THE STATE OF THE ECONOMY

The budget deficit and the balance of payments remain pressing concerns.


Naween A. Mangi
Nov 02 - 08, 1996

  1. Economic Growth, Savings, and Investment
  2. Inflation
  3. Public Finance and Fiscal Policy
  4. Credit Plan
  5. Monetary Policy
  6. Bank Deposits
  7. Advances
  8. Defaults and recoveries
  9. Internal and External Public Debt
  10. Balance of Payments
  11. Targets and Prospects

    At the end of last week, just after the announcement of the interim budget, the State Bank of Pakistan released its annual report for 1995-96. Widely regarded as an important overview of economic and financial developments over the last year as well as targets for the current year, the SBP report provides a comprehensive picture of the current state of the economy and the prospects for the future. Independent economists, however, are describing the report as "largely lacking in a strong analysis of the current economic problems of the country.

    Nonetheless, this year's report begins with a look at the macroeconomic objectives for 1995-96 and how closely they were met. The rate of economic growth was to increase from 4.4% in 1994-95 to 6.5%, the inflation rate was to fall from 13% to 9.5%, and the external current account deficit was to be contained to 4.4% of GDP. The budget deficit was to go down from 5.6% of GDP to 5% and monetary expansion was to slow from 16.6% to 13%. On the trade front, exports were projected to increase by 14% and import growth contained to 10.6%.

    According to the report, by the end of the first quarter, it was evident that targets were not to be met; borrowing was high, inflation was on the increase, the external trade balance had worsened and both foreign exchange reserves and the exchange rate were under pressure.

    The results which showed in the second half of the year, the report said, were due to the new policy package of the government which was put forth in October-November 1995. The exchange rate was adjusted, a regulatory import duty was imposed, petroleum product prices were adjusted, and non-core development expenditure was cut. Some targets were also revised; the budget deficit was now to be 4.6% of GDP, and monetary expansion 12.1%. Inflation began to fall, export growth accelerated, import growth slowed, and foreign exchange reserves improved, the report said.

    As a whole, on the supply side, the growth rate of the economy was 6.1%, and the rate of inflation, according to the Consumer Price Index was 10.8%. On the demand side, however, the budget deficit actually rose to 5.8%, and bank borrowing was twice as high as the target at Rs 54 billion. Domestic credit growth was 20% (against a target of 14.3%), and monetary growth was 14.9%.

    Furthermore, exports increased only 7%, import growth was 16.2% and the current account deficit was as high as 6.6% of GDP. However, foreign direct investment was $ 1.1 billion, and the country's foreign exchange reserves stood at $ 2.1 billion.

Economic Growth, Savings, and Investment

Although the rate of GDP growth did not meet the target of 6.5% for the year, it was up from 4.4% in the previous year to 6.1% in the year under review. This growth was driven by growth in both the agriculture and industrial sectors.

Growth in the agricultural sector was higher than the target rate of 6.2%, and the previous year's 5.9% at 6.7% for 1995-96.The production of both major and minor crops exceeded their targets, with the production of cotton rising 22.2% to 10.63 million bales. This was the largest contributor to the growth of the agricultural sector. The adoption of effective plant protection measures, the use of improved seed varieties, the efficient use of fertilisers and favourable conditions all contributed to the increase in the yield of cotton by 8.1%, the report said.

In the industrial sector, the target for the year was growth rate of 7.5%; although growth is estimated at 6.1%, it is up from 3.6% last year. Breaking this down, the large scale manufacturing sector, was estimated to have grown at 3.1% against a target of 6% and last year's figure of 0.5%. The rate of growth of 8.4% for small scale industries remained static, and construction grew at just 4.5% against a target of 6%. The electricity and gas sector exceeded its target growth level of 13% with an annual growth of 13.4%, while the mining and quarrying sector grew at 8.3% as against a target of 5%.

