Pakistan’s debt servicing burden has once again reached unsustainable levels. As the exchange rate depreciates rapidly under balance of payments pressures, the economic crisis deepens. Amidst the gathering storm, the current high level of indebtedness has become a cause of concern for the government, parliament and the opposition parties. It may be helpful to examine the factors underlying the perennial problem of Pakistan’s aid dependence to understand why such a crisis recurs with unsettling regularity.
Consider first, the magnitude of the debt crisis at hand. The State Bank of Pakistan’s data shows that the total external debt and liabilities are now over $60 billion, while domestic debt stands at Rs6,231 billion which is even higher ($66 billion at the current exchange rate). The total debt and liabilities, domestic plus external are 67.4 per cent of the GDP. The stock of total debt may not be overwhelming. However, it is the annual flow of external debt servicing relative to the foreign exchange earning capacity that constitutes a crippling burden. The external debt servicing in 2011 was $8.86 billion which is equivalent to half the country’s export earnings standing at $17.79 billion. In spite of record levels of remittances, such a debt servicing burden is simply unsustainable, if Pakistan is to import key items such as fuel, fertilisers and cooking oil that are so necessary for the functioning of the economy and society.
The fiscal picture is just as grim. The combined external and domestic debt servicing burden constitutes about 70 per cent of the government’s gross revenue receipts. Thus Pakistan is faced with a harsh fact: if the civilian government is to subsist, courts are to function, critical subsidies on food and fertilisers are to be provided, key ongoing public-sector projects are to continue and armed forces personnel are to be paid salaries and their weapons maintained, then foreign aid is an urgent necessity at present.
Why is Pakistan so aid dependent? The answer lies in two features of an economic structure that has been shaped by successive elite-based, rent-seeking regimes in Pakistan’s history: (a) The low domestic savings rate which at 12 per cent of GDP is inadequate to finance the investment rate of 24 per cent of GDP required to generate an annual economic growth rate of 6 per cent. The resultant ‘savings gap’ has historically been filled by foreign aid. Cheap loans based on foreign aid further reinforced the proclivity of the ruling elite for rents (unearned income) and ostentatious consumption rather than savings for investment. (b) The provision of direct and indirect subsidies together with import protection induced the emergence of a textile industry (predominant in the manufacturing sector), which tended to concentrate on the low value added end of the textile range and lacked international competitiveness. This set the mould of a manufacturing sector which was unable to diversify, take risks and innovate: hence its capacity to increase foreign exchange earnings for the country was severely constrained.
The low domestic savings rate on the one hand, and a manufacturing sector that was unable to provide enough foreign exchange to finance the import requirements of a high growth trajectory on the other, precluded growth sustainability. Thus relatively high GDP growth could only be achieved during the military regimes of Ayub Khan, Ziaul Haq and Pervez Musharraf respectively, when large foreign aid inflows were available. The structural constraint to the growth of foreign exchange earnings was manifested during each of these periods when the balance of payments deficits built up rapidly. As aid declined in the subsequent periods of civilian government, so did GDP growth.
Pakistan’s aid dependence is rooted in the very structure of the economy. It has been shaped by an institutional framework that restricts the process of savings and investments to the elite. Therefore, aid dependence can be overcome only by restructuring the economy through an institutional change that enables the middle class and the poor to participate in the process of savings, investment and innovation.
Published in The Express Tribune, August 20th, 2012.
COMMENTS (20)
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While I agree with Akmal's analysis of a rent seeking state capture by the elite, I don't see where his recommendations are. He mentioned innovation and savings in a vague end, but that is not enough. I have heard the author many times with solutions that speak of "projects" rather than policy and political advices. While projects can be fanciful for donors, they do not solve or even address macro economic problems. Clearly, we need a functioning free market and a level playing field, and that is where we should build our consensus.
I . Every body in Pakistan like to save for the unforeseen future expenses and old age .If saving rate is 12% the reason is definitely is lower capacity to save. Investment rate of 24% indicates the potentiality of revenue generation and hence demand for the capital. T o support the business activities ( manufacturing and or service ) government needs to develop infrastructure by way of continuous energy supply and improved communication/ delivery system domestic as well as overseas . All these activities require long term resources / capital which may either be managed through internal savings or foreign Investments These Foreign investments will be attracted only if the economic atmosphere in the country is conducive and the political/ social stability and also the govt policies which encourage the investment. Look at the countries like South Korea,Indonesia, Malaysia, Taiwan, India and of course China. All these countries have attracted the foreign Investment and developed /developing. Modern Education i( Not the religious education) will be needed to develop the skills to be used in the economic activities. Foreign loan ( aid) are soft and repayable over a longer period. If the country can develop the economy resulting i improved GDP growth there won;t be problem in servicing such external debt. for all this we need to have an honest and determined effort
@abdussamad
I'm not telling Pakistani's how to live their lives( you've got plenty of people in Pakistan for that). What I'm saying is pay your taxes which by "Law" you should be doing. You know the secret behind paved roads, large motorays and towering skyscrapers here in the west?, its a whole lot of taxing. Don't get me wrong but usually people from the developing world heap praise on the wests economic model, but they don't realise just how much money comes from people's pockets in order to make these capital goods. You can spare the poor but upper-middle class Pakistani's should pay up just like how citizens in the west do and be responsible. More investment in Capital Goods will create jobs(especially for those on lower incomes) and in the long term will help the Pakistan economy to grow.
I'm simply talking for the benefit of Pakistan by knocking in sense to my fellow countrymen!.
