May 18, 2006	Thursday	Rabi-us-Sani 19, 1427

KARACHI, May 17: Imports are likely to reach $28bn in FY06 (more than 22pc of the projected GDP) and export receipts not keeping pace, economists expect the current account deficit to widen to nearly $6bn (equivalent to 4.8pc of the GDP), its highest-ever reading in absolute terms.

“Exacerbating the problem is the fact that import demand is heavily skewed towards domestic consumption”, notes an eminent economist based in Islamabad in his country report issued this week. Consumer goods (in finished form as well as raw materials) account for 37pc of total imports after excluding oil and food, while only 16pc of capital goods imports over the past two years are meant directly for the export sector.

The composition of domestic demand has been skewed heavily towards private consumption spending as is represented by an upsurge in the import of consumer goods. According to SBP figures, finished consumer goods worth $2.06bn were imported during FY05, with the share in total imports amounting to 10pc. Adjusted for consumer goods wrongly categorised as ‘capital goods’ (approximately 6pc of total imports, according to SBP), the import of finished consumer goods amounted to $3.34bn, or more than 16pc of total imports.

In fact, the import value of consumer goods in both finished form as well as raw materials (for local processing) was $11.4bn in FY05, or 56pc of total imports.

Since nearly $1.3bn of consumer goods was wrongly categorised as ‘capital goods’, the actual import of consumer goods amounted to more than $12.7bn. At this level, the share of total consumer goods in overall imports was around 62pc. The import value of consumer goods (ex-oil and food) amounted to $7.6bn -– or 37pc of total import payments for the year.

While the ex-oil and food category of consumer goods includes raw materials for the pharmaceutical industry and certain other essential items, a large fraction is accounted for by goods such as cars for personal use, mobile phone handsets and other consumer durables. Included also is a wide range of imported goods such as Cuban cigars, caviar, food and beverages, ice cream, designer accessories, etc. (consumer non-durables) that upmarket outlets are increasingly well-stocked with.

According to the SBP Report while all major components of the external current account, barring transfers, are contributing to the rising deficit, the largest source of the imbalance continues to be the trade account. With exports expected to rise nearly 20pc year-on-year, to around $17.5bn, and imports projected to grow almost 35pc to around $28bn, the trade deficit in FY06 is projected to hit an all-time high of approximately $10.5bn (8.5pc of GDP). At this level, the trade balance accounts for 175pc of the overall current account deficit (with a large surplus in current transfers redeeming the overall balance).

In the previous two years, Pakistan posted trade deficits of $1.3bn (1.3pc of GDP) and $4.5bn (4.1pc of GDP), respectively. The trade imbalance is driven by sharply higher imports, which in turn is a function of several developments during the past two years. First, economic growth has been robust, propelled entirely by domestic demand. Within domestic demand, the overwhelming contribution has come from private consumption expenditure. In nominal terms, private consumption expenditure increased 29pc year-on-year in FY05, rising to a full 80pc of GDP from 73pc in FY04. The contribution from private consumption spending to overall real GDP growth in FY05 was overwhelming, with 153pc of the growth achieved in FY05 attributable to this factor.

At one level, the sharp increase in private consumption spending over the past couple of years and the concomitant steep decline in savings is a function of high inflation, negative real interest rates and an overvalued exchange rate prevalent since FY04, all of which encourage current consumption.

With the share of the export sector in overall machinery imports restricted primarily to textiles (16pc of total machinery imports in FY05) and to a marginal extent to the cement sector (assuming a portion of new capacity is used to cater to Afghanistan’s needs), the bulk of capital goods imports is meant for use in the domestic economy.

Economists recall the example of China and India that have only recently allowed unbridled ‘consumerism’ to take hold, after well over a decade of robust economic growth in which the emphasis was upon promoting investment as opposed to consumer spending. Economists suggest that Pakistan should do the same.