As a result of conflicts between growers and crushers of sugar cane, the production of sugar declined 17.7% over the year, with the incentives to the sector being unable to boost production. The weaving sector was also troubled, and while higher than last year, the production of cement did not meet its target of 17.4% either. The production of fertilisers witnessed an increase of 8.9%, against the target of 3.1%.

As far as industrial policy is concerned, the process of deregulation, privatisation and liberalisation continued during 1995-96 with 9 of the 11 companies offered having been sold during the year.

Discussing savings, the report says that gross national savings rose by 8.6% to Rs 299 billion, down from the 11.7% growth rate of last year. The share of national savings in GNP fell from 14.6% to 13.6% while its share in financing gross total investment declined from 78.8%to 70.2%. Public savings increased by as much as 42% to Rs 54.1 billion while private savings rose just 3.2% to Rs 244 billion against an increase of 15% last year, with both household and corporate savings growth slowing.

The report goes on to say that investment activity revived considerably during the year with an increase of 11.6% in real gross fixed investment compared with a smaller increase of 2.9% in 1994-95. The increase was driven primarily by the large scale manufacturing and the electricity & gas sectors, which accounted for 18.1% and 20.2% of real gross fixed investment respectively.

Inflation

Although independent observers peg the rate of inflation at between 16-17%, or even up to 18-20%, the SBP report claims that the rate, measured by the CPI, slowed from 13% the previous year to 10.8% in 1995-96; although it was still lower than the target rate of 9.5%.

The primary reasons ascribed were; the recovery in the GDP growth rate and the lower level of monetary expansion. the report also said that several factors prevented inflation from falling further; excessive government borrowings, a considerable depreciation of the rupee, increases in administered prices, more reliance on indirect taxes and raising of the support prices of various crops. Interestingly enough, data shows that the CPI, broken down into groups based on monthly income, is higher for higher income groups. For monthly incomes up to Rs 1500, the CPI was 10.62%, rising to 10.7% for incomes from Rs 1500 to Rs 400, 10.83% for Rs 4000 to Rs 7000, 11.27% for Rs 7000 to Rs 10,000 and 11.82% for groups with monthly incomes topping Rs 10,000.

Public Finance and Fiscal Policy

The consolidated budget of the federal and provincial governments for 1995-96 targeted a total expenditure of Rs 495 billion; Rs 398.5 billion on current expenditure, and Rs 96.5 billion on development expenditure. This expenditure was to be financed from Rs 299 billion in tax revenue, Rs 75.2 billion in non-tax receipts, and privatisation proceeds of Rs 12 billion. The Rs 108.5 billion budget deficit was to be met from external borrowings (Rs 17.7 billion) and from internal borrowings (Rs 90.8 billion), of which bank borrowing was to be Rs 29.7 billion.

Taxes: In order to reduce the budget deficit to 5% of GDP, additional taxes were to yield Rs 16.56 billion in revenue. As a part of the attempt to broaden the tax base, the rate of withholding tax on imported goods was was raised from 2% to 4%, and the maximum rate of customs duty was reduced from 70% to 65% and some tariff restructuring was also carried out. The rate of sales tax on certain imported raw materials was increased from 15% to 20%, and to promote documentation, the registration of all importers with the sales tax authorities was made compulsory.

A reform package was also implemented in October 1995 including a 7% devaluation of the rupee, a 7% increase in petroleum prices, a minimum statutory import duty of 5% on some of the previously exempted items, and the imposition of a 10% regulatory duty on imports. These measures were to yield Rs 24.3 billion on a gross annual basis and a Rs 5 billion reduction in the outlay for non-core development expenditure was also made.

According to provisional data, total expenditure for 1995-96 was Rs 511.1 billion, financed from tax revenue amounting to Rs 305.3 billion, non-tax receipts of Rs 67.9 billion and the use of privatisation proceeds of Rs 12 billion to finance the Social Action Programme. The budget deficit was met from internal borrowings of Rs 110.1 billion against the revised target of Rs 79.3 billion and external borrowing of Rs 25.8 billion compared to Rs 19.6 billion in the revised budget. Borrowing from banks was Rs 53.6 billion. The country's exceptional levels of government borrowings both external and from the banking system are now a source of much concern to independent economists and analysts alike.

