Inflation has become the number one puzzle for the government. Under high inflation is an increasing demand for goods and services. What sparked this giant wave of insatiable demand was the government’s desire to boost Pakistan’s economic growth rate.
Accelerating economic growth mainly through private consumption and, to a lesser extent, by increasing public spending is not bad. In fact, it is desirable. However, if policymakers remain obsessed with the model of consumer-driven economic growth, ignoring the role of investment and net exports, this is certainly bad for long-term GDP growth and development.
Regardless of all the talk, the PTI government has so far failed to increase the investment-to-GDP ratio, nor has it succeeded in increasing net export volumes. What we are seeing today – and we have also seen this during previous regimes – is “consumerism” generating more demand in the economy than can be sustained – and producing high inflation in the process. . This “consumerism” – or buying beyond one’s needs – is also partly responsible for the fall of the rupee against the US dollar. This, in turn, further fuels inflation.
Pakistan’s gross fixed capital formation ranged from 14.6% to 17.3% from 2012 to 2021, while that of Bangladesh ranged from 28.3% to 31.6%
Much of the country’s underground economy continues to make this consumerism more dangerous. The shadow economy is also devouring the benefits of increased consumer spending and consumption-led GDP growth.
Tax evaders, undocumented business owners / operators, illicit wealth accumulators, money launderers, smugglers, corrupt people and those involved in outward capital flight are also thriving, but their contribution to tax revenue remains negligible or zero.
On the other hand, the opportunity costs of “consumerism”, including reduced investment in human capital and technological upgrading, are borne by all Pakistanis. (In 2015, Pakistan’s underground economy, according to the estimate of the International Monetary Fund, was equivalent to 31.6 pc of its GDP, an alarming figure when we compare it with Bangladesh (27.6 pc), Turkey 27 , 4 pc, Malaysia 26 pc, Indonesia 21.8 pc, Iran 18.4 pc, India 17.9 pc – and China 12.1 pc).
Whether – and to what extent – the size of our underground economy has shrunk over the period 2016-2021 remains a subject of academic debate. But even the most optimistic would agree that the size of our undocumented economy as a percentage of GDP is still quite large.
With this in mind, policymakers in the PTI government should ideally have aimed at stimulating aggregate demand for economic growth through its four main components, namely private consumption, public sector expenditure, investment and net exports. But it was not done. Initially, the focus remained on improving private consumption and public sector spending, but then realities on the ground led them to cut public sector spending. Improving total domestic investment or gross fixed capital formation did not receive much attention during the three and a half years of PTI’s “hybrid” democratic regime.
It is only recently that the government has taken serious steps to increase gross exports. But net exports continue to decline and due to increased imports – both due to high international fuel and food prices and also due to growing “consumerism” in the country.
Pakistan’s overall exports of goods and services were equivalent to 17.27% of its GDP in 1992, while in 2020 our total exports were only 10.57% of GDP.
A closer look at the 2020-2021 Import List, regularly updated by the State Bank of Pakistan, indicates an upward trend in foreign exchange spending compared to 2019-20, even on dairy products , eggs, honey, vegetables, fruits and nuts, coffee, tea, spices, prepared food products, drinks and cutlery.
The increase in import volumes of these and other hundreds of foods not individually named in general official documents also continues to inflate the food import bill and, by extension, the overall import bill.
When import bills rise faster than export earnings – and it happens time and time again in Pakistan, especially during times of economic growth hovering around or exceeding 4% – the trade deficit grows. In other words, our negative net export becomes more important.
This means that the aggregate demand in the economy that policymakers are trying to stimulate comes entirely from the domestic economy – no part of net foreign demand is met by exports.
This problem can be solved by keeping an eye on exports as a percentage of GDP and not just annual export numbers. If exports continue to grow as a percentage of GDP in the long run, they should significantly reduce the trade deficit and may even start generating a trade surplus, i.e. net exports may shift from negative territory to a positive zone. But this can only happen when the country deliberately aims to achieve GDP growth with the right mix of private consumption, government spending as well as investment and net exports.
Pakistan’s overall exports of goods and services accounted for 17.27% of its GDP in 1992, according to World Bank data. But it has continued to decline since then, sometimes slowly creeping in and slipping again and by 2020 our total exports were only 10.57% of GDP, SBP statistics reveal.
The poor performance of the export sector can be attributed to a large extent to the fact that Pakistan’s gross fixed capital formation or total investment has remained – and still is – well below what it should be to promote productivity. on a sustainable basis and ensure that our competitive exports to the world. Between 2012 and 2021, Pakistan’s gross fixed capital formation as a percentage of its GDP never even reached 18% – it remained between 14.6% and 17.3%, according to statistics from the SBP. Bangladesh did much better: its gross fixed capital formation was between 28.3% and 31.6%.
When economic growth is consistently achieved primarily through increased private consumption and some additional public spending, it is also reflected in the credit distribution behavior of our banks. Year after year, banks lend excess money to the government through short-term debt instruments, provide private sector companies with short-term working capital – not long-term investment finance. – and grant many expensive consumer loans. This is exactly what most commercial banks currently do.
Posted in Dawn, The Business and Finance Weekly, November 1, 2021