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Evolving strategy for inclusive growth

July 30, 2012

THE Pakistan economy is in state of flux. But so is the theory of economic growth whose diligent pursuit would have helped to bring stability to a country buffeted from many sides.

There is a consensus among those who watch the Pakistani economy that were the present rate of economic growth of 3 -3.5 per cent to persist into the future, it would mean a great deal of political and social trouble. This not only Pakistan but also the rest of the world cannot afford.

For some years now Pakistan has been the epicenter of international terrorism perpetrated mostly by those who were marginalised by poor economic performance. The International Monetary Fund in its “Title IV consultations” carried out earlier in 2012 suggested that the economy must grow at about seven per cent a year to absorb two million workers who enter the labour force every year.

Past large increases in population mean that this level of increase in the work force will continue for several years. A seven per cent yearly expansion in the economy, therefore, will need to be sustained for many years into the future.

Not only that, economic expansion must occur in a way that ensures that its rewards become available to all segments of the population and all parts of the country. Economists call this approach ‘inclusive development’. How could this doubling in the rate of growth and its equitable distribution be achieved in a country such as Pakistan? To achieve these two goals, do those put in charge of planning for development need a new theory of growth?

This is not the first time that these questions have been asked – and answered – by the planners in Pakistan. Some decades ago, the task of economic planners was a relatively simple one. As Mahbub ul Haq, explained in his book, The Strategy of Economic Planning, he and his colleagues at the Planning Commission were confronted with a choice. As they drafted the Second Five Year Plan (1960-65) they had to choose between growth and distribution. They chose the former, leaving the second to what came to be called the ‘trickle-down effect’.

There was a belief that once growth came, its benefit would trickle down to those who were less advantaged than the owners of capital. That rewards of growth would first go to those who owned capital proved to be the correct prediction. The owners of labour – then thought to be the only other factor of production – would be rewarded later when as wages increased in the modern sectors of the economy. It didn’t work out that way as Haq himself admitted three years after the completion of the Second Five Year Plan period.

In his famous 22-family speech, he was unhappy that a significant proportion of the increase in incomes as a result of the Second Five Year Plan was captured by just 22 industrial, commercial and financial houses. That conclusion was based on a narrow sample of the entities engaged in the country’s modern economy

It was wrongly extrapolated to cover the entire economic system. But the speech convulsed Pakistan’s political and economic systems. It contributed to the rise of the Pakistan Peoples’ Party and to the phenomenon of Bhuttoism – an expansionary state that was to be put to use to benefit the common citizen.

Once in power, Prime Minister Zulfikar Ali Bhutto increased the presence of the state in the economy. This was done by putting government bureaucracy in charge of the dozens of large industrial, commercial and financial enterprises that were expropriated from the private sector.

In what it calls the “Framework for Economic Growth”, FEG, the Planning Commission came up with what amounts to a new theory of development for Pakistan. It suggests that the country needs to move from ‘hard’ to ‘soft’ growth. By hard is meant large public sector investments in brick and mortar development — building roads, bridges and dams and, yes, building buildings. What is needed are a combination of efforts that will improve the quality of governance, less interference by the government in the working of the private sector, encouraging greater innovation within the economy, and greater focus on the activities that would produce higher rates of growth with low rates of development.

Implicit in this strategy is the recognition that it will take a long time to increase the rate of investment, in particular by the public sector. To have that happen will require some fundamental changes in the tax system, something for which there is no or little political appetite. Nonetheless, the economy could be made to perform better by improving its efficiency.

The FEG, of course, is anchored in capitalism, a view of the economic world that has come to be increasingly questioned by both academics and policy analysts. It had its heyday in the 1990s when the Washington Consensus was adopted by development and financial institutions such as the World Bank and the IMF as their preferred philosophy.

These two institutions then had enormous influence over the developing world. With the withdrawal of private finance from some of the more developed countries in Asia and Latin America, the Bank and the Fund were the only sources of capital available to a number of countries in extreme financial stress.

The policies that were forced upon these countries pushed the state out of the economy, leaving the vacated space to private enterprise. The result was economic recovery that came at the expense of increased inequality.

Can Pakistan afford an FEG type of approach to address the slowdown in growth while ensuring that if the economy does pick up its distributive impact will be positive? The answer is no since the current political order is skewed in favor of the well-to-do and if a strategy that is so focused on giving even more space to private initiative is imposed on it, the result will be very destabilising.