Economic Problems


EVER since its birth almost 60 years ago, Pakistan’s economy has been on a roller-coaster. It does well when foreign capital flows become available to the country. This happened in the first seven years of President Ayub Khan’s tenure when America poured in economic and military assistance into the country. The consequence was a pick up in growth with the rate of increase in GDP improving to more than 6.5 per cent a year.

In the first post-independence decade, the GDP had increased by only 2.7 per cent a year. The American flow of money was in return for Pakistan’s participation in the defence pacts sponsored by the US to contain the spread of communism to Asia. America’s help stopped after Pakistan went to war with India. It resumed again but at a much reduced level.

In the 1970s, Pakistan isolated itself from the West first by initiating military action against the secessionist forces in East Pakistan and then by opting for an independent foreign policy. Under Prime Minister Zulfikar Ali Bhutto, Pakistan built strong relations with China, a country that was out of favour with the United States.

Accordingly, Bhutto’s Pakistan was not a favoured destination for foreign assistance. His socialist policies which led to the nationalisation of large scale industries and commercial banks were not popular with such development institutions as the World Bank and Asian Development Bank. They also reduced the amount of assistance provided to the country. There were other reasons for the economy’s poor performance during the Bhutto period, but fall in foreign flows played an important role. The rate of growth in GDP declined to only 3.9 per cent in 1971-77.

Pakistan did not immediately return to favour following the demise of Bhutto’s regime. That happened in 1980 following the invasion of Afghanistan by the Soviet Union. Once Pakistan signed on as a very active partner in the American effort to force Moscow out of Afghanistan, foreign flows started in large quantities once again. That led to a pick-up in GDP growth; it increased to 6.5 per cent a year. But the flow of American money began to dry up again once Pakistan’s job was done and the Soviet Union vacated Afghanistan. In 1989, President George H.W. Bush failed to certify that Pakistan was not engaged in developing a nuclear bomb. That certificate was a condition of continuous American support. In its absence, US aid stopped flowing.

In terms of foreign capital flows, the 1990s were a difficult period. The decision by the government of Prime Minister Nawaz Sharif to follow India and carry out nuclear tests in May 1998 resulted in western sanctions being imposed on both countries. Once again, there were other reasons for the slowdown in economic growth but a decline in the availability of foreign capital was an important contributing factor. The rate of GDP increase declined to 4.7 per cent a year in 1988-99.

The military government that took office in October 1999 had to wait for two years before Pakistan gained favour once again with the West, in particular with the United States. That happened immediately after the terrorist attacks of September 11, 2001, on the United States. Large amounts of foreign assistance began to flow into the country after General Pervez Musharraf pledged his full support for the American war against terrorism.The economy benefited from the opening up of the aid tap. America also helped by easing Pakistan’s debt burden. The rate of GDP increase began to pick up in 2003. For the 1999-2006 period, I estimate GDP growth at 5.7 per cent a year. The conclusion from this quick overview of the performance of the economy over the last 60 years is obvious: there is a direct relationship between Pakistan’s economic performance and its foreign policy.

Pakistan is about to hit a rough spot again. What happened in 1965 when the country fought a sharp and brief war with India and what happened again in 1989 when Pakistan, working with the United States, was able to force the Soviet Union out of Afghanistan, is going to occur again. History will repeat itself, perhaps not this year, perhaps not also in 2008, but most likely in 2009 when the reins of the American government will change hands in Washington.

What I am referring to is the likelihood of the withdrawal of American assistance to Pakistan. This will happen as the situation worsens both in Iraq and Afghanistan and Washington, under a new set of leaders, begins the process of pulling out of these two countries.

Two, not so subtle changes are afoot in Washington. The first is a growing belief that it was wrong for America to attack Iraq and, once having attacked that country, not plan properly to occupy it. For the moment, the critics of the Iraq war — and they are growing by the day as the number of American casualties mount and the Sunni-Shia conflict takes on a sharper edge — are of the view that instead of spending more human and financial resources in that losing endeavour, Washington should concentrate on Afghanistan.