Consolidated revenue receipts were Rs 373.2 billion and tax revenue was just short of Rs 316.6 billion in the budget at Rs 305.3 billion. Non tax receipts were also lower than estimates at Rs 67.9 billion.

The consolidated budget for 1996-97 envisages a budget deficit of Rs 10.9 billion, equivalent to 4% of GDP to come mainly from a 21.6% increase in revenue receipts. To this end the tax base will further be broadened, revenue collection will be improved, current expenditure will be reduced in areas of low priority and development expenditure will be enhanced. Additional tax measures are to yield a revenue of Rs 40.8 billion. The agriculture tax remained the subject of much discussion, and last week's mini-budget allowed for Rs 2 billion to be collected through this tax; total additional tax revenue through the mini-budget is expected to be Rs 13 billion.

Credit Plan

The original credit plan for 1995-96 had set domestic credit expansion at 15%, draw-down of net foreign assets in the amount of Rs 13.7 billion and accordingly, the growth in monetary expansion at 13%. Credit to the public sector was estimated to increase by Rs 50 billion through the government sector and Rs 3 billion through autonomous bodies. Credit to the private sector including public sector commercial enterprises was estimated to grow by Rs 64.2 billion.

After the revisions which took place at the end of the first quarter, the SBP's repo rate and the rate charged by banks on specialised credit schemes was raised by 1% and monetary expansion was fixed at 12.1%; the latter was to be achieved through lower domestic credit expansion, and larger draw-down of net foreign assets from the banking system. Lower domestic credit expansion was partly to be accounted for by lower government borrowing.

However, domestic credit expansion at Rs 154.2 billion, or 20.2% during 1995-96 was substantially higher than both the revised target and the actual figure for last year; the public sector accounted for 48% of total credit expansion.

Monetary expansion was at 14.9%, higher than the target figure but lower than the previous year; expansion was driven by growth in M1, time deposits and resident foreign currency deposits, although growth in M1 did slow over the previous year.

Public Sector: Growth in government borrowing for budgetary support amounted to Rs 53.6 billion as against the revised target of Rs 28.1 billion. The government also used Rs 12 billion from sale proceeds of PTC vouchers. And government borrowing for financing commodity operations increased by Rs 5.9 billion compared with Rs 5 billion provided for in the credit plan. Credit to public sector autonomous bodies, WAPDA, OGDC, NFC. PTVC and PTC rose by Rs 3.2 billion crossing the Rs 3 billion target.

Private Sector and PSCE's: Against the back-drop of expanding credit to the public sector, the private sector, once again, came under a squeeze. Credit expansion dropped from Rs 66.3 billion in the previous year to Rs 60.3 billion in 1995-96.

Credit through commercial banks though increased from Rs 49.7 billion to Rs 54.9 billion. Commercial banks disbursed loans amounting to Rs 5 billion to the agriculture sector to finance production loans, and major Pakistani banks disbursed Rs 7 billion to private sector manufacturers as fixed investment finance, up from Rs 4 billion in the previous year. Banks also utilised the export finance facility at the reduced rate of return and were sanctioned an overall revolving limit of Rs 82.4 billion; banks availed of Rs 98.6 billion of refinance on a gross basis.

The proposed credit plan for 1996-97 includes liquidity expansion at Rs 116 billion, or 13.1%, and domestic credit expansion at Rs 102 billion or 11.1%. Net credit expansion to the private sector would be to the tune of Rs 60 billion.

Monetary Policy

The focus of monetary policy during the year was on controlling excessive credit expansion through indirect instruments of monetary control. The credit deposit ratio was abolished necessitating the frequent use of Open Market Operations supported by changes in liquidity and cash reserve requirements as well as the repo, or discount rate.

