FUNDING large budget deficits in pure rupee terms is a relatively easier proposition. Lenders can be repaid by printing money. What it would do to the buying power of these rupees would be another matter, but the liability of the government would be discharged. Unfortunately, such an option cannot obviously be exercised for borrowings in other currencies and this, as has been argued in these columns, has been our eternal fault line, especially since a significant proportion of the budget deficit spills over into a deficit on the external account.

Our import bill of goods and services outstretches our export earnings by a wide margin, a gap which has historically been narrowed by remittances of overseas Pakistanis and inflows from external benefactors — factors over which we have no control.

Our remittances as a percentage of our national income are amongst the highest in the world. But although these remittances are not really the earnings of the economy they are being reflected as current earnings that camouflage the real issue, the lack of competitiveness of both exports and goods produced for domestic consumption.

Donor assistance, CSF money, foreign portfolio investment in the stock exchanges and some privatisation receipts (against which there will eventually be outflows in the form of encashment with gains, dividends, etc), and, more recently, high interest bearing short-term borrowings in the shape of Euro and Sukuk bonds servicing which will take some doing has enabled an accumulation of foreign exchange reserves.

The external balance is deteriorating steadily with short-term debt rising fast.

The inflows from remittances, external assistance and the above mentioned to bonds have not only shored up the value of the rupee but have also financed consumption more than they have financed investment, with an unadjusted rupee contributing to a higher cost of production, making imports cheaper and exports less competitive internationally, leading to a wider trade deficit. There are no examples in the world of accelerated economic growth based largely on foreign capital.

A cursory reading of newspaper reports that the potential saving of more than $5 billion will come from the dramatic fall in the price of oil and other commodities may induce a sense of complacency about the economy being better positioned to bear the pressures on the external account. Logically, we should be smiling for this manna from heaven, partly because it also provides us a window of opportunity to make some long-overdue adjustments (eg, those relating to energy and other subsidies) which were politically difficult to implement just a few weeks ago.

Other than fears — owing to our unenviable record on governance and economic management — that we are likely to squander this gift, certain developments are worrisome. The external balance is deteriorating steadily with short-term debt rising fast and external vulnerability amplifying.

Despite the declining oil bill not only have our overall outflows on imports risen, our exports are losing ground. The latter, as is well known, have suffered because of energy shortages, global economic slowdown, the principal buyer of our yarn (China) no longer having a heavy market presence, our rate of inflation being higher than that of our trading partners, the overvalued rupee, exporters not getting timely GST refunds, etc.

These factors have had a debilitating impact on our exports as well as contributed to a rising import bill. In the first six months, exports have declined by 2pc over last year despite our GSP Plus status and a 4.2pc increase in imports. There is official mention of the blip in exports in December over November but these explanations, while conveniently not mentioning the increase in imports at a higher rate as well, appear casual about the turmoil in our core markets, Europe and the UK, which account for more than one-third of our exports.

The euro and the pound have depreciated by 12.4pc and 8pc respectively in just the last three months against the rupee, despite our rate of inflation being four times theirs. Exporters will thus find their margins further squeezed (affecting their competitiveness) since they won’t get a price increase for their products. Then there is the American yarn-spinning industry in revival mode, making the international environment more competitive.

Moreover, external capital flows are becoming volatile while the poor country image is making it more difficult to access such funds at affordable rates. And with doubts about the continuing robustness of remittances from sluggish Europe and US and the Middle East (following the rapid decline in oil prices) growth in exports are critical for financing the country’s rising import bill.

Obstacles to a substantial and sustainable enhancement in exports are:

the worsening of our international competitiveness over time — our ranking has dropped dramatically from 83 in 2007 to 133 — because of poor quality investment projects and corruption-related ‘leakages’;

disproportionate geographic and product (low-tech and of sunset and low growth industries) concentration of exports and our inability to design adequate policies and tools for improving country competitiveness.

The vulnerability of our balance of payments is policy-induced and structural in character, requiring financing from the rest of the world. Historically, these inflows owe largely to a host of fortuitous global events like the Cold War, the Afghan war, 9/11, the ‘war on terror’, etc. that worked to our advantage.

Official efforts have tended to focus merely on financing this deficit rather than on reducing its size because of the political compulsions to address immediate or short-term crises. But these flows have only provided ‘temporary’ relief, whereas the narrowing of the deficit on a sustainable basis requires a combination of policy decisions and structural reforms that can only be implemented in the medium term.

For such an outcome a shift in the current policy bias away from import substitution to exports has become imperative. This would mean a realistic exchange rate, improvement in productivity though better access to technology, being part of the global intra-industry value chains and by focusing on markets of dynamic young consumers in the east. Addressing these structural issues will be tough and take time.

The writer is a former governor of the State Bank of Pakistan.

Published in Dawn, February 3rd, 2015

On a mobile phone? Get the Dawn Mobile App: Apple Store | Google Play