Until late 1980s, the Japanese saved nearly half their incomes, a level that, in spite of falling since, is still the highest. It proves that saving is the key to success because it insulates nations against vulnerabilities caused by borrowing – vulnerabilities that Pakistan faces due to its over-reliance on borrowing.
Indeed, Pakistan doesn’t resemble the war-ravaged Japan but, given the changes in global politics and the economic fallout there from, the fiscal, trade and current account deficits that we have accumulated, can cause disabilities that, in many ways, could resemble those of Japan in 1945.
Reducing consumption was never as important as it is today, because that’s the only tool to contain the 1970s-style inflation now threatening the globe. In our case it is spurred by import of many goods, which offer marginal economic benefits that can be sacrificed without drastically altering our life-styles.
Unless consumption drops, there is no compulsion for traders and manufacturers to lower prices (and contain inflation). Cutting consumption down to essentials to end up saving more, is now imperative. In this effort every citizen has to play a role. Unfortunately, some of us are still not ready to partake in this effort e.g. traders who refuse to close shops early to cut consumption of scarce electricity.
In the past five years, growth in household consumption reflected an alarming trend. In 2002-03 it rose only by 3.7 per cent but in 2004-05 the growth exceeded a whooping 19.5 percent. In 2006-07, it slowed to 13.9 per cent but is still very high considering Pakistan’s current economic predicament. Worse still, a significant part thereof is accounted for by imports.
Owing to high consumption, growth in household savings remained topsy-turvy fluctuating between plus 24.78 per cent in 2004-05 to minus 10.4 per cent in 2005-06. Fortunately, since then it has been positive, and with profit rates on savings on the rise since early 2007, in FY06-07 household saving growth was 23 per cent after staying below 15 per cent in the intervening years.
The questionable drop in official estimates of inflation facilitated lowering of returns on savings by both government and the financial institutions that made saving appear a futile exercise, although, in reality inflation never dropped to 3.5 per cent. The damaging impact of this covering up this fact was that real returns on deposits became negative prompting a rise in consumption, not savings, as highlighted earlier.
According to SBP, during FY06-07 CPI was 7.8 per cent, and during the last 12 months it averaged 15 per cent. Also, that banks’ weighted average profit rate on deposits in FY06-07 was 3.98 percent per annum. That’s why by June 2007 the number of deposit accounts fell by 3.75 million over their June 2003 figure of 28.83 million. However, the recent hike in reserve requirements has revived the tempo for deposit mobilisation.
But the question is, with prices (i.e. inflation) bound to rise after withdrawal of subsidies, will the ordinary Pakistani be left with much to save? How do then we go about increasing savings, cutting consumption, and as a result thereof imports that we now find hard to pay for? The one logical answer is reducing the negative gap between CPI and profit rates on savings. Only that can cut consumption and spur savings.
While banks are taking their time, the government has taken the first step by upping profit rates on the NSS. What it needs to add to this incentive is a tax relief to savers placing deposits in banks or investing in a government savings scheme. Ideally, income from savings for an uninterrupted period of three years or more should be exempted from tax. A combination of higher profit and tax relief could boost the sentiment for saving.
To restrict the tax benefit to the lower income groups, government could limit the size of eligible savings to, say, Rs3 million and lay down strict procedure for recording of such deposits in banks. It is also the time the prize bonds scheme was revamped fully to make it more attractive for the low-income groups to invest a part of their savings and try their luck. Besides, this is the lowest-cost borrowing source for the government.
Banks haven’t looked at offering an overdraft line as a part of their deposit products offered to those placing funds for a year or longer, to assure depositors about availability of temporary liquidity. Based on current reserves requirements, up to 80 percent of the deposit amount could be a safe limit, though most depositors would seek much smaller lines. Until banks are permitted to offer fixed tenor Certificates of Deposit, that’s the way to retain bulk of the deposits.
Investing in equities is a dangerous proposition for the ordinary saver; many suffered at the hands of the few who dominate the stock exchanges. Mutual funds are a safer vehicle but the coming economic crunch doesn’t hold out a promise of high returns. Besides, what matters more is investment that creates new enterprises and generates fresh employment. The number of new companies incorporated and fresh equity injection in the last decade shows that capital markets didn’t do enough in this context.
Yet, Pakistan badly needs to expand its industrial base. As per SBP Annual Reports, in FY03-04 private savings funded 87.8 per cent of fresh fixed investment. By FY06-07, this share fell below 75 per cent indicating a consistent drop in domestic savings to finance fixed investment. It is therefore important that fresh incentives are devised for the corporate sector as well to invest rather than drain out its profits.
The proposition should be discussed with the stakeholders to devise a concessionary mechanism applicable to verifiable deployment of profits in expanding production capacity, and creation of more jobs. This offers another definite advantage; foreign companies could opt to invest rather than remit profits abroad placing Pakistan’s foreign exchange reserves under pressure that we simply can’t afford.