The rate charged by the SBP on financial accommodation to meet temporary liquidity shortages was enhanced from 15% to 16.5% and then to 17%, the SBP 3-day repo rate was refixed at a uniform rate of 17% for 6 month t-bills and FIBs and the rate of return on export finance scheme was left unchanged at 13%.

In order to make the interest rate policy more market oriented, the cut-off yield at the primary auction of government securities and on OMO's was allowed to gradually increase from 12.999% to 13.25%. And the yield on MRTB's at OMOs increased steadily from 12.5% to 13.2%.

The total sale of MRTB's under OMOs during the year amounted to Rs 119.6 billion as against Rs 101.5 in the previous year.

Bank Deposits

Total bank deposits for the calendar year 1995, showed an 18.2% increase in total deposits or Rs 117.7 billion, with the rise being concentrated in fixed and saving deposits which accounted for increases of Rs 51.6 billion (24.2%) and Rs 38.4 billion (14.1%). Current deposits also recorded an increase of Rs 18.8 billion (14.2%) although less than last year's increase of 17%.

The shares of savings and current deposits in the total increase declined from 36.7% and 17.6% in 1994 to 32.7% and 15.9% in 1995, while the share of fixed deposits in total growth increased from 38.6% to 43.8%. Further, within fixed deposits, the largest increase of Rs 28.4 billion, the report said, was in the group of less than 6 months; the share grew from 11.3% to 24.2%. In an effort to guard against inflation, consumers preferences to deposit for short terms is reflected in this trend.

Looking at deposits in terms of holders shows that the share of foreign constituents in total growth which increased, after some years to 28.6%. And the share of domestic constituents, which had previously been on the rise, declined from 94.8% in 1994 to 71.4% in 1995. The reason for this is the mobilisation of non-resident foreign currency deposits by banks.

Within domestic constituents, personal deposits accounted for the largest increase of Rs 53.9 billion and the share in total growth went up from 24.5% in 1994 to 45.8% in 1995. The increase in the deposits of private sector businesses was lower than the previous year at Rs 33.6 billion and the share in total growth here fell from 47.9% to 28.5%. Government deposits fell by Rs 6 billion as against a rise of Rs 21.2 billion in 1994.

Considering deposits by size of accounts shows that the largest increases were in the size ranges of Rs 100,000 to Rs 1 million as well as those above Rs 1 million. The share of these two size ranges together went up from 64% to 68.3% in 1995. The lowest share came from the range Rs 1000-5000 which improved slightly from negative 2.5% to negative 1.5%.

Rates of return: The weighted average rates of return on interest based deposits increased from 5.93% in December 1994 to 6.1% end December 1995, but the same figure for PLS based deposit fell from 9.19% to 9.07%.

Examining nominal rates of return declared by banks on various types of PLS deposits, it is evident that the rate of return increased in both lower and upper ends in the case of two and three years maturities and in call deposits and Special Notice Deposits, while rates on savings deposits remained more or less the same as the previous year. Once these rates are adjusted for inflation, devaluation and withholding taxes, the real rate of return for depositors in actually negative, as the report admits.

Advances

Commercial Banks advances in 1995 increased by 22.3% (Rs 76.1 billion) compared with an increase o f 12.3% during 1994. The largest share in this increase came from merchandise which accounted for 40.5% of the total increase, rising by 21.1% over the year. Merchandise includes food items, finished goods, and raw materials. Advances against fixed assets increased 29.9%, those against real estate increased by 13% and those against other securities rose by 29.4%. Growth in real estate advances slowed from 18.5% in the previous year.

