17 May 2004	Monday	26 Rabi-ul-Awwal 1425

In February 2004, the federal finance minister had spelt out growth and investment as the main targets for the next year's budget (2004-05). A GDP growth of over 5.3 per cent is expected for this fiscal year (2003-04) based on high revenue collection , improved large-scale manufacturing, and better agriculture sector performance.

An overview of the last two years would be in order to discern trends in past influences that are likely to carry on into the future. Specific influences on coming year's decisions will be determined next.

It was in FY03 that the GDP grew at the rate of 5.1 per cent. Prior to that, GDP had grown at a rate less than 4 per cent since FY00. Agricultural sector registered a decline in FY01 and 02 and bounced back to grow at 4.1 per cent in FY03. Better inputs' management facilitated agricultural growth.

Manufacturing grew at 7.7 per cent in FY03 after falling to 5 per cent in FY02 from a high of 8.2 per cent in FY01. Consumer finance facilitated increase in demand for and thereby production of consumer durables in FY03.

Credit availability also pulled up output in engineering goods and construction with tractive effort on related industries in the same year. Textiles industry received a boost in FY03 from higher export demand.

While external factors contributed to increase in growth rates in agriculture and in textiles, monetary policy facilitated the same in manufacturing in FY03. It may be said that lower budget deficit of 4.4 per cent in FY03 may have facilitated availability of cheap consumer finance that revved up consumer durables and thereby manufacturing.

But budget deficit had fallen to 5.2 per cent of GDP in each one of the two fiscal years FY01 and 02 despite which overall GDP growth rate differed at 2.2 per cent and 3.4 per cent in FY01 and 02 respectively with manufacturing growth at 8.2 per cent and 5 per cent in the two respective years.

It is important to note that manufacturing grew at 8.2 per cent in FY01 when the budget deficit was 5.2 per cent and overall GDP growth only at 2.2 per cent. Both overall GDP growth and manufacturing growth rates do not appear correlated with budget deficit-to-GDP ratio here as is seen from above.

Further, according to most analyses, it was a lack of demand from the industrial capital goods sector in FY03 that enabled provision of credit for the consumer goods sector instead.

For, alternative avenues were found to channelize available credit. According to ABN-Amro report of 19/1/04, investments were also made in real estate, equities, and national savings schemes from borrowed amounts. There has, therefore, been an overemphasis on budget deficit reduction as a primary factor in enhancing the productive potential of the country.

And, this over-emphasis comes primarily from foreign financiers. We too have accepted this over-emphasis as gospel for growth and investment even though both growth and investment may be resulting here from factors not directly connected with fiscal deficit reduction.

But since growth did accelerate in FY03, we attributed it to sound budgeting even though the contributory factors may have been exogenous here as well. A key aspect of our sound budgeting for which we patted ourselves on the back was higher tax revenues. Its analysis too would be in order to see what would not meet the eye ordinarily.

Tax revenue increased from 12.9 per cent in FY00 and 01 each to 13.2 per cent in FY02 and to 13.8 per cent in FY03. Even though this is viewed as a significant improvement, the tax-to-GDP ratio has actually approached the trend of the 1990s when a level of 14.4 per cent had been actually attained in 1995-96.

Nonetheless, it is important to note that this increase in tax collection has been contributed mostly by indirect taxes rather than direct taxes. Out of the indirect taxes, greatest increase was recorded by customs collections that were more a fallout of higher imports rather than improved tax administration.

The fiscal deficit reduction to 4.4 per cent of GDP in FY03 is also partially attributed to reduction in development expenditure which fell from 3.5 per cent of GDP in FY02 to 3.2 per cent of GDP in FY03.

The budget deficit target for FY04 is 4.0 per cent of GDP. Its attainment is viewed as a panacea for most of our economic ills even though its apparent lack of correlation with even the targeted variables can be easily seen in our context.

However, since budget deficit-to-GDP ratio remains sacrosanct, all efforts will remain directed towards this end. The development expenditure allocated for FY04 was Rs 160 billion. Only 30 per cent of this PSDP allocation was utilized during the first half of FY04 (July-December 2003).

It appears that it will probably be released in the last quarter when performance on the above and other indicators will be known more clearly so as to eventually achieve the targeted budget deficit-to-GDP ratio for the fiscal year.

