By now almost everyone acknowledges that the consumption-driven growth model that Pakistan has come to rely on to achieve high growth rates is unsustainable. Most commentators also agree that Pakistan must shift towards exports as the key driver of growth.
This narrative has given significant room to the present Pakistan Tehreek-i-Insaf government to implement necessary stabilisation measures aimed at containing consumption while, at the same time, providing incentives to export industries.
However, these and similar policy proposals by most commentators (including me) seem to have given rise to a fallacy that implementing stabilisation policies alone to address macroeconomic imbalances will somehow give rise to high growth path that does not lead to the International Monetary Fund. This is incorrect.
Stabilisation policies — which include fiscal and monetary policies — remain what they are: they stabilise the economy around its underlying productivity growth rate. Another way to view it is that, every time the real gross domestic product grows by more than the underlying productivity growth rate, macroeconomic imbalances start to emerge, requiring policymakers to respond with stabilisation policies.
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Appreciating this alone can help policymakers reorient their focus away from macroeconomic stabilisation as the ultimate policy objective towards improving the productivity of the economy. The need for this shift cannot be overemphasised. As Paul Krugman — a Noble Laureate economist — puts it, “productivity isn’t everything, but in the long run it is almost everything.”
Appreciating the importance of improving productivity will help break through another related fallacy often pointed out by economists: that the government has its hands tied with reference to implementing growth-friendly policies when under an IMF programme.
A cursory look at data presents a depressing outlook demanding immediate policy response. Every time the growth rate exceeds 4 per cent for few years, macroeconomic imbalances start emerging. For example, between fiscal years 2014 and 2018, the real GDP grew at more than 4pc. However, the current account worsened from -1.49pc of the GDP to -6.14pc.
The growth episode during 2000s also presents a similar picture. While the economy grew at more than 5pc between FY04 and FY08, the current account deficit worsened from -0.8pc to -9.2pc of the GDP. Both these episodes culminated in large fiscal deficits primarily due to rising debt servicing costs and governments’ desire to delay undertaking necessary adjustments.
This leads to an obvious conclusion that any attempt to raise GDP growth rate beyond 4-5pc must come from increasing the productivity of the economy rather than from implementing expansionary fiscal and monetary policies.
The importance of shifting our focus towards improving productivity can be further appreciated by acknowledging the critical role it plays in a country’s export performance. In a 2002 paper published in the Journal of International Economics, researchers use data on Spanish manufacturing firms to show that it is essentially the more productive firms that are more likely to enter the export market.
In a 2005 paper published in the Review of World Economics, researchers at the Bocconi University and the Centre for European Economic Research found similar results for German manufacturing firms. A 2008 paper published in the American Economic Review shows the same for Taiwanese electronics producers.
The precise factors determining the productivity of an economy have been a subject of much debate that continues to remain unresolved. But what can be said with relative certainty is that productivity growth rate depends on how effectively a country’s economic resources can come together for production purposes.
To be sure, policymakers must not restrict their attention to the quality of resources alone. Instead, and as emphasised by Robert Solow (another Nobel Laureate economist), social norms and institutions can also be important enabling or limiting factors in a country’s pursuit towards improving its productivity.
Considering this, any policy that facilitates interaction between a country’s resources — land, labour and capital — or improves the quality of such resources will contribute towards raising the productivity of the economy.
In many cases, a plethora of archaic and poorly researched rules and regulations present key hurdle in coming together of economic resources. In other cases, the lack of adequate laws is what is hindering development of markets.
Similarly, addressing critical infrastructure and diplomatic bottlenecks with the aim to develop trade linkages with regional Central and South Asian economies can go a long way in improving the productive potential of the economy. Reforming technical and vocational training programmes is another area which has not received necessary attention.
Now that the government has already put in place most stabilisation measures, the focus must shift towards productivity-improving reforms. The economy is expected to start stabilising in a year’s time. However, all this means is growing at a meagre rate of around 4pc.
If the government does not initiate these reforms now, political considerations closer to election will once again force the government to rely on expansionary macroeconomic policies to fulfil pre-election promises. This will be a disaster or a repeat thereof.
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