The data shows that the entire increase in commercial banks advances was accounted for by domestic constituents, as advances to foreign constituents indicated a decline in 1995. Eighty one percent of the increase in advances 1995 came from private sector business loans and personal advances. The composition of advances to the government and public sector enterprises, however, was dramatically changed. Advances to the government, primarily for financing government commodity operations rose four fold by Rs 9.3 billion, while advances to public sector enterprises rose sharply by Rs 4.6 billion for financing the manufacturing, electricity, gas, water & sanitary services and the transport and communications sectors.

Rates of lending: The effect of decapping lending rates and abolishing the credit deposit ratio showed in the increase in lending rates. Weighted average rates of return on advances under Islamic modes of financing which account for the bulk of bank credit increased from 13.54% end December 1994 to 13.97% end December 1995. The rate of return on interest based advances, however, declined ,marginally from 13.43% to 13.39%.

According to the report though, these rates were calculated on the basis of outstanding level of loans extended at various rates at various times, and therefore do not represent current trends. According to data collected on a monthly basis from July 1994, the weighted average rate of return for all types of advances during 1994-95 was 16.46% and rose to 16.99% over the year.

Defaults and recoveries

According to the SBP Annual Report, the total amount of stuck-up loans increased from Rs 101 billion end June 1995 to Rs 113 billion, end June 1996, indicating a 12% growth. During the same period, Rs 16 billion was recovered in cash, while Rs 20 billion were rescheduled.

In all, some 3500 cases, involving over Rs 53.2 billion are pending before different banking courts, and another 2205 cases involving an amount of Rs 14 billion are pending before the courts for execution of decrees.

The highest ratio of default to total loan portfolio was public sector DFIs at 22.91%, followed by domestic banks at 20.83% (of which nationalised commercial banks make up 28.25%), and foreign banks at 4.12%.

Domestic Vs Foreign Banks: Of the aggregate bank deposits of Rs 808.6 billion, as at June 30, 1996, 79.93% was held by Pakistani banks while 20.07% was held by foreign banks. On the lending side, the share of domestic banks in total bank advances of Rs 474.7 billion was 83.51% and of foreign banks was 16.49%.

Furthermore, the assets and liabilities of scheduled banks stood at Rs 1910.4 billion of which 78.46% was the share of domestic banks, leaving 21.54% for foreign banks.

Internal and External Public Debt

Perhaps the most avid topic of discussion throughout this last year, large budget deficits have caused the accumulation of a very large public debt. Interest payments therefore are very high especially, as the report pointed out, because rates of return on domestic debt have risen and there is a lack of long term soft loans from external sources.

The data shows that at the end of June 1996, total outstanding domestic debt stood at Rs 908.9 billion, or almost 42% of GDP. External debt amounted to Rs 1004 billion or more than 46% of GDP. And total national debt stood at Rs 1912.9 billion, or 88% of GDP. Debt servicing accounted for 63.2% of the total tax receipts and 46.3% of current expenditures in 1995-96.

Domestic debt: Total domestic debt at Rs 908.9 billion was 13.8% up from the previous year although as a percentage of GDP, it was lower at 41.8% from 42.8% last year. Permanent debt stood at Rs 294.7 billion and increased by 0.4%. floating debt rose 22.8% to Rs 361.3 billion, and unfunded debt stood at Rs 252.9 billion having risen 20%. Permanent debt constituted 32.4%, floating debt made up 39.8%, and unfunded debt made up 27.8% of total domestic debt.

Interest payments on domestic debt servicing 1995-96 amounted to Rs 102.3 billion or 33.5% of the total tax revenue, 27.4% of total revenue, 24.5% of current expenditure and 20% of total expenditure. With domestic debt having doubled in the last five years, interest payments have also risen sharply.

External Debt: The country's total external debt, both disbursed and outstanding, is estimated at $28.60 billion end June 1996, growing 5.7% over the year. This rate, according to the report is about half the rate of growth recorded both in 1994-95 and the average of the five years ended 1995-96.

