Thursday, May 20, 2010

Is Pakistan's Economic Recovery PPP's Illusion?

Guest Post by Dr. Ashfaque H. Khan, Dean of NUST Business School, Islamabad.

Pakistan's economy has grown at an average annual rate of 5.0 per cent over the last 62 years despite numerous impediments to its growth. By any standard, this has been a major achievement in terms of raising real incomes and alleviating poverty. The economic growth, however, remained uneven and interrupted by a variety of factors for a prolonged period. It was during 2000-07 that Pakistan's economy experienced the longest spell of strongest growth due to sound economic policies, structural reforms and a benign international economic environment.

Economic growth has slowed considerably in Pakistan over the last two to three years owing to a variety of domestic and external factors. What is worrisome is the new development where the growth number is being manipulated to paint a rosy picture. There was a story about the manipulation of growth number for 2009-10 in The News on May 16, 2010. The usual methodology to post a higher economic growth for the current year is to reduce the growth of the previous year. In other words, reduce the base to get a higher growth for the current year.

The growth number for 2007-08 was provisionally reported to be 5.8 per cent. The year 2008-09 was the most difficult year for the world economy as global financial meltdown triggered a full-fledged economic crisis. Strong economies like Hong Kong, Malaysia, Singapore, Taiwan and Thailand witnessed negative growth. Pakistan, on the other hand, posted a positive growth of 2.0 per cent and outshined the strongest economies of the region in 2008-09.

How was this positive 2.0 per cent growth achieved? The 5.8 per cent provisional growth of 2007-08 was drastically revised downward to 4.1 per cent and as such the base was reduced to arrive at a higher number of 2.0 per cent for 2008-09. Some methodology for the calculation of value-added for some sectors was also changed without bringing to the notice of the National Accounts Committee.

The same process has been repeated according to the newspaper story for the year 2009-10. The Federal Bureau of Statistics (FBS) – the institution responsible for compiling the country's national income accounts, has revised the last year's (2008-09) growth of 2.0 per cent to 1.1 per cent and that too, by further trimming the growth of 2007-08 from 4.1 per cent to 3.7 per cent. Since the base of 2008-09 was trimmed to 1.1 per cent, the growth for the current fiscal year (2009-10) has risen to 4.1 per cent.

Not only the growth of last year was reduced but also growth of some components of the GDP was outlandishly jacked up in 2009-10. As reported in the news item, the growth of the construction sector was pushed up to an unbelievable level of 15 per cent. Only a lunatic would expect the construction sector to grow by 15 per cent in 2009-10 when the public sector development programme of the federal government has been slashed to one-half and the private sector construction activities are at near standstill. The production of cement adjusted for exports and that of iron and steel has been used as a proxy for calculating growth in value-added in construction.

The interesting paradox here is that while cement production unadjusted for exports, grew by 11.2 per cent and iron and steel registered a high negative double digit growth, the construction industry seems to have thrived and grew by 15 per cent. This is simply unbelievable. Furthermore, the growth of the livestock sector, which accounts for over 11 per cent of the GDP, has been jacked up as well according to the news item.

Though the FBS' staffers are technically weak, they are surely honest. My appeal to them is to do their job professionally as they have been doing in the past. The revision in growth numbers is common in every part of the world but unfortunately the extent of revision has grown significantly in Pakistan over the last few years. The provisional growth of 5.8 per cent in 2007-08 has been revised downward to 4.1 per cent and further to 3.7 per cent – a downward revision of 2.0 percentage points is simply unacceptable and has perhaps never happened before.

Should anyone accept that the economy has grown by 4.1 per cent in 2009-10 in the midst of deteriorating security environment, crippling impact of power shortages and mismanagement, persisting double-digit inflation and a higher interest rate environment? If the growth is really 4.1 per cent in 2009-10 – up from 1.1 per cent in the previous year, then the government and its economic managers will have to answer the following questions. Should we believe that the spate of suicide bombing and heightened political tension have had no impact on economic growth? Should we believe that the long hours of power outages have had no adverse impact on the economy? Should we also believe that the higher double-digit inflation and the higher interest rate environment have had no adverse effect on the economy? Should we re-write our own economic theory?

Economic theory armed with extensive empirical evidence suggests that the declining rate of investment, high inflation and interest rate, large fiscal deficit, armed conflicts, wars, political instability, corruption, absence of rule of law, high poverty rates, rising debt burden, and weak infrastructure will have negative effects on economic growth. How come economic growth accelerated from 1.1 per cent in 2008-09 to 4.1 per cent in 2009-10 in the midst of all the above-listed factors? Economic managers will have to answer these questions.

