Economic Challenges
for Pakistan
December
22 , 2006
Pakistan is
now in its fifth year of rapid economic growth.
The turnaround of its economic fortunes since
the late 1990’s has been heartening and
bodes well for the future. But there are storm
clouds that are gathering and need to be addressed
if Pakistan is to not only maintain its upward
momentum but also to keep pace with the booming
Indian economy.
Since independence the economic prospects of Pakistan
have waxed and waned, driven by two fundamental
factors. First has been geopolitics and resultant
aid flows from the United States, and second has
been the quality of economic policies. Three times
these two factors have worked in concert positively,
and twice they have worked negatively. In the
1960’s, 1980’s and in this decade
Pakistan benefited from an alliance with the United
States and from good sound economic policies.
In each period, the economy grew rapidly, although
in the 1980’s and in particular the 1960’s
Pakistan had a much smaller economy than it has
today. In the 1970’s and 1990’s Pakistan
experienced economic stagnation as it was neither
seen as very important to the United States nor
did it have good economic management. In the 1970’s
we had the socialist wave of Bhutto in which most
of the economy was nationalized, and in the 1990’s
we had a severe corrupt crony capitalism that
left the economy moribund.
Since 2002, the economy has been expanding at
close to 7% per year. This is a pace that will
double the economy every decade. The long run
growth rate since independence has averaged about
5.2%, so we are well above the average. Adjusted
for purchasing power, Pakistan now has an output
of about 500 billion dollars. Fifty years of 7%
growth will give the country an economy larger
than the current American one, so the power of
growth over one or two generations should not
be underestimated.
Overall the structural basis of this rapid growth
is fairly solid. There is strong expansion in
both the manufacturing and service sectors, and
agriculture is shrinking its share of the economy,
which is the normal course of industrialization.
This will have the added side-benefit of shrinking
the role of the feudals in Pakistani society.
The country has a very open trading regime, a
private banking sector, reasonable business laws
and labor regulations, and a favorable geopolitical
environment.
But there are some pitfalls. First is the trade
deficit and the value of the currency. Over the
last five years, the trade deficit has exploded
from two billion dollars to a predicted 12 billion
dollars this year. This huge increase in the trade
imbalance was due to a massive surge in imports,
partly due to rising oil import costs, but also
to massive increases in other imports. While exports
have double over the last 7 years, imports have
tripled.
This suggests that the Pakistani rupee is overvalued
relative to the dollar. If the rupee were to be
devalued, it would make Pakistani exports more
attractive while raising the price of imports.
While the dollar-rupee exchange rate in 2001 may
have been correct, it has pretty much stayed right
around 60 rupees for several years. In the meantime
Pakistan has had a much higher inflation rate
than the US. In order to correct this inflation
difference, the rupee exchange rate would have
to go to 65 to the dollar or higher.
The government as of now has been opposed to a
rupee devaluation. But eventually they will need
to adjust to reality. While Pakistan’s trade
deficit is being financed by remittance dollars
and foreign direct investment flows, these are
fickle and could change for the worse rapidly.
The second major pitfall is the shortage of human
resources. Rapid economic expansion will need
vast numbers of educated workers, and Pakistan
needs to train and educate its workforce to the
necessary standards.
Finally, investment needs to pick up. Last year
it hit a record 20% of GDP, but this compares
poorly with 25% in India and over 40% in China.
While China’s figure clearly represents
waste and inefficiency, both China and India are
now growing close to 10% annually. For Pakistan
to keep pace, it too will have to move investment
up to at least 25% of GDP. Appropriate government
policies to boost investment need to be further
pursued. Comments can reach me at Nali@socal.rr.com
.
