ISLAMABAD: The World Bank has warned that macroeconomic risks in Pakistan have increased substantially during the fiscal year 2017, as the external balance is particularly vulnerable given the persistent current account deficit, affecting the country’s reserve position.

Pakistan’s weaker macroeconomic discipline has led to vulnerabilities in the balance of payments. Since the IMF programme came to an end, external indicators of the economy have deteriorated, says ‘The South Asia Economic Focus Fall 2017’ released on Sunday ahead of the World Bank and IMF annual meetings.

One year ago, Pakistan was in a comfortable position, as international reserves were large enough to cover the current account deficit, the service of external debt and even the total volume of portfolio investments in the country. By now international reserves still cover the first two items, but not the third one. Addressing the sources of this increased vulnerability should be a priority, suggests the report.

In Pakistan, macroeconomic discipline arguably weakened after the IMF programme came to an end. In recent years, there had been clear progress in restoring macroeconomic stability and laying some of the foundations for higher growth.

Report says weaker discipline leads to vulnerabilities in balance of payments

Pakistan also regained emerging market status in the MSCI index and made progress on the China-Pakistan Economic Corridor (CPEC); two developments that reinforced general optimism. However, macroeconomic discipline has deteriorated in recent months.

The report says that improving the external balance hinges upon a revival in exports, a slowdown in imports, and stable remittance flows. In the absence of any of these factors, the persistent current account deficit will put further pressure on already dwindling reserves.

The fiscal position is also expected to deteriorate during the election cycle, which would affect debt trends and maintain debt at the current high level, cautions the report titled “Growth out of the Blue”.

The report says that the ouster of former prime minister Nawaz Sharif has enhanced political risks and created some policy uncertainty. The upcoming national election in 2018 may affect the reform momentum and macroeconomic policy. Slower progress in much-needed structural reforms would weaken growth prospects and discourage private investment.

The outlook until fiscal year 2019 is for moderately higher growth, and this outlook is contingent upon continued macro-economic and political stability, as well as steady progress in implementing the main pillars of the government’s medium-term reform programme, which tackles key constraints to growth. The outlook assumes that oil prices will increase moderately but remain low.

On the supply side, impetus to growth is projected to come from the services and the industrial sectors, while on the demand side, acceleration would be driven by public and private consumption, aided by a moderate increase in investment.

The pressure on the current account is expected to persist as the trade deficit will remain elevated during 2018 and 2019. This situation can potentially become unsustainable in absence of corrective policy measures. However, exports are expected to recover during fiscal years 2018 and 2019 due to an easing of supply side factors.

Imports, after strong growth of 17.7 per cent in fiscal year 2017, are expected to grow at a slower pace in fiscal years 2018 and 2019. Remittances will continue to partly finance the current account deficit.

It is also expected that FDI flows will strengthen due to accelerated implementation of CPEC projects. However, capital and financial flows during fiscal years 2018 and 2019 will only partly finance the current account deficit, which will result in a drawdown of reserves during these two years.

The report says that fiscal slippages are expected to continue through the election cycle, which will result in a widening of the fiscal deficit during fiscal year 2018. This increase in the fiscal deficit is primarily driven by a slower increase in tax revenues, both federal and provincial, and a sharper increase in expenditures.

An adjustment in the fiscal position in fiscal year 2019 after the election will help in curtailing the fiscal deficit. Inflation, after remaining moderate during fiscal year 2017, is expected to rise in 2018 and 2019. Inflation is expected to rise due to higher domestic demand pressures and a slight increase in international oil prices.

Published in Dawn, October 9th, 2017

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