KARACHI, Oct 29: The State Bank in its annual report has warned that the recent earthquake could widen the fiscal deficit up to 4 per cent of the Gross Domestic Product (GDP), but it sees reconstruction process in the affected areas as catalyst for accelerated economic activities.

The report said the cost of rebuilding of the earthquake areas could cost heavily to Pakistan. The SBP revised the fiscal deficit up to 4 per cent of the GDP from the original estimate of 3.8 per cent for 2005-06.

“It must be kept in mind that the fiscal space will be sorely tested in the aftermath of the recent earthquake that severely damaged the public infrastructure in the affected areas. As it is, development spending in the country, though rising, is still low,” says the report.

The massive destruction by the earthquake was still not calculated accurately as the government used to say that $5 to $10 billion would be required for the reconstruction and rehabilitation.

However, Pakistan got cold response from the world despite serious warning issued by the UN on daily basis.

“Now additional resources would be required to meet the challenge of building new towns over the ruins, providing healthcare for the injured, restoring the social and economic infrastructure, and providing seed capital for businesses,” said the SBP.

There are reports in the media that government was considering to divert a big chunk of funds towards the quake-hit areas by slashing the Public Sector Development Fund (PSDP)

“This is not an easy task and, moreover, is one that will have to be sustained over a number of years,” the central bank noted.

It also identified a number of problems along with this recent earthquake disaster.

“A closer look at some of the macroeconomic variables and each of the commodity-producing sectors also reveals niggling issues that need to be addressed expeditiously if the long-term growth trajectory is to be sustained,” said the report.

First and foremost, the persistently high domestic inflation, driven by demand pressures, supply-side issues and structural factors, is troubling; CPI inflation rose from 4.6 per cent in FY04 to peak at 9.3 per cent by end-June 2005.

“A significant additional tightening of monetary policy could run the risk of inducing recessionary pressures in the economy,” said the report.

Secondly, the strong growth in both agriculture and industry this year is narrowly based relative to preceding years -– much of the 7.5 per cent year-on-year increase in agri-output stems solely from the extraordinary improvement in major crops, and the industrial production increase remains heavily dependent on a few LSM sub-sectors such as textiles.

Third, in contrast to the preceding year, the FY05 growth is derived substantially from a sharp rise in real private consumption as much as continued robust growth in investment. It is important to note here that the rise in real private consumption is not necessarily a negative indicator for the economy –- consumer led demand has proven to be a potent engine of growth in many economies and, more importantly, investment growth also remained strong in FY05.

“However, the fact that a sharp drop in savings parallels the rise in consumption raises a note of disquiet; in FY05 savings have seen a decline, in nominal terms, for the first time in six years,” said the report.

Fourth, this decline in national savings is mirrored also in the reversal of the current account balance, from a FY04 surplus to a large FY05 deficit.

Fifth, another potential vulnerability lies in the country’s fiscal position. The report suggested that the tax reforms could not be succeeded to materialize the full potential of tax money.

“Weakening fiscal discipline, coupled with the risk of a slowdown in tax revenues (in case of any adverse shock) raises the spectre of a frittering away of the hard won fiscal space achieved in recent years,” added the SBP report.