The rate of growth in medium / short term debt was almost three times the rate of growth in long term debt during both in 1995-96 and the five year period ended 1995-96. The main reasons for the slower growth in the external debt are the lower disbursements and lower amortisation payments under long term loans and lower disbursements in the case of medium and short term loans. Of the total outstanding debt, almost 81% was in the form of long term debt, down from 89.5% in 1990-91. On the other hand, the share of medium and short term debt has risen from 10.5% to 19.5% over the same period.

Debt service payments which had been rising sharply (19.7% in 1994-95), slowed to just 0.3% in 1995-96 to $ 4.336 billion, reflecting lower repayment of the principal, which constitutes more than 75% of total debt service payment, from commercial banks. Repayments of principals are expected to come down by 1.4% to $ 3.25 billion while interest payments are expected to rise by 5.8% to $ 1.079 billion.

Balance of Payments

Aside from debt, the balance of payments position was another serious cause for concern during the year. Data for 1995-96 indicates a current account deficit of $ 4.2 billion, up from $ 2.2 billion in 1994-95, largely a result of the widening of the trade gap by almost 44%, enlargement in the deficit on services account by 49% and the fall in home remittances by 17.2% which led to substantial depletion of foreign exchange reserves.

Bulk of the troubles on the trade account resulted in the first half of the year. There were indications, according to the report, of Pakistan having been out priced by its competitors, the US dollar having been strengthened, and inflation here being higher. Furthermore, the abolition of some trade barriers and a reduction in the maximum rate of tariff as a part of the liberalisation programme and generally higher import prices resulted in a sharp rise in imports.

In October 1995, the rupee was devalued by 7%, both fiscal and monetary policies were tightened and other measures were taken to strengthen the external sector. According to the report, all these measures were responsible for the improvement in the position in the second half of the year. Exports picked up, imports slowed and the trade gap closed to $ 1.6 billion.

Exports increased just 7% in 1995-96 stemming principally from the export of raw cotton, cotton fabrics, bed wear, rice, towels, and cotton yarn while exports were lower in synthetic textiles, leather manufactures, petroleum products and sports goods.

Exports financed 69.4% of imports which rose by as much as 16.2% over the year. The increase in imports came mainly from chemicals, petroleum and petroleum products, iron and steel, power generating machinery, electrical machinery, and appliances and wheat. Imports of edible oils textile machinery, air crafts, ships, boats, construction and mining machinery synthetic fibre and tea.

At the end of the year, the trade gap had widened by 44.5% to a record $ 3.7 billion. The deficit on services widened by 33.5% to $ 3.2 billion due mainly to enlarged interest payments on foreign debt and freight charges. The current account showed a deficit of $ 4.2 billion, up from $ 2.2 billion in the preceding year. And the current account deficit at 6.6% of GDP stood higher than both the actual deficit of 3.6% in 1994-95 and the targeted level of 4.4%.

Workers remittances dropped by 21.7% to $ 1.5 billion, attributed to the decline in international oil prices which affected the level of economic activity in the Middle East and Pakistani workers were substituted for by other nationals. This loss, however, was made up for by enhanced inflows under resident foreign currency accounts by more than 100% to $ 763 million. Inflows under official transfers continued to fall to touch $ 214 million in 1995-96.

The net inflow under long term capital amounted to $ 2.3 billion, of which private long term capital, representing largely private foreign investment contributed a major proportion of $ 1.7 billion. Net inflow under foreign direct investment more than doubled during the year to $ 1.1 billion. This is attributed in the report to investment in the power sector under the generous power policy of the government.

Net inflow under portfolio investment however, declined substantially by 87.7% to $ 157 million attributable to the bearish conditions in the stock market during the year.

Forex reserves and exchange rate: Foreign exchange reserves also improved from $ 1.04 billion on 21 November 1995 to $ 2.1 billion on 30 June 1996. The decline was attributable to the financing of the trade gap and the withdrawals from foreign currency accounts as a result of rumours about the freezing of foreign currency accounts and further devaluation of the rupee.

