Strategic failure

As Pakistan begins the difficult but urgent task of recovering from the damage caused by the Great Flood 2010, policymakers should seriously reflect on how they can turn this crisis into an opportunity.

For the last several decades the country has failed to articulate a strategy that will bring about sustainable growth in national product while ensuring that the fruits of growth are equitably distributed among different segments of the population and different regions of the country. How should these objectives be achieved? This answer to this question can be found in several reports issued by different agencies working in the country. The most recent of these is the report published by the Islamabad-based Competitiveness Support Fund. The report entitled Drivers of Growth and Competitiveness in Pakistan was released in July of this year. What distinguishes it from those produced by agencies such as the World Bank, the Asian Development Bank and the IMF is that it provides a clear policy prescription to bring “inclusive growth” to the country. The CSF report explains why the recent drivers of growth could not ensure high rate of GDP increase that could be sustained over time and failed to move the economy at the pace achieved by several South Asian countries. India’s remarkable performance over the last quarter century has been widely noticed and analyzed. What is not appreciated is the fact that in terms of growth and poverty alleviation, Bangladesh – once the poorer part of Pakistan – has done twice as well as Pakistan.

The Indian GDP is likely to grow at rate of eight to nine per cent a year over the next decade or two; Bangladesh will see its economy expand at a rate of six to seven per cent a year. Even before the devastation wrought by the Great Flood 2010, the Planning Commission in Pakistan was preparing a plan that was aimed at producing a rate of GDP increase of four per cent in 2010-11 increasing by two percentage points by 2015-16. This would have meant average increase in GDP of five per cent over the next five years, about one-half the anticipated growth of the Indian economy and a couple of percentage points less than that of Bangladesh.

There are several reasons why Pakistan has lagged behind many other emerging economies, including those in South Asia. Three of these are particularly important. The first is the extreme volatility in the rate of economic growth. Economies that are able to sustain growth that does not fluctuate a great deal around the mean tend to do better than those that experience extreme volatility.

Pakistan’s performance has been volatile ever since it achieved independence in 1947, more than 63 years ago. The country did well when large doses of foreign capital became available. Since a significant amount of these flows came from western governments and Japan, they fluctuated given the strategic interests of the donors in Pakistan and the region in which the country is located.

If the donors’ strategic interests coincided with that of Pakistan large amounts of capital flowed in. This happened in the 1960s, 1980s and the early 2000s. At other times, external flows were moderate and that moderated the rate of GDP increase.

Growth rate fluctuation has persisted over the last dozen years, from 1997-98 to 2009-2010. Pakistan’s economy saw a low of 1.2 per cent GDP growth in 2008-09 and a high of nine per cent in 2004-05. The second highest rate of growth during this 12 year period was in 2006-07 when the GDP increased by 6.8 per cent, the second lowest in 2000-01 when it was only 2.0 per cent.

Investment declined from a bit over 17 per cent of GDP in 1999-00 to a bit below 17 per cent in 2009-10. However, domestic savings declined by about one-half from 17.2 per cent at the start of this period to 10 per cent ten years later. In other words dependence on external flows increased further during this period. The country cannot afford to keep its economy moving along this roller-coaster path. It must steady its economy by increasing reliance on domestic resources for investment and for providing public services.

The second reason for the recent poor performance of the economy is sluggishness in exports. This has deprived the country of one of the more important drivers of growth and economic change. It was export orientation that propelled many countries of East Asia, taking them from economic backwardness and moving them towards economic modernity.

While India has done less well than China and East Asia in the area of international trade, some of its export sectors are now leading the rest of the developing world. Pakistan has 2.5 per cent of the world’s population but only 0.13 per cent of world’s merchandise exports. The share has been declining in recent years since exports are concentrated in low value added agricultural, cotton and textile products. The world demand was sluggish at best for these items.

However, imports have increased with the result that trade deficit climbed to 12 per cent in 2008. This led to a serious balance of payments crisis. Pakistan had to go back to the IMF to obtain emergency funds to finance this deficit.

The third reason for the economy’s poor performance was the focus on consumption. Unlike other countries of South Asia, private consumption was the principal driver of growth for Pakistan, especially during the boom years of the Musharraf period. This was particularly the case since 1999-00, the beginning of the Musharraf period. A significant amount of this was financed from bank credit which expanded because of the cheap money policy followed by the State Bank. This along with the flow of large amounts of remittances produced a real estate boom that lasted for five years. It collapsed in 2008 when the central bank jacked up interest rates while the flow of private funds meant specifically for investment in real estate declined. The stock market suffered for the same reasons going through its sharpest decline in history.

The CSF report correctly focuses on the loss of competitiveness in agriculture and the manufacturing sector. Building on growth theories and the work of Michael Porter, the World Economic Forum (the sponsor of the Davos annual meeting on development) developed a global competitiveness index, or GCI, that annually ranks 130 countries. The index is constructed using 12 “pillars of competitiveness”.

The model used by WEF includes 140 benchmarked competitiveness indicators for various stages of economic development. This makes it easier to compare individual countries with those that are at the same stage of development. Such comparisons provide guidance to policymakers about the areas that need attention in order to improve the conditions in the economies for which they have responsibility.

The GCI framework indicates that for relatively poor countries such as Pakistan focus on institutions, basic education, and sound economic management have especially large impact on growth. Over the last couple of years Pakistan has done poorly in terms of increasing the competitiveness of its economy.

Comparing its performance with that of some its competitors indicates the country has slipped badly. It can’t afford to keep going on this path. Given the traditionally low rate of investment in the economy, Pakistan has to produce a relatively high rate of economic growth by concentrating on improving the efficiency of resource use and increasing the competitiveness of the economy.

These objectives can be achieved provided Islamabad invests time and money into some of the areas where improvements need to be made. The report by the Competitiveness Support Fund has a number of suggestions in this context which I will discuss in this space next week.

__________________
"People take only their needs into consideration, never their abilities".