The American invasion of Afghanistan and the defeat of the Taliban are generally considered to be justified moves. It troubles many people that by going into Iraq, Washington allowed itself to be distracted from what should have been its main aim: to destroy for good the bases from which terrorists could attack America and its interests, and to create an environment that would not produce movements such as Al Qaeda.

The second change in thinking is equally important. For instance a recently published book by a highly respected scholar, John Mueller, presents a case to the American public that it did not adopt the right set of policies after the terrorist attacks on its territory. Titled Overblown, the book argues that the United States’ response to 9/11 — not just the war in Iraq but the entire war on terror — was an overreaction. The response was overblown.

In his words: “Which is the greater threat: terrorism, or our reaction against it? . . . A threat that is real but likely to prove to be of limited scope has been massively, perhaps even fancifully, inflated to produce widespread and unjustified anxiety. This process has then led to wasteful expenditures and policy overreactions.”

The stage, therefore, is being set for America to pull back from some of the forward positions it has taken since 9/11. There are many moments in the country’s history when, after a military effort that produced unhappy results, America withdrew into itself, leaving the world to take care of itself. Such a moment arrived more than a century ago when its military involvement in the Philippines became unpopular at home. The result was a period of isolationism broken only by the First World War. America was reluctant to enter the Second World War. It was drawn into it by the successful machinations of Winston Churchill and the ill-advised Japanese attack on Pearl Harbour.

If the successor to President George W. Bush in the White House decides to rewrite American strategy in the world he (or she) is very likely to abandon the pre-emptive strike option that became the Bush doctrine. There is great likelihood that the next US administration will leave the world more or less on its own.

If that happens, what will be the consequences for Pakistan? What I have said above about the possible change in thinking by the American policy elite was by way of a prelude to the suggestion that Pakistan is once again headed towards difficult times. Contrary to what the country’s leaders have repeatedly said — and possibly believe in — Pakistan has not prepared itself for the day when it will have to stand on its own feet.

The economy has done well in the last three years for the simple reason that it has received large amounts of external capital flows to produce savings for investment. These flows have come from five sources: American assistance, assistance provided by other donors, remittances by the members of the Pakistani diaspora, investments by foreigners and foreign entities and capital raised in international financial markets.

Four out of these five sources are likely to reduce the amounts they are prepared to direct towards Pakistan if political instability returns to the country and if Islamic radicals gain further ground. If that were to happen, even the fifth source — the Pakistani diaspora — may have serious misgivings about its continuing involvement.

While the large amount of American assistance to Pakistan since 9/11 was the product of that country’s preoccupation with terrorism, other donors, and foreign investors were putting money into the country out of a conviction that Pakistan needed to be helped or had some attractive opportunities available for making a reasonable amount of profit for the willing investor.

These perceptions have also begun to change. Islamic militants are becoming more assertive in the country lending to the increasing belief that Pakistan is not a safe place to do business in. The western press has also begun to project its belief that Pakistan is getting involved in activities that are deeply resented by its neighbours. On two days, February 19 and 20, 2007, The New York Times published three stories that portrayed Pakistan in an unfavourable light. In one, the paper detailed how North Waziristan had become the new base for Al Qaeda’s operations.

Then there was the accusation by a senior Iranian official according to which a Sunni group was using western Balochistan as a sanctuary and training ground for mounting attacks on the country’s Revolutionary Guards. And, finally, there was a story that militants operating out of Pakistan may be responsible for blowing up a Pakistan bound train north of New Delhi. Nearly 70 people were killed in that incident.

With likely reduction in American assistance, with the shying away of foreign investors and with exports not increasing at the rate at which they can adequately finance critical imports, Pakistan will have to rely almost totally on the amounts sent from abroad by the members of the expatriate community. There are two parts to this particular flow. One part constitutes the money sent in to support families and friends. The other part represents investments made in the homeland by the members of the diaspora. The second part will be in jeopardy if the international community loses confidence in Pakistan’s economic future.

It is unfortunate — and it is a consequence of the failure of public policy — that Pakistan is once again heading towards difficult times. It has made little effort to provide a domestic base for the growth of the economy. Without such an effort in place, Pakistan seems poised to take another plunge down the economic roller-coaster.