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Old Monday, January 14, 2008
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Default Pakistan: Where Will the Buck Stop?

Pakistan: Where Will the Buck Stop?

ISLAMABAD, 14 January 2008 — With an economic downturn on the horizon, the question now is where, and when, will the buck stop for Pakistani business?

A number of indicators show that the downturn may not go away in the short to medium term. In fact it is projected to dig its heel further with the ongoing political uncertainty, and run up to the national elections, scheduled for Feb. 18. Many politicians and businessmen keep their fingers crossed over the elections aftermath.

In the past post-election results for the economy have been negative to mixed, particularly for foreign trade, FDI inflows, domestic investment, production and jobs. President Pervez Musharraf’s government is already struggling to survive the political unrest, its own actions against the judiciary and politicians unleashed on March 9.

Adds to that Benazir Bhutto’s murder, postponing elections, debarring top opposition leaders like the two-time former Prime Minister Nawaz Sharif to contest the polls, and postponement of the election itself, originally set for Jan. 8.

In this unhappy environment, the latest report of the State Bank of Pakistan (SBP), the central bank, warns of “the challenges” and “risks” to the economy and business.

“Risks to the economy are increasing as it is clear that neither the global nor the domestic economic environment is as benign as in the past years. “All key economic indicators recorded a significant decline” in the July-September, 2007-the first quarter of the current fiscal 2008. These negative trends continued to be more pronounced even up to November this - with no reversal insight, the report mandated by the Parliament indicates.

But, there have been positive moves forward, including larger inflow of FDI from Dubai, Abu Dhabi, Gulf, Saudi Arabia and the Western countries. Business has been opened more to the private sector, and 87 percent of all banking are now in private hands. But the worst hit are the poor, due to inflation that was 9.3 percent Y-O-Y in October 2007, principally driven by a 14.7 percent Y-O-Y jump in the Consumer Prive Index food inflation. Independent economists put it at more than 16 percent.

The basic foods, like the flour, are hard to get in all cities even at prices double than eight years ago. Rice price has skyrocketed. The spiraling bill of oil and costly food imports are rapidly eating into the official forex reserves.
The SBP projects that the government’s GDP target of 7.2 percent for fiscal 2008 is unlikely to be achieved. “It is likely to be below 7.2 percent-and may remain in the range of 6.6 to 7.0 percent,” it says. World Bank estimates GDP at 6.5 percent and Merrill Lynch at 6.8 percent.

“The threat of renewed macro-economic complications, after five years of good performance, will be further heightened if prompt actions are not taken to correct the recent deterioration in fiscal indicators. The fiscal imbalance has already led to a substantial rise in government borrowing from the central bank. The borrowings rose to Rs. 191.3 billion during the first five months -July-November, of the current fiscal 2008. It exceeded both the quarterly and annual ceilings and the preceding year’s trend,” nearly doubled from just Rs. 97.6 billion in the like period of fiscal 2007.

The SBP underscores the fact; that government borrowing has enhanced the monetary expansion significantly, and is likely to “fuel inflationary pressures, compounding the impact of the strength in international commodity prices,” and imported oil. The government has ignored SBP warnings to stop such borrowing as it adds to inflationary pressures to control which the SBP had enforced a tight monetary policy (TMP) three years ago. “Importantly, the revenue balance moved from a surplus in the first quarters of the preceding years to a deficit in the Q-1 of 2008, despite an impressive growth of 22.3 percent in total revenues during Q-1 of 2008.”

But graver still is the external financial challenge. Its key element is the large current account deficit (CAD). Recent evidence shows that the modest narrowing down of the CAD in July-September, period is “unlikely to continue in months ahead,” SBP warns. “The annual current account deficit stays “large” and is forecast to be 5.2 percent of GDP for full fiscal 2008.

Most of the population across the country is up in arms against the government for atrocious spiraling prices of food, particularly the acute shortage of flour which is becoming an election “issue” against Musharraf and the PML-Q, SBP has added its voice to underscore this fact.

Besides the financial, budgetary and monetary woes, “more troubling is the fact that the high and volatile food inflation is now increasingly influencing core inflation as well. Since May, 2007 both measures of core inflation — i.e. non-food, non-energy — have been trending up.

“The domestic economy is now more open and prone to external shocks than ever before which means that domestic prices will be more sensitive to the changes in the international prices, despite domestic availability. For example, Pakistan had sufficient exportable surplus of rice in fiscal 2007, but following a rise in the international prices of rice, domestic prices also increased.”

The industrial production by large scale manufacturing (LSM) decelerated to 6.9 percent during Q-1 of 2008-the lowest since fiscal 2003, as compared to 10.4 percent in 2007, and 9.0 percent in 2006.

The outlook for services sector-which contribute 52 percent of the value-addition, “remains positive.”

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