenge to the new elected government. It will be extremely difficult for the new economic managers to cover this deficit, as the inflow of investment from abroad is now on a declining course. Net foreign investment in the country took a plunge of $1.015 billion or 31.9 percent to $2.1697 billion during the first six months of the current financial year. The country had received foreign investment worth $3.184 billion in the same period of last financial year.

The increasing current account deficit will compel the government for fresh borrowings from both internal and external sources. According to the State Bank, the country's foreign debt and liabilities have gone up by about 6 percent or $2.4 billion to $42.88 billion during the July-December period of the current fiscal year, which earlier stood at $40.481 billion during the same period in 2006-07. During the first half of the current fiscal year, the government's borrowing from the schedule banks and the central bank for budgetary support has witnessed a record increase of 248 percent crossing the figure of Rs.1 trillion.

Similarly, the energy crisis will have a negative impact on exports whereas a surge in imports is expected, as the flour crisis in the country has forced the government to import wheat. The country's exports, facing competitiveness problem, are unlikely to show any growth, pushing the demand for food prices to higher side coupled with increase in oil prices in days ahead.