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Declining forex reserves: Closing the trade gap the only answer

There is a growing gap between exports and imports, putting an unbearable pressure on the balance of payments. Of the myriad challenges facing the national economy, the most formidable is its vulnerable external position. The widening trade gap, steadily falling financial inflows and debt repayments have led to a marked drawdown of the forex reserves. According to the data released by the State Bank of Pakistan, in the first week of this month, the gross reserves held by the central bank slipped below $4 billion, underlining the need for urgent remedial measures. In its recent report “South Asia Economic Focus, the World Bank has drawn attention to this factor and pointed out that falling reserves constitute the most pressing short-term economic problem for Pakistan and it must be addressed on an emergency basis.

The situation is illustrated by the fact that in terms of import coverage, reserves declined from about 2.7 months in June 2012 to 1.5 months by June 2013 (1.2 months in September 2013). According to the World Bank, although the current account deficit has remained small due to a marginal improvement in export growth, deceleration in imports associated with the economic slowdown and inflows of workers’ remittance, the long-term risks to the economy remain.

As we all know, Pakistan’s unsustainable fiscal imbalance lies at the root of the current crisis. The consolidated fiscal deficit exceeded by a sizeable margin the budgeted target, to return to 8 percent of GDP in 2012-13. Significant shortfalls in revenue and a sharp overrun in energy subsidies worsened the already-large fiscal deficit. Moreover, restricted external financing, domestic bank borrowing and direct financing from the State Bank of Pakistan rose, reducing the availability of private-sector credit. The World Bank report warns that Pakistan ‘will not be able to recover without major structural reforms, especially in tax administration and the energy sector’.  But, despite persistent efforts by FBR, tax revenue has not risen. In fact,  the tax ratio fell to 9.6 percent of GDP in 2012-13. On the energy front, the government faces the painful and most unpopular task of revising the electricity tariff.

In the given circumstances, the overall growth prospects remain uncertain. The World Bank report states that a cautious estimate would put GDP growth for 2013-14 at the same level as last year. The bank’s estimate is one percentage point higher than the projection made by the International Monetary Fund which is pressing Pakistan to reverse its easy fiscal and monetary policies and economists believe this change will shave one to two percentage points off growth this year. By contrast, the Asian Development Bank has forecast that the pace of growth in Pakistan will slow down to 3 percent.

However, despite all the setbacks, some sectors are still doing well, such as agriculture and large-scale manufacturing. It is expected that fiscal consolidation may enhance general investor perceptions about the economy and government performance. Needless to say, if reforms are adopted and implemented promptly, this would also contribute to keeping inflation low, thereby improving the investment climate. This will help manufacturing and boost exports. It is export growth alone which in the long run can address the issue of external vulnerability.

Features and Analyses 2013-11-02
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