Apple's assets ( $623 billion ) are way more than Pakistan's liabilities ( $126 billion) ....
http://tribune.com.pk/story/424629/apple-is-most-valuable-company-ever-at-623b/
Analysis is wrong and vague. In fact this type of economics (that is called mainstream and that Dr. Akmal preached and practiced) has proved illogical, non-scientific, and unsuitable for economic progress. Its assumptions do not hold and it does not offer an policies. Its implications favor small government and leave things to shape on their own. Some evident flaws in Dr. Akmal's analysis are: 1. At this point, Pakistan do not need higher savings. If that happens then effective demand in our economy will shrink and cause further downturn of the economy. 2. What institutional change Dr. Akmal is talking is unclear, not to mention how it could be initiated. 3. What Pakistan need at this time is not good economics or economists, we need consensus. Consensus about our long term economic goals, and our social issues. This is possible through open debate. But open debate is not possible in the presence of our existing media and religious intolerance.
You are saying most of the economic growth since independence has been due to aid. If true I am speechless.
Maybe you Pakistani's who talk big in these newspapers should stop avoiding taxes and actually pay up in order to help your country to grow. I live in New Zealand and here everybody pays not only there main taxes but also council rates which leads to growth. There is corruption here in NZ as well so try not to make up any more excuses on why we don't pay our taxes!!.
@C. Nandkishore
I guess Mechanical Engineers can build buildings too since any economy depends to a large extent on the state of its construction industry. And probably the mechanical engineers can build an automobile factory that runs without electricity. Why have civil, electrical engineers etc?
Lets have just mechanical engineers who can operate an automobile factory in open fields without electricity. I wonder how far that will take the economy
Sarcasm apart, every discipline of engineering are equally important and have to work in synergy to keep the industry functioning.
@author,
"The total debt and liabilities, domestic plus external are 67.4 per cent of the GDP."
It is 67.4% assuming the official GDP of $187B is correct. There have been reports right here in ET that Musharraf and Shaukat Aziz artificially inflated the GDP numbers during their rein. In that case, it is a lot more than 67%.
The author also neglects to mention why the investment to GDP ratio is so low. It is because, instead of investing the borrowed money into economic/social activities to educate the masses, and , the Pak establishment has been pumping the money into buying military equipment, operational defense spending, nuke program etc. If Pakistan had been diligently investing the precious foreign aid in growing the economy, creating jobs, educating people, improving healthcare and other social and economic uplifting activities, the nation would have been a developed country by now.
So, the the basic problem has been the wrong priorities chosen by the Pak establishment for the past six decades.
Excellent article. Improving law and order is also a must for the betterment of economic scenario in Pakistan. The state of "Bihar" could be a case study , where economic conditions were worse than even the sub Saharan countries , but now it has a very fast growing economy ( 9 to 13% GDP growth rate per annum). The situation has improved because the government paid attention to extremely poor state of law and order. Confidence of potential investors in political stability of the country is very important.
@C. Nandkishore: And let me guess, you must be a mechanical engineer?
The route causes of aid dependence is bad-governace with incompetent leadership. Miss Khar at the age of 25 years became finance minister with diploma in hotel management. Later on Mr sheikh played havoc with economy. During the last 04-years government got record loans of 22b$. Mr sheikh has experience of working with world bank but zero output. The governor state bank has shown impotence to restrict government borrowing as well.
Perhaps one other factor to the two you have mentioned: low revenue generation (low tax to GDP ratio etc.)
The author has touched issues. I would like to add some more. 1. Education: Especially mechanical engineering. This is a must. A high grade four year course without side frills is a must. Whatever you want to export or manufacture you require mechanical engineers. 2. Managerial Talent: Here again the best managerial talent comes from engineers. Hence high grade engineering colleges are a must. Managerial talent comes from experience and hence usually takes one to two generations. 3. Automobile Industry: This is a must for growth. This is the crucible from which managers and entrepreneurs are born. Automobile industry has a wide ancillaries and hence the whole hinterland gets an industrial society. e.g. Pune (Tata, bajaj), Chennai (Ashok Leyland), Gurgoan (Maruti), etc. 4. Religion: Complete absence of cohesive religion is a must. A person who has spent four years high grade study (engineers), six years (doctors), ten years (Ph.Ds) do not like to be dictated by a 10th class pass/fail priests on how to be religious. 5. Political stability.
Any reader can himself judge a country by using the above criteria. eg 1. Egypt has education and political stability, but no automobile industry hence no managerial talent. Again a lot of cohesive religion. 2. South Korea: Education, managerial talent, automobile industry, no religion and political stability.
Pakistan has one of the worst " Tax to GDP" ratios in the world, so there is no wonder the country is BROKE! With all the tax laws made by the Rich, for the Rich, only the poor and middle class pay various direct and indirect taxes! Pakistan could probably double or triple it's tax receipts if it would end TAX EXEMPTIONS for agriculture and other "protected" interests!
Doctor Sahab - While I am by no means competent enough to comment on your analysis, I wonder if just focusing on supply side economics or savings rate is the answer to the question. Pakistan's debt-to-GDP ratio is high because of cumulative effect of fiscal deficits which themselves are outcome of revenue-expenditure gap, which itself is outcome of failed taxation reforms. Textile sector or any manufacturing sector can not compete in the global arena if the supporting infrastructure is not at par with competitors (such as electricity and law & order), which increases operational costs and reduces price based competitiveness of exports.
Great analysis. Will not attract comments from Indians because there is nothing to criticize in what the author is saying. Will not attract comments from most Pakistanis who only comment when they either get a chance to blame RAW/Mossad/CIA or attack defend Imran/PTI or CJ.
everybody is busy with conspiracy therories - no time for economics!