GDP- FACING GLOBAL SHOCKS & INFLATIONARY PRESSURE

SUMAIRA FAZAL
July 21 - 27, 2008

Since last few years Pakistan's economy had been on upbeat economic track, which compared it favorably against emerging economies in Asia, putting Pakistan as one of the fastest growing economies in the region.

Nevertheless, during on going calendar year, Pakistan's economy is reflecting subdued trends, as driven by a combination of internal and external elements. The real GDP growth during 2007-2008 has been 5.8% as compared to 6.8% in the corresponding period last year, and this growth rate has also been on the slower pace comparing with the last year's target of 7.2%.

Domestic factors like poor performance of commodity sector, heightened political tensions, unstable law & order situation, power shortages, high energy and input costs and demand-driven sky rocketing inflation have all contributed towards economic slow down. This is clear from the most recent data that slowdown in the commodity sector growth was the main impediment to the GDP growth on year on year basis. This has been an outcome of the constrained performance of major crops. The agriculture sector is globally vulnerable to weather conditions, but in Pakistan farmers also suffer from policy risk in the pricing of agri-produce, insufficient regulation on quality of inputs (pesticides, seeds etc.) and poor water management, storage and processing facilities. Meanwhile, marked by various cost-push and demand-pull factors, inflations has continuously been surging, which is squeezing individuals' consumption pattern. This while hindering the economic growth, has made a poor's life simply miserable. The point of concern is that no serious measures are being taken to address these issues on legislative front. Our political leaders seem more concerned about their individual status and having their hands on to any possible settlements out of the current regime rather than taking positive policy actions. There has been addition in almost all utility bills after budget announcement, no relief in commodity prices has been given and burgeoning costs of house hold items is likely to curtail buying power of consumer. In the meantime, increasing interest rate on lending would be decreasing the consumer borrowings in times to come.

GLOBAL SHOCKS

External factors have further added fuel to the economic turmoil. The year 2007-08 has been a chaotic year for the world economy. China and India accounted for more than half of the world growth, but for many, the most pressing matter of the year has been sub-prime meltdown in US and the ensuing financial crisis and credit crunch around the world. The collapse of the US sub-prime market, brought about by a correction in the housing sector, has had dire consequences on the world's economy. The fallout spread through an extensively interlinked global financial market and resulted in a tightening of credit and general drying up of liquidity as banks and other financial institutions looked to limit their losses. The impact of this crisis on developing and emerging economies is visible, but the extent of the damage is still not clear.

Pakistan had been an attractive market for foreign investors owing to fast pace growth in the economy in last few years. However, recent economic backdrop driven by all aforementioned issues has resulted in decline in foreign direct investment during 2008 as well. At the same time, FDI inflow of US$3bln still shows some signs of hope in gaining investors confidence in Pakistan's economy. Pakistan's economy showed resilience despite all issues it is facing currently, and had been able to maintain a growth level which still remained better than a few regional countries, thanks to outstanding performance of services sector.

GOVERNMENT FUELING INFLATION THROUGH HEAVY BANK BORROWING

Heavy government borrowings had negative impact on Pakistan 's economy. During FY08, borrowings raised to a record high level of Rs. 551bln by May 2008, as compared to Rs. 45.7bln in the corresponding period last year. The trade deficit recorded in the balance of payments has also increased, contributing directly to the record current account deficit. The stress on the economy as a consequence of this has been compounded by the continuing problems in the international financial market. Further, in the absence of hefty foreign investment inflows, rising current account deficit and weak performance of exports resulted in depletion of foreign exchange reserves. A natural outcome of these developments is weakening of rupee against currencies of most countries, which is further deteriorated due to appreciation of US dollar in the recent period.

POTENTIAL AREAS

While there is a slow down in Pakistan economy, this impediment is expected to be a crisis situation and is expected to be corrected in the long run, given the correct measures to be taken. Despite the recent sluggish industrial activity, there are a number of sectors where Pakistan can explore the potential to sustain a healthy large scale manufacturing growth. For instance, the demand for cement sector is likely to remain strong in the future owing to the strong prospective performance of the construction sector. Pharmaceutical sector is another area where domestic consumption is expected to witness a significant growth. According to a report issued by SBP, around 50% of the population still lacks the access to medical care, suggesting room for growth. Another, industry where the long term excess demand situation prevails is the petroleum refining. Fertilizer sector is also having potential for growth, as currently the total fertilizer supply is lower than the demand and the gap is being bridged via high cost imports. In addition, due to prevailing power crisis, power sector itself a channel to stimulate growth.

GDP OUTLOOK

Going forward, given the highly volatile agricultural production due to its nature-dependence, long-term infrastructural investment in the sector is inevitable. GoP's stance to promote this sector through increased level of subsidiary seems to be a right step in economic promotion. Nevertheless, effective implementation will remain an issue GoP has to constantly focus on. Meanwhile, given the current political chaos, in the wake of war against terrorism and expectations of foreign shocks, it is highly unlikely that economic issues can be corrected or even addressed in the short run. At the same time, based on the expectation of continuously high inflation and electricity shutdowns, hindering the industry growth of the country, GDP growth is likely to remain on the slower pace, may be somewhere around the level of recently ended financial year. Nevertheless, if agricultural growth, manufacturing diversification, expenditure streamlining and foreign investment will be given due importance, we can observe a considerable comeback of the economy beyond FY09.