During 1995-96, according to the report, the rupee stood appreciated against the basket of currencies and the real effective exchange rate index showed an increase of 3.5% on 27 October 1995 over 30 June 1995. The rupee was then devalued by 7%. This and other supporting measures, "yielded favourable results which were reflected in significant increase recorded in exports and contraction in imports in the second half of 1995-96."

Targets and Prospects

The main macro targets for 1996-97, according to the report, are to "raise the economic growth rate to 6.3%, lower inflation to 8.5% and bring down the current account deficit of the balance of payments to 4.4% of GDP."

Export growth is projected at 14.4% and import growth at 5.3%, which, "in combination with larger remittances and direct foreign investment, was expect to increase foreign exchange reserves during the year."

The intermediate targets are "to reduce the budget deficit to 4% of GDP, lower bank borrowing for budgetary support to Rs 20 billion, contain domestic credit expansion to 11.1% and money growth to 13.1%. "

Can these targets be reached? Are they even realistic? The report says, "the achievement of these ambitious targets would require sustained effort to implement prudent fiscal, monetary and exchange rate policies in a a consistent and coordinated manner on the one hand and to ensure further industrial sector recovery and sustenance of the momentum of agricultural expansion on the other." This along with better debt management and continued financial sector reforms, will lead to a moderation of inflation and a reduction of the vulnerability of the balance of payments over the medium term, the report said.

Independent economists, however, are not as optimistic.

Dr Anjum Siddiqui, Business Planning Advisor and Economist at Engro Chemical Pakistan Ltd, while talking to PAGE about the state of the country's economy said that "Cutting the budget deficit is of prime importance, and this should be accomplished by reducing non-development expenditures and not by slashing development expenditures. The most recent Rs 27 billion reduction in development expenditure is being downplayed by the government, but it will have definite adverse consequencces for growth. Secondly, resource mobilisation through heavy reliance on indirect taxes and import duties significantly increases the capital cost of new projects and is in direct conflict with the government's own goal of attracting domestic and foreign investment. Ironically, reductions in imports which should be good for any economy, in fact end up reducing government revenues (through lost import duties) thus while the government would like to see an improvement in the balance of trade, its own policies of revenue generation through imports prevent it from improving the ever worsening trade deficit. There is a crying and immediate need for a long term strategic trade and tax policy. Finally, devaluation is an artificial and ineffective policy instrument of achieving competitiveness; what is really needed is sweeping reforms to significantly increase value-added production espcially in the agricultural sector. The positive effects of these value additions for our export sector and hence the trade deficit, are far too obvious. The country's real competitveness cannot be improved merely through nominal devaluations but through an improvement in the real terms of trade which will only come about when we are able to reduce the price differential of our goods versus those of our trading partners and competitors. This means that inflation should be public enemy number one and reduced to single digit form the currently high 18-20% which is the assessment of many market watchers."

Dr Mohammad Ahmed, Head of the Economics Research Department at the NDFC said, while talking to PAGE about the SBP Annual report: "The issue is not either policy coordination or its design between the SBP and the Ministry of Finance but the ability of the government to credibly commit and implement a programme of deficit reduction. Through its failure to implement a package, which is also agreeable to the IMF, the government has signalled to the market its inability for credible policy commitment. In this respect, nothing has changed from the pre-reform period of 1990-91. Monetary policy is still a hostage to developments on the fiscal front. The root cause of the present failure really lies in the wrong sequencing of the economic reform package institutes in 1990-91. Trade, industrial and financial sector liberalisation should never have proceeded without first successfully a budget deficit reduction programme. The current problem of massive loan default in the banking sector is directly connected to this issue as well; in fact the SBP is completely off the mark given an absence of a policy package for the recovery of loans. The bottom line is that both the IMF and the World Bank are culpable along with the government of Pakistan in foisting on Pakistan, excessive adjustment costs. The danger is that quite soon there will not be enough capacity in the economy to adjust and restructure anymore."