Escaping low-level equilibrium trap

KARACHI:

Economic conditions, as depicted through various statistics, have started getting better as certainty in the political environment improved in recent months, leading up to general elections in February 2024.

Recent figures of exports, published by the Pakistan Bureau of Statistics (PBS), indicate an upward trend. Exports since October 2023 have surpassed the threshold of $2.5 billion every month.

This is significant given that they had been hovering below this threshold for several months, especially after nearly touching $3 billion in early 2022.

Pakistan’s economy has faced significant challenges, as its growth, imports as well as industrial output slowed down in 2022 and 2023.

Although the recurring balance of payments crisis is the driving factor behind the continually dismal performance of the economy, the slowdown has also implications for supply chains, the availability of essential products and their prices.

Pakistan has not only experienced a shortage of commodities across several sectors but also the highest levels of inflation in its history. As the country is going to receive its final tranche from the IMF under the current programme and prepares to enter another programme, it must adopt policies that ensure the balance of payments crisis becomes less frequent.

Consequently, the economy will not only thrive but also the country will be able to abandon the habit of approaching the IMF for a lifeline after every few years.

The balance of payments crisis is typically a result of poor foreign exchange reserves management as the lack of inflows causes it to plunge to levels that create uncertainty in the exchange rate. Low reserves often lead to speculation in the foreign exchange market, increasing the risk of currency depreciation.

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To boost the reserves, Pakistan has three non-debt creating avenues, namely exports, remittances and foreign direct investment (FDI).

While FDI has been negligible, dollar inflows through remittances and exports are relatively important. Pakistan has done well in terms of inward remittances, as it is the second largest recipient in South Asia in absolute value and as a percentage of gross domestic product (GDP).

According to recent estimates of the World Bank, the inflow of remittances into Pakistan was almost $30 billion in 2022, or 8% of GDP.

However, Pakistan has performed dismally in exports. Its exports were at 10.5% of GDP in 2022, slightly more than half the average of 20.5% reported for the South Asian region.

Several sub-Saharan African countries, given their poorer levels of development and geographical location, report a higher value of exports as a percentage of GDP.

Even though China-Pakistan Economic Corridor (CPEC) has often been portrayed as a project that will improve trade connectivity with the rest of the region and the world, the performance of exports speaks volumes about the ordeal policymakers face to make economic conditions more sustainable and less dependent on the IMF.

Several experts set thresholds and benchmarks for export performance. The World Bank believes that exports are $60 billion below their potential, while other experts have proposed methods and suggestions to boost exports beyond $100 billion.

According to trade statistics provided by the International Trade Centre, Pakistan exported goods worth $11 billion in 2003 while Vietnam and Chile had exports of $20 billion.

In 2022, Vietnam exported goods valuing at $370 billion, Chile exported $102 billion worth of goods while Pakistan reported meagre shipments of $31 billion.

Exports of Vietnam increased more than 18 times, exports of Chile rose more than five times, but exports of Pakistan increased less than three times.

Both Chile and Vietnam have reported a significant growth in their economic performance as their development levels skyrocketed in the last 20 years.

Their policymakers have created an environment that contributed to the growth of the capacities of their firms and the capabilities of their manpower by introducing a pro-competitive business environment that encourages rather than discourages international trading activities. This is missing from the economic policy landscape in Pakistan.

According to the tariff profile available at World Bank’s World Integrated Trade Solution, Pakistan had eight tariff agreements in 2021 and reported weighted average tariff rates of more than 9%.

In comparison, Chile had 76 tariff agreements and weighted average tariff rate of 0.76%, while Vietnam had 20 tariff agreements and a weighted tariff rate of 1.17%.

The high level of protection given to the targeted sectors in Pakistan proves its lack of integration into the global and regional markets. Better integration is necessary to boost exports.

On the other hand, Pakistan lacks measures that improve the quality of Pakistani products as producers often neglect needs to protect consumer safety and interests.

The global market has shifted towards addressing the needs of consumers as products must comply with pre-defined quality and production standards and processes. The policy landscape must address the lack of non-tariff measures.

Furthermore, Pakistan faces challenges as it fails to take advantage of its large unskilled workforce and improve its productive capabilities to boost exports.

With a population of approximately 250 million, Pakistan has abundant labour resources to produce labour-intensive exportable goods. However, with the evolution of labour-saving technologies that help to reduce costs even for the most labour-intensive methods, it is essential to upgrade not only the production capacities but also the capabilities of the workforce.

Raising the productivity levels will increase the probability that firms participate in international trading activities. This involves not only making complementary capital investments but also investing in human capital capabilities through vocational training and skill development programmes.

Pakistan will boost its exports only if producers realise the importance of providing the best possible products at the most efficient prices.

Unfortunately, the current incentive structure involves government intervention, which not only focuses on large subsidies for exporters but also the increasing demand from lobbies to reduce their energy costs. Little attention is paid to complementary investments in facilities and infrastructure.

In addition, the government offers protection to inefficient producers in the domestic market, which results in an anti-export bias and deters exporters from meeting the needs of consumers in the global market as high profit margins are often guaranteed in the domestic market.

The current incentive structure suggests that businesses favour low-value and low-risk transactions rather than compete for a larger stake in more competitive markets.

In essence, the policymakers must go for the overhaul of strategies which have resulted in a low-level equilibrium that lacks innovation and pro-competitive forces. It is imperative to devise a strategic framework that forces a dynamic change in the business environment, encouraging participation in international trading activities.

The writer is the Assistant Professor of Economics and Research Fellow at CBER, Institute of Business Administration, Karachi

Published in The Express Tribune, March 18th, 2024
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