As for interest payments, domestic debt growth has been contained and expensive foreign debt is being replaced with softer credit. Interest on domestic debt declined from 5.2 per cent of GDP in FY02 to 4.3 per cent of GDP in FY03 and interest on foreign debt declined from 1.7 per cent of GDP in FY02 to 1.0 per cent of GDP in FY03. While this declining trend is likely to continue, the SBP discounts its impact on expenditures.

Defense expenditure too has been showing a declining trend since FY00 when it declined to 21.2 per cent of total expenditures and then to 18.3 per cent in FY01, to 18.0 per cent in FY02, and to 17.7 per cent in FY03.

This declining trend continued despite a military government at the helm for almost three fiscal years from FY00 to FY02. More defense cuts are expected this year when Pakistan Army's manpower is also expected to go down by 50,000.

A clear pattern of foreign influence can now be discerned. Pakistan is expected to grow out of the IMF's PRGF facility if it does not enter into another balance of payments difficulty since its foreign inflows are reducing.

Even then, there will still continue to be pressure from the international lenders (IFIs) who will continue providing various types of financial assistance to Pakistan.

Since they subscribe to the same neo-liberal new growth theory, budget deficit targets will continue to be of paramount importance together with the indicators of growth and investment.

In addition, the influence of Pakistan's anti-terror strategic partner is likely to reign supreme. That is, it is the USA itself that has been the prime exporter of the neo-liberal market reform pro-growth ideology since the Cold War.

This ideology has also been behind the same policy packages incorporated in all financing facilities provided by IFIs as their governing bodies remain under strong influence of their own key financier/s from the developed world. So, it is immaterial whether the IMF stays or goes. For, the force behind its economic ideology is here to stay for a long time.

In addition to bilateral debt waiver of $1 billion plus, $300 million assistance is expected next year from the USA to help fight terror. President Bush would be asking Congress this year to fund the first $600 million (plus another $101 million) of a five-year $3 billion assistance initiative for Pakistan. President Bush sincerely believes that setting the markets free is a part of the many freedoms required by the third world people to avert terrorism.

That some of such economic freedoms either free the third world populations inequitably or reinforce the existing inequities due to iniquitous distribution from growth is little appreciated by those not initiated into the branch of economics that deals specifically with the underdevelopment issues of developing countries. As a part of expediency that rules the roost in the third world, such economic prescriptions are welcomed even if the underlying issues remain unresolved.

Surface improvements, therefore, provide reasons to have more of the same. During the first half of FY04, large scale manufacturing (LSM) registered a record 14.7 per cent growth even though it remains driven by growth in consumer goods' demand which is an extension of the previous year's trend emanating from cheap consumer credit availability.

If inflation begins to rise, monetary policy may begin to tighten thus increasing interest rates and choking off growth.

While many are taking heart at significant private sector credit growth to Rs 230 billion during the first 8.5 months of this fiscal year compared to Rs 78 billion during the same period last year, it is important to determine the extent of investment made in real estate or equities or speculative currency and gold trading from these borrowing.

While private domestic credit may have picked up, foreign direct investment (FDI) fell by 39 per cent during this fiscal year's first eight months compared to the same period last year.

Questions need to be asked why FDI is falling if domestic investment is increasing? The components of domestic investment need to be known. That is, the extent of fixed and financial investments and the extent of credit used for working capital financing instead.

Excess liquidity and low rates of interest may have fuelled LSM growth via the consumer financing route which together with better weather conditions and improved inputs' management in agriculture may have spurred overall economic growth. However, the increase in wheat, food, and gasoline prices may fuel inflation arresting some of the above spiral due to interest rates that might be increased to now rein in inflation.

Even if this undesirable outcome is averted, will this growth be pro-poor through redistribution if it merely tends to enhance capacity utilization rather than adding substantively to productive capacity.

So, no matter how pacifist we might appear through reduced share of defense expenditure and how economically liberalizing we may appear to be through reduced budget deficits that should crowd-in private fixed investment theoretically and directly, we will continue to be too far removed from the requirements of the first world's social and economic freedoms.

For, in taking the above "quick" route to freedoms, the underlying structural transformation is delayed and the power relationships remain unchanged that basically influence freedoms of all kinds of the people in the third world so ardently desired by our multilateral and bilateral donors/partners alike but with little or no appreciation of the third-world specific necessary and sufficient underlying conditions for the purpose.