August 29, 2008
Was the Aziz Boom a Mirage?
Now that Musharraf has been shown the door by the politicians, there is a political need to deny that anything good happened in Pakistan over the last eight years. The most glaring issue is the vastly improved economy, which went from an IMF-dependent basket case to one of the most vigorously growing economies in the world. But since the government statistics were so overwhelmingly positive, this is a hard thing to deny. However, truth and facts never stopped a political hack from making his charges. In this spirit, Dawn published a piece by Dr. Pervez Tahir, who was an economist in the planning commission, in which he claimed that the entire boom never happened. Instead, it was merely a statistical illusion created by Shaukat Aziz who used “commando raids” to force the publication of false reports for eight years. He also blasts the government for failing to grow wheat and cattle production as fast as industrial and service sector growth, and for the rise in stock and real estate prices as somehow bad. But his “charge-sheet” is a ridiculous document.
Absolutely no evidence for any of his allegations is actually given. Secondly, if the economic boom was all statistically manufactured, why aren’t there scores of people coming out to tell the tale? What “commando action” is he talking about? Why no specifics? This is just a hit piece by someone who sees what side the bread is now being buttered on, and hardly counts as a “charge -sheet”. If he was serious he would need to explain the following: doubling of exports, rise of FDI to 6 billion dollars, the World Bank reports on living standards (done through independent data collection and analysis) showing a 50% higher standard of living in Pakistan and lower income inequality than India, the rise in car and motorcycle sales, the fact that 80 million cell phones are in use and the cell phone industry contributes 100 billion rupees to tax revenues (10% of revenue comes from this sector alone), and the tripling of tax revenue. Taxes don’t lie, and if the real economy wasn’t growing rapidly, tax revenue would not have risen. The US does not pay taxes to the Pak Treasury, and 9/11 did not change that. To claim that it is more pro-poor to grow the livestock and agricultural sectors faster than industry and services is economic nonsense, as economies develop, agriculture shrinks as a percentage of total output as biological output cannot grow anywhere near as fast as industrial. To suggest otherwise is the point of view of an economic illiterate. In the US, agriculture accounts for less than 3% of GDP and 2% of employment. Is that a failure of development?
Pakistan had a vastly underdeveloped financial sector, and the reforms of Aziz led to rapid growth there. How is that bad? Isn’t a strong and healthy financial sector a backbone of modern economies? In fact, Pak real assets and stocks were moribund throughout the 1990’s leaving all sectors profoundly undervalued by any international metric. It was certainly expected that once the economy turned around, asset prices would rise sharply. Even today Pak stocks have lower P/E ratios and higher dividend yields than other Asian developing markets including India, and Pak market cap to GDP ratio is among the lowest in Asia. The stock and real estate markets boomed as investors felt that economic prospects were improving after 10 bad years, so economic assets rapidly rose in value, as they should.
Dr. Tahir is an unreconstructed Pak statist economist, as he seems to think the government can micromanage the exact percentage decimal points of overall economic growth. Nowhere else in the world does anyone actually carry this out successfully, but that seems to be main substance of this inane article.
Taxes in real terms doubled over the last 6 years. There are only two explanations for that, either Pakistanis suddenly started paying a double share of taxes as a share of their total income, or the real economy doubled, keeping the tax to income ratio constant. Which is more likely?
Let me just clarify some economic ideas as without that knowledge it is difficult to have a full discussion. The GDP (gross domestic product, the total size of the economy) is a number that is all about consumption, that is how it is calculated and that is what the purpose of economic activity is, to consume goods and services. The size of an economy is a function of how much goods and services that economy consumes. So it makes little sense to complain that there is too much consumption going on; that is the whole purpose of economic activity. Now there are some slight wrinkles in this. When looking at an economy, to get the GDP, you simply sum up all the personal consumption, government consumption, and investment and get the grand total. If some of the total production is being exported instead of consumed it needs to be added back in, conversely if some of the total consumption is supplied by other nations as imports, that must be subtracted out from final GDP. In the average nation, personal consumption is 65-70% of GDP, while government consumption is another 15%, leaving 20% or so for investment. This basic framework applies to all economies, including communist and socialist ones.
The purpose of not consuming 20% of GDP and investing instead is to allow one to expand future production and consume more in the future. This is all pretty straightforward.
In East Asia, the governments forced a reduction in personal consumption and forced an increase in investment through variety of means, pushing investment in the East Asian Tigers to 30% of GDP. There is a very lively debate as to whether that was a good or bad policy or simply led to a lot of wasteful investment (Paul Krugman wrote a famous piece in Foreign Affairs in 1997 saying that most of it was wasteful and unnecessary). In China, that policy has been taken to an extreme, with investment reaching 45% of GDP, and net exports pushing 10% of GDP, pushing consumption way down. This is why on a per capita consumption basis, The World Bank recently found that Pakistani living standards on average were slightly better than Chinese, at least in 2005.
The problem with communist and other planned economics is not a failure to invest, but a failure to invest efficiently. The distortion of the market mechanism resulted in massive investment with no return (a Soviet car factory making useless and unwanted product for example). It is better to invest modestly in an efficient manner than to invest profligately in an inefficient manner. An open and efficient economy can achieve as much growth with 20% investment as an inefficient and controlled economy does with 30%. This is why Japan never caught up with the US in living standards, even though 20 years ago it seemed as if Japan was easily going to surpass America.
The policy question is how to maximize investment efficiency in poor countries. Pak economics prior to Aziz was dominated by statist thinking, and Tahir is part of that generation. They cannot trust individuals to make decisions and arrogate to themselves the right to deploy capital. Government control of the banks resulted in political factors deciding where capital in the economy would go. The result in Pakistan has been an investment strike where the private sector has refused to invest because the rate of return to investment was too low. Aziz raised the rate of return to investment (a big factor was privatizing the banks), and investment surged. As a percent of GDP it climbed from the long term average of 16% that was the norm in Pakistan to reach 20% two years ago and 23% last year.
Tahir seems to complain a lot about “too much consumption” and not the right kind of consumption. How to define these terms in any serious or rigorous way has not been done, and it seems more a value judgment about what free people choose to spend their money on. It is however economically ignorant to suggest that there is something wrong with GDP growth being mostly led by industry and services, rather than agriculture. If you want a list of the world’s richest countries, just make a list of countries with the smallest share of GDP in agriculture. Comments can reach me at Nali@socal.rr.com
