Pakistan & the US

July 13, 2012

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IN a little over two years, US relations with Pakistan have moved from a high point of ‘strategic dialogue’ to a trough of ‘strategic near-divorce’.

Despite the long history of an episodic and turbulent partnership, it is difficult to imagine that these Cold War and ‘war on terror’ allies have traversed such rough and barren terrain in their relationship before.

In this context, Pakistan’s decision to reopen the ground supply lines for Nato forces in Afghanistan has been met with a huge sigh of relief — tinged with a degree of celebratory ‘we have been saved’ hyperbole — in some quarters, and a firebrand reaction from the right. It will be useful to explore the economic significance if any of the reopening of Nato’s supply lines. More importantly, in a wider context, how relevant is US assistance to Pakistan’s economy?

As a result of the agreement on reopening Nato’s ground routes, it has been reported that Pakistan will receive around $1.2bn of unpaid arrears pertaining to the Coalition Support Funds (CSF). This money is reimbursement for costs already incurred by Pakistan in military operations in the northwest in support of Nato/Isaf’s Afghanistan campaign, and not assistance.

Nonetheless, it represents a not insignificant potential reduction of the fiscal deficit (by 0.5 per cent of GDP) and the need to borrow by government. More importantly, it has the potential to calm the financial markets that are nervous about depleting forex reserves in the context of large debt repayments due this fiscal year.

However, beyond this the CSF inflow will have a limited effect. To put this money into context, $1.2bn is roughly the equivalent of 0.5 per cent of GDP, 2.5 per cent of Pakistan’s annual foreign exchange earnings and 2.7 per cent of projected imports this year. More importantly, for the benefit of friends who celebrate the arrival of each $1bn of foreign taxpayer money as if it was ‘manna from heaven’, this inflow (or the elusive Kerry-Lugar money for that matter) is the equivalent of a miniscule 2.9 per cent of potential tax revenue that Pakistan can collect — but chooses not to.

In terms of overall US assistance, Pakistan has been a recipient of substantial inflows from the US in fits and starts over the years, with the bulk being in the realm of military aid. In terms of US economic assistance to Pakistan, the defining features since inception appear to have been:

— It has not been enduring, but spasmodic;

— The US has invariably followed a short-sighted, ‘transactional’ approach in its relationship with Pakistan, and continues to do so despite a strong case having been made at the start of the Pakistan-US strategic dialogue for a ‘transformational’ relationship;

— Assistance has peaked in non-democratic set-ups;

— US aid has generally been pro-cyclical, reinforcing upturns in the economy, rather than supporting Pakistan’s economy in a downturn (as currently). As a result, the impact has not been ‘visible’.

— US programmes are mired in bureaucracy, with large ‘lags’ and high transactional costs (to be fair, the latter is pretty much the case with all aid programmes across the board);

— Spending has, until now, either ignored areas deemed high-impact by the Pakistan side (agriculture, water, market access, for example) or, has been spread too thin over a large number of projects. As a result, the impact has been diffused, denying the US visibility for the taxpayer dollars it has spent in Pakistan.

The most potent form of economic assistance the US can provide to Pakistan, one with the greatest externality, is allowing preferential market access to the country’s textile and clothing (T&C) exports. If focused on the right products, such as garments (labour-intensive and value-added), the US intervention has the potential to create hundreds of thousands of additional direct and indirect jobs, carving a powerful urban, educated (and possibly currently unemployed) constituency comprising the country’s youth.

This will also be the ‘lowest cost’ in terms of US taxpayer dollars, since the additional exports from Pakistan will most likely displace existing imports into the US from some other producer.

Strangely, this is proving to be the second hardest legislation to bring to Congress after domestic gun control. Pursued actively by Pakistan since 2004, this request has routinely met the same response: Congress will not sacrifice the interest of its states with a large textiles constituency. Since then, however, Congress has allowed duty-free access for textiles and clothing to large regional blocs in Central America, the Andean states, and a number of African countries.

In addition, it has signed a number of free trade agreements with countries in close proximity to Pakistan (such as Oman) which is hurting Pakistan’s exports. On top of this, China and other large T&C producers have already made substantial inroads in the US market in the wake of the phasing out of the Multi-Fibre Agreement, making the protectionist argument redundant in any case.

Instead, Pakistan has been offered a bizarre piece of legislation — the Reconstruction Opportunity Zones (ROZs) initiative — which potentially provides for duty-free access for a limited number of small ticket lines that Pakistani exporters generally shun, with the additional proviso that the factories are located in conflict-affected areas such as Fata.

Moving beyond the ineffectiveness of US economic assistance, it is imperative to change the false narrative that Pakistan is a hapless, fragile economy that will collapse without foreign assistance. That job will get done by our failure to mobilise our own substantial domestic resources. This narrative emanates from ruling elites that benefit most from the status quo — a reliance on foreign inflows, without taxing themselves.

While it is true that Pakistan currently has a high degree of dependence on foreign savings, this can be mitigated to a large extent by correct policies. Pakistan is a richly endowed country, but like most of its other resources, the country is not utilising its vast financial resources. This is as good a time as any for Pakistan to wean itself from the aid dependency syndrome that has been cultivated.

The writer is a former economic adviser to government, and currently heads a macroeconomic consultancy based in Islamabad.