Related Links:

Pakistan's Economic Performance 2008-2010

Incompetence Worse Than Corruption in Pakistan

Pakistan's Circular Debt and Load Shedding

US Fears Aid Will Feed Graft in Pakistan

Pakistan Swallows IMF's Bitter Medicine

Shaukat Aziz's Economic Legacy

Pakistan's Energy Crisis

Karachi Tops Mumbai in Stock Performance

India Pakistan Contrasted 2010

Pakistan's Foreign Visitors Pleasantly Surprised

After Partition: India, Pakistan and Bangladesh

The "Poor" Neighbor by William Dalrymple

Pakistan's Modern Infrastructure

Video: Who Says Pakistan Is a Failed State?

India Worse Than Pakistan, Bangladesh on Nutrition

UNDP Reports Pakistan Poverty Declined to 17 Percent

Pakistan's Choice: Talibanization or Globalization

Pakistan's Financial Services Sector

Pakistan's Decade 1999-2009

South Asia Slipping in Human Development

Asia Gains in Top Asian Universities

BSE-Key Statistics

Pakistan's Multi-Billion Dollar IT Industry

India-Pakistan Military Comparison

Food, Clothing and Shelter in India and Pakistan

Pakistan Energy Crisis

IMF-Pakistan Memorandum of Economic and Financial Policies


Anonymous said...

In the current scenario the government of Pakistan is probably trying to avoid mass panic.Massaging the figures is actually a good(in unethical) way to avoid that.Even the west is using euphemisms like'quantitative easing' etc to hide the fact that the personal debt problem has now become an even bigger national debt problem and with a greying population and underfunded pension schemes we are looking at economic disaster in 5 years.
Because economics is an inexact science unlike physics where objects move regardless of what u think.In economics public sentiment is crucial to growth.If the public thinks all hell will break loose and refuses to spend or convert money to gold/metals etc the economy will stall and then crash.

So you need to calm the public by saying that things are improving etc.

Riaz Haq said...

Here's a Dawn report on Pakistan risking IMF support by failing to raise taxes:

KARACHI: A delay in implementing a new sales tax in Pakistan after October may disrupt the delivery of vital assistance from the International Monetary Fund (IMF), finance officials and analysts said on Wednesday.

Pakistan was due to implement a value-added tax (VAT) or a reformed general sales tax of 15 per cent by July 1, but the 2010/2011 budget deferred imposition of the tax until Oct. 1 because of a failure to reach consensus among provinces.

Analysts said a delay in the latest billion-dollar tranche of funds from the IMF might cause a ripple effect on aid from other other multilateral agencies and donors.

“Failure to introduce the VAT would almost certainly jeopardise Pakistan's access to the remaining $4 billion under the IMF stand-by loan and $300 million under the World Bank,” Maria Kuusisto, Asia analyst at the London-based political risk research firm Eurasia Group, wrote in a note.

It could also keep Pakistan from extending the IMF loan beyond December 2010, she wrote.

Failure to impose the tax would be “serious business”, a Pakistani economist familiar with the situation said.

“No money will come from the World Bank or the Asian Development Bank either, and Pakistan will have a serious financing problem for their budget deficit,” he told Reuters.

The IMF and Pakistan are having talks and the programme is not in danger, said Asif Bajwa, special secretary at the Ministry of Finance. But the IMF itself is concerned.

“The delay in introducing the VAT could delay disbursements under the IMF program. We hope the VAT can be introduced soon so the IMF can move ahead with program reviews and disbursements,” IMF country representative Paul Ross told Reuters via email.

The IMF is due to meet in August to review Pakistan's progress against targets for the end of June before approving the next tranche, likely to be $1.1 billion to $1.2 billion.

On the brink of default, Pakistan turned to the IMF in November 2008 for a $10.66 billion loan package to help put its economy back on track. It received the fifth tranche of $1.13 billion last month.

In an effort to meet IMF conditions, the 2010/11 budget raised taxes on sectors like capital gains, increased a sales tax and slashed some food and energy subsidies. Pakistan's tax-to-GDP ratio of around 9.5 per cent is one of the world's lowest.

Cutting the deficit, targeted at 4 per cent of GDP for fiscal year 2010/11, is key but poses a serious inflation risk and could hurt the economy just as it tentatively recovers from its lowest growth rate in decades. Last year's deficit was 5.1 per cent.

“The tax collection target is grossly over-ambitious,” Ashfaque Hasan Khan, dean of Islamabad's NUST Business School, said when the budget was released earlier this month.