KARACHI, March 1: Pakistan’s economy is facing three big challenges: rising inflation, widening trade gap and soaring budget deficit. During July-Jan 2005-06, inflation rose by 8.5 per cent against the full fiscal year target of 8 per cent.
During the same period, trade deficit grew by 127 per cent to $6.5 billion. Inflation: During July-Jan 2005-06, inflation rose by 8.5 per cent even though the State Bank pursued a tight monetary policy and the government improved food supplies. In six out of seven months of this fiscal year, headline inflation remained in the range of 8.3-9 per cent. Only in November 2005, it fell below eight per cent level to touch 7.9 per cent.
Even core inflation, (minus-food, minus fuel inflation), moved between 7.34 and 7.81 per cent during July-Jan 2005-06. Given the above data, it seems that inflation during this fiscal year would be not less than nine per cent.
Government borrowing: According to the latest data released by the State Bank, the federal government borrowed Rs160 billion from the central bank between July 1, 2005 and Feb 11, 2006. Such huge government borrowing direct from the central bank explains partly, why inflation is rising too fast.
Sugar Crisis: The sugar crisis, that hit the country hard in Jan-Feb this year, has set in motion a self-fulfilling prophecy cycle of inflationary expectations. The government has managed to mitigate the crisis and sugar prices have softened after touching an all time high of Rs44 per kg. But the inflationary expectations, kicked up by this crisis, would take time to fizzle out.
Food inflation: Food inflation that was 9.73 per cent in July 2005 kept falling since then and touched the lowest mark of 5.84 per cent in November 2005. But it again shot up to 8.1 per cent in December 2005 and 8.17 per cent in January 2006. So, in the presence of a high core inflation of seven per cent plus and food inflation of seven to eight per cent for most part of the fiscal year, one could hardly expect overall inflation to settle around the targeted level of eight per cent at the end of the year.
What lends credence to this proposition is that even non-food inflation has ranged between 8.47-9.61 per cent during the first seven months of the current fiscal year. Trade deficit: During July-January 2005-06, Pakistan’s imports swelled to $15.8 billion but its exports totalled $9.3 billion only. That created a trade gap of $6.5 billion.
Independent economists believe that the gap might widen to $10 billion at the end of the fiscal year with imports shooting up to $27 billion against exports of $17 billion. If that happens, then Pakistan would see its current account coming under pressure.
Current account: During July-Dec 2005, Pakistan posted a current account deficit of $2.9 billion. The number may rise to $6 billion at the end of the fiscal year because of the galloping trade deficit. Such a huge current account deficit is bound to bring down Pakistan’s foreign exchange reserves—and the reserves have already started falling steeply. Forex reserves: Between July 1, 2005 and Feb 18, 2006, foreign exchange reserves have recorded a huge fall of $1.254 billion. At end-June 2005, the reserves stood around $12.623 billion but on February 18, 2006 they fell to $11.369 billion. Health of rupee: The fall in the reserves may limit the SBP’s ability to support the rupee by selling dollars into the inter-bank market to finance oil imports. So far during this fiscal year, the rupee has remained almost stable. It has lost only half a per cent of its value against the dollar between July-Feb 2005-06 — thanks to the SBP dollar selling into the market.
But once the central bank limits its dollar selling, the rupee would fall. On Jan 21, 2006, the dollar crossed the psychological barrier of Rs60 after fifteen long months and the central bank did not intervene.
Budget deficit: Pakistan’s economy is not only hit by rising inflation and soaring trade deficit. The budget deficit of the country is also rising fast. According to the mid-year Review of Pakistan Economy, released by the Ministry of Finance the other day, the budget deficit reached Rs160 billion or 2.1 per cent of GDP during the first half of this fiscal year against the full year target of 3.8 per cent. This happened as total revenues of Rs498 billion fell short of total expenses of Rs658 billion. It is disturbing to note that out of the total expenses of Rs658 billion, Rs537 billion were consumed to finance current expenses and only Rs121 billion were spent on development.
What is even more disturbing is that out of the current expenditures of Rs537 billion, only Rs30 billion accounted for earthquake-related spending. So, current expenses of the government, minus earthquake-related spending, stood at Rs507 billion during the first half of this fiscal year.