HIGH INTEREST RATE, WEAK CURRENCY: THE PERFECT RECIPE FOR ECONOMIC DISASTER
Dec 6 - 12, 2010
During the current decade, financial years 05, 06, 07, and 08 were the hey years for investment in Pakistan. During these years, national savings too maintained a decent range of 17-18 percent of GDP, except for the FY-08 when unprecedented hike in global food and commodity prices made a heavy dent in peoples' disposable incomes restricting their capacity to save. On investment side, the high interest rate and a sliding rupee combined to adversely affect investment activities as the investment ratio declined from 22.1 percent of GDP in FY-08 to 19 percent in FY-09 and then to 16.6 percent in FY-10.
High government bank borrowing during its entire tenure crowded out private sector. This resulted in private sector investment declining from 15 percent of GDP in FY-08 to 12.7 percent in FY-09 and then to 10.7 percent in FY-10. The steep decline in investment owes much to the high SBP policy rate and excessive government bank borrowings.
Total foreign investment declined from $8.4 billion in FY-07 to $2.09 billion in FY-10. Estimates on an annualized basis put the total foreign investment in FY-11 at $1.7 billion. The factors responsible for this negative growth in foreign investment are now well established and well known. Investors worldwide have scant respect for our homemade, weird theory: "the worst form of democracy is better than the best form of dictatorship".
On private portfolio investment side, FY-07 recorded the highest inflow, $1.82 billion, to be followed by a negative inflow of $0.51 billion in FY-09 when our stock market crashed in the wake of an uncalled for political change. The attractive equity prices made some of the foreign investors stage a comeback and take short-term positions. On a cautious note, these investors invested $0.59 billion in stocks during FY-10. Currently the stock market operations are being dictated by the to-ing and fro-ing of foreign investor funds. Commitment of these funds happens to be essentially in measured quantities and on a short-term basis. On an annualized basis, private portfolio investment in FY-11 is going to be around $0.42 billion. At this precarious index level of 11,000 plus, there is hardly anything for the domestic investors.
INVESTMENT AND SAVINGS AS % OF GDP
2001-02 16.8 15.5 4.2 11.3 18.6 -1.9 18.1 2002-03 16.9 15.3 4.0 11.3 20.8 -3.8 17.6 2003-04 16.6 15.0 4.0 10.9 17.9 -1.3 15.7 2004-05 19.1 17.5 4.3 13.1 17.5 1.6 15.4 2005-06 22.1 20.5 4.8 15.7 18.2 4.5 16.3 2006-07 22.5 20.9 5.6 15.4 17.4 5.1 15.6 2007-08 22.1 20.5 5.4 15.0 13.6 8.5 11.6 2008-09 19.0 17.4 4.6 12.7 13.3 5.7 10.6 2009-10-provisional 16.6 15.0. 4.3 10.7 13.8 2.8 9.9
How the investment scenario in Pakistan is going to shape should not be difficult to forecast, all other things including the stubborn monetary policy stance and government obsession with excessive bank borrowings remaining constant! Like other sectors of the economy, we have an investment policy riddled with lofty objectives that are usually set without taking into consideration the ground realities. The Board of Investment (BoI) has mentioned five flag-waiving reasons why one should invest in Pakistan. One of those reasons is reproduced here below.
"Pakistan is one of the fastest growing economies of the world having touched a GDP growth of 8.4 percent in 2005. Today Pakistan has over 170 million consumers with an ever growing middle class. Foreign direct investment has risen sharply from an average of $300 million in the 1990s to over $3.7 billion in 2008-09. Fiscal deficit has declined from an average 7 percent of GDP in the 1990s to around 3 percent in recent years. And forex reserves have increased from $3.22 billion in 2000-01 to $11.6 billion in June 2009.î
Obviously, the BoI has tried to cash in on the economic achievements of the previous regime. The successors have given little that could be presented to the prospective investors. The killing inflation, out of this world policy rate, and a depreciated rupee are some of the major economic developments that have taken place during the last three years or so. If BoI officials think that a prospective investor will make investment decisions based on the outdated economic information provided in 'reasons to invest in Pakistan' then they are sadly mistaken. Definitely, the investor would like to confirm these facts and see them in a broader perspective. After delving a bit into the economic fact sheet of Pakistan, he might end up with the following brief:
GDP growth: Pakistan's GDP growth was no doubt nine percent in 2004-05 but it was 5 years back when this event took place. During the later years, Pakistan's GDP declined to 1.2 percent in 2008-09 and then rose back to 4.1 percent in 2009-10. The forecasts for 2010-11 set GDP growth around three percent. In conclusion, the growth pattern seems highly erratic making the investment decision job very difficult.
Ever growing middle class: No doubt, a strong middle class base is a prerequisite for fast and sustained economic growth. But, the middle class in Pakistan has gone through an ordeal during the last three years when high inflation and corrupt governance have pushed a wide segment of middle class people near to or below the poverty line. According to the IMF and the World Bank, the poverty index has worsened during the last 3 years. A discontent and struggling middle class is a big drag on economic development.
Foreign Direct Investment: Pakistan did attract an FDI of $3.7 billion in 2008-09, but it came down to $2.2 billion in 2009-10, and is likely to end up around $1.3 billion in 2010-11 (estimated on an annualized basis). The steep decline in FDI betrays a shaky investor confidence. The stock market too, after touching the highest index level of 16,000 points in 2008, is struggling to maintain the level of 11,000 points. The recent history suggests that the index level is highly susceptible to internal and external factors. The times when it crashed down to 5,000 points still haunt the memories of investors.
Fiscal Deficit: Economic figures released for the first quarter of FY-11suggest that, on an annualized basis, the fiscal deficit for the year is going to be around 6.5 percent which is quite close to what the BoI has quoted as a negative landmark for a favorable comparison. Government's insistence on high bank borrowings for non-development expenditure coupled with the harsh cuts in PSDP block both public and private sector investment.
Forex Reserves: A simple enquiry would reveal that the forex reserves - free of any IMF obligation - stood at $16.7 billion during the rule of Musharraf. The quoted figures of $11.6 billion included around $7 billion drawn against the IMF SBA loan of $11.6 billion contracted in 2008. A meager- net-of-IMF assistance-reserves of $4 billion as against the corresponding forex reserves figure of $16.7 billion maintained during the Musharraf rule will do any thing but impress the prospective investor.
Going a little farther, the investor might look to the prevailing interest rate and dollar-rupee relationship and conclude in his mind: illogically high interest rate and a weak domestic currency make a perfect recipe for economic disaster.