Pakistan’s GDP grew by 3.3 percent in the closing financial year 2018-19 amid tough economic scenario and introduction of structural reforms in the economy.
According to the State Bank of Pakistan’s quarterly report “The State of Pakistan’s Economy”, GDP growth moderated to 3.3 percent in FY19 as per provisional national income accounts.
The closing year exposed Pakistan’s structural deficiencies and its vulnerabilities to the buildup of external and internal deficits. Towards the end of FY19, the challenges to the macroeconomy continued to persist. Specifically, the fiscal deficit further deteriorated and while the current account gap relatively improved, its sustainability remained a concern.
The moderation in GDP growth is partly a result of policy-induced, demand management measures, initiated since January 2018, to contain the buildup of inflationary pressures and rising twin deficits. These policy actions led to a contraction in LSM, which was further entrenched by regulatory measures.
At the same time, adverse developments such as water shortages and high input costs undermined the agriculture sector’s performance. In the meantime, less tangible factors such as uncertainty regarding decision on the IMF program for Balance of Payment support hampered business sentiments as reflected in the IBA-SBP Business Confidence Survey.
The overall economic slowdown, along with specific import compression measures, has led to a sizeable contraction in the country’s import bill. Exports managed to post a sizable growth in quantum terms; however, this recovery was not sufficient to offset the adverse price effect stemming from lower unit values. Nonetheless, improvement in trade deficit coupled with healthy growth in workers’ remittances resulted in a reduction in current account deficit from US$ 13.6 billion in Jul-Mar FY18 to US$ 10.3 billion in Jul-Mar FY19.
However, the slowdown in FDI inflows kept the external financing requirements at elevated levels. Thus, while the realized bilateral inflows from friendly countries did provide some support to foreign exchange reserves, its adequacy is still below the three-month of import coverage and the overall BoP position remained weak.
In the same vein, fiscal indicators have continued to deteriorate in the first nine months of FY19 despite a steep cut in development expenditures by 34.0 percent. At the same time, interest rate hikes and exchange rate depreciations accentuated the rigidities in the current expenditures. Making things worse, revenue mobilization remained weak due to stagnant tax revenues and steep fall in non-tax revenues. These trends are largely attributed to a slowdown in economic activity and lack of tax effort both at the provincial and federal level.
As a result, the fiscal deficit increased to 5.0 percent of GDP; notably, the primary deficit has risen to 1.2 percent of GDP, which suggests that the debt servicing ability has deteriorated sharply and the country would be requiring more debt to service its current debt. Despite several rounds of policy rate hike, a cumulative increase of 500 bps since January 2018, inflation has rather stubbornly kept an upward trajectory.
Inflation May Go Up Further in FY20
The public at large in Pakistan will embrace a little tougher financial scenario in the coming weeks as the government is projecting CPI inflation to be higher in the new financial year 2019-20.
State Bank of Pakistan (SBP) in its quarterly report “The State of Pakistan’s Economy” said the inflation will maintain its pace in the coming months despite monetary tightening through high policy rate amid the government efforts to reform the economy.
The inflation was largely driven by supply-side factors such as the upward adjustments in domestic energy prices and recent episodes of Rupee depreciation along with their second-round impact, which are likely to increase the cost of production and doing business, resulting price-hike and high cost of living.
It noted that inflationary pressure is likely to be influenced by the additional impact from various taxation measures taken in the federal budget of the financial year 2019-20 and the risk arising from any volatility in the international oil prices.
CPI inflation averaging at 6.8 percent in the first 9 months of FY19 has already exceeded its 6.0 percent target for the current fiscal year.
With stabilization policies in place and the economy moving along the reforms agenda, the country’s macroeconomic indicators are expected to slowly revert to a stable trajectory.
In this process, however, the real GDP growth is likely to remain contained. In particular, adjustment on the fiscal side has yet to get underway. Related to this, the revenue measures announced in FY20 Federal Budget are likely to keep disposable incomes and domestic demand under check. Amid such conditions, the industrial growth is not expected to rebound notably next year.
Having said that, some support to the GDP growth can possibly come from strong prospects in the agriculture sector, where there is a potential for higher output if the impact of constraints affecting the area under cultivation and yields is managed effectively. Early investments in agriculture and SEZs under the CPEC and higher outlay of next year’s PSDP can also have a positive impact on GDP growth in FY20. As for the current account, the government is projecting the deficit to reduce further in FY20, on the back of expected better export performance, containment of import payments and continued momentum in workers’ remittances. However, downside risks persist in the wake of a slowdown in the global economy, attributed to the escalated trade war between US-China and uncertainty in Europe.
Under these circumstances, increasing exports to the traditional markets may prove challenging. On the financing side, the initiation of the IMF Extended Fund Facility program would help assuage the overall external sector concerns.