The Economy is Stabilizing But Reaching GDP Growth Target is Unlikely: SBP

Pakistan’s economy is moving progressively towards stability with various macro-economic indicators showing positive signs along with reforms and adjustments, however, the real GDP growth target of 4 percent is unlikely, according to the first quarterly report issued by State Bank of Pakistan on the State of Pakistan’s Economy for FY20.

The government’s policy mix appears to be adequate so far for addressing the macroeconomic imbalances and push the economy towards stability which resulted in improvement in major areas such as current account, fiscal account, revenues, foreign exchange reserves and stability in the value of the rupee.

In terms of policies, a number of developments were important. First, the macroeconomic stabilization process picked up momentum with the initiation of the IMF’s Extended Fund Facility program.

While the SBP continued to keep the monetary policy consistent with the medium-term inflation target, consolidation efforts were also visible on the fiscal front, both on the revenue and expenditure sides.

Second, the system of a market-based exchange rate was implemented, to which the interbank foreign exchange market –barring initial cautiousness– adjusted relatively well.

Third, the government abided by its commitment to avoid deficit monetization, including rollover of SBP debt, which is instrumental for ensuring effective monetary management.

Fourth, the government actively pursued documentation efforts, including asset revaluations, tight financial scrutiny, and the introduction of structured mechanisms to formalize businesses’ value-chains.

While the success of documentation measures hinges upon the policy consistency and would manifest in revenue mobilization over the medium term, the payoff from the ongoing stabilization efforts has become visible in the form of declining deficits.

Specifically, the current account deficit (CAD) in Q1-FY20 fell to less than half of last year’s level. This improvement came on the back of significant import compression and the ongoing shift towards renewables and indigenous coal in the energy mix, whereas volumetric gains were also visible in the country’s exports.

Thus, with the payment gap narrowing in the interbank market, the financial inflows helped SBP accumulate foreign exchange reserves. On the fiscal front, the improvement came from healthy growth in both tax and non-tax collections and reducing spendings, both at the federal and provincial levels.

As a result, the overall fiscal deficit was lower compared to the same period last year, and the primary balance of payments recorded a surplus for the first time in 7 quarters. This improvement was made possible through both revenue-enhancing and expenditure control measures.

Importantly, development expenditures recorded a sharp rise of 30.5 percent in Q1-FY20.

GDP Growth Target of 4% is Unlikely

In the case of GDP, the report noted that the revised estimates for the Kharif season suggest that the production of important crops is likely to fall short of their target for FY20. The large-scale manufacturing sector witnessed a decline of 5.9 percent in Q1-FY20 on a YoY basis.

This decrease was broad-based, as construction-allied industries, petroleum and automobile industries continued on a downward path. In contrast, previous corrections in the exchange rate helped the export-oriented industries, as reflected in the relatively better performance of textiles and leather industries. On balance, however, achieving the real GDP growth target of 4 percent appears unlikely.

The report highlighted that the average headline CPI inflation reached 11.5 percent in Q1-FY20, extending the steep upward trend persistent since the beginning of FY19. Not only was this level of inflation double of what was observed in the same quarter last year, but it was also the highest level of quarterly inflation since Q4-FY12.

This outcome was attributed to the slow pass-through of the exchange rate depreciation towards the end of FY19, rationalization of energy tariffs, and revenue-led fiscal measures taken in the budget 2019-20, which included the imposition of federal excise duty on a number of consumer items, and the ending of the zero-rating regime for export-oriented sectors, as well as for the reduced GST regime on sugar.

Going forward, the report emphasizes, it is vital that the government continues to address the underlying structural vulnerabilities and put the economy on a balanced and sustainable growth trajectory. Furthermore, there is a need to build on gains on ease of doing business.

Side by side, it is equally important for firms to leverage the facilitative policies, particularly the export-promotion incentives, and gain a foothold in the global value chains (GVCs). As mentioned in a separate section in the report, increased participation in the GVCs will not only align with the country’s product mix with trends in global demand, but will also put the exports on a sustainable growth path.