Pakistan's Economic Difficulties and Their Consequences

Pakistan's economy is slowing. According to the State Bank of Pakistan's latest quarterly report for fiscal year 2007-08, the country's overall economic growth in FY 2007-08 will drop below 6 percent for the first time in five years. The report also projects double-digit annual inflation, a substantial rise in the fiscal deficit, and a record-high annual account deficit as a percentage of gross domestic product (GDP). These predictions come just weeks after Islamabad revealed that the country's trade deficit has swelled to an all-time high of $16.8 billion.

Shahid Javed Burki, speaking at an Asia Program meeting on June 4, weighed in on Pakistan's economic troubles. He traced the long-term trends marking the evolution of Pakistan's economy; addressed the current economic situation; and offered a set of policies to revive the economy.

According to Burki, Pakistan's economy has actually performed remarkably well over the last 60 years, with an average annual growth rate of 4 percent. Today, the economy is 18 times larger than it was at independence in 1947—an accomplishment he described as one of the world's "most impressive examples of sustained growth." Significantly, however, this growth has been uneven: Pakistan's economic expansion has largely occurred over three different periods: 1960-69, 1977-1988, and from 2001 to very recently. What accounts for this uneven growth? Burki identified two reasons. One is that the country has "depended heavily" on external capital flows. These flows have often come from government finance and development assistance. Washington's contributions of such capital have been made when it has counted Pakistan as a close ally—such as during the 1960s and 1980s, when Islamabad was looked upon to help contain the spread of communism, and since 2001, when Pakistan assumed an important role in waging the War on Terror. The other reason for the uneven growth is the nation's failure to invest in human resource development, particularly in the areas of health and education. Pakistan has a large, young population, Burki pointed out, but such a population cannot be an economic asset unless these types of investments are made.

Turning to the economy today, Burki painted a gloomy picture. On a socioeconomic level, income disparities have widened. According to Burki, Pakistan's growth during much of the Pervez Musharraf era—GDP growth has averaged 7 percent since 2002, while per capita income has increased by around 5 percent per year—has only prevailed in sectors that do not help the poor. He asserted that poverty is increasing in Pakistan, particularly because of soaring food prices—though he conceded that food inflation is tied to the international economy and cannot be blamed squarely on Islamabad. He also referred to the country's "severe" power shortages, which cause electricity outages of up to eight hours a day. The poor, he said, cannot afford the expensive generators utilized by the rich. On the whole, Pakistan's energy crisis affects both the demand and production sides of the economy and has a "fairly significant impact" on the country's economic situation. Meanwhile, the country's macroeconomic indicators are worrisome. "Frivolous expenditures" in recent years have generated a fiscal deficit that has ballooned to somewhere between 7.5 and 9.5 percent of GDP. Such a deficit invariably "leaks into trade numbers." Indeed, Pakistan's trade deficit now hovers at around 7.5 to 8.5 percent of GDP.

Despite these problems, Burki asserted that with the right policies, Pakistan's economy can be jumpstarted and in time enjoy growth at a 6 to 8 percent annual clip. What are these policies? First, the nation must "exploit the opportunity afforded by the world economy"; presently, Pakistan is "not well-integrated" into the global economic system. Islamabad must also strive for macroeconomic stability; Burki suggested that adjustments be made to Pakistan's fiscal and trade deficits at 2 percent of GDP over a two-year period. Additionally, the country must promote high rates of savings and investment (particularly in infrastructure and education). Furthermore, Pakistan should "let the market allocate resources." Though the country's private sector has become a key player in the national economy, "it still goes back to government for subsidies." Burki advised that the private sector be regulated only so long as its independence is not jeopardized. Finally, he called for "credible and capable governments" whose major political parties do not base their legitimacy on family dynasties.

What policies should Islamabad avoid? Burki warned against exchange rate appreciations. He said that price controls should not be used to curb inflation. The government should not offer "open-ended protection to sectors" (most notably Pakistan's heavily subsidized textile industry) nor neglect urban infrastructure (Pakistan's rates of urban population growth are notably high). Burki also opposes the use of government as a "last-resort employer"—though he acknowledged that the public sector has employed so many people because insufficient numbers of jobs exist elsewhere.

Burki intimated that Islamabad must act quickly. While Pakistan's elite fret about the role of the country's judiciary and other political matters, the general citizenry is preoccupied with the economy. Recalling his impressions from a recent trip to Pakistan, Burki described Pakistanis as "progressively angry" about the lack of public policies adopted to solve the nation's economic woes. He warned of possible "political and social turmoil" if nothing is done.






Drafted by Michael Kugelman, Asia Program Associate
Robert M. Hathaway, Director, Asia Program, Ph: (202) 691-4020