Pakistan: On the Verge of an Economic Meltdown?

Ever since I learnt about Pakistan economy and its similar inflation trajectory as India’s, it is interesting to read more.

Mohsin Khan of Peterson Institute advised Pakistan Government. Here are his views.

The situation for the Pakistan economy is pretty grim. It is very similar to 2007–08, almost déjà vu. Unfortunately it is—it’s almost as if the government didn’t learn anything from that experience. What is happening is the following: You’ve got very slow growth, maybe around 2 to 3 percent for a variety of reasons, but we can go into that later. Inflation [is] rising very rapidly and the cause is exactly what was happening in 2008. You have an increase in food prices and in energy prices. The government refuses, or actually in this case, had to back down from increasing domestic gasoline prices in line with  international oil prices, which meant that essentially it had to subsidize the public, which it did do.

The cost of that subsidy is rising day by day as oil prices stay high and domestic prices are kept below international prices, and the fiscal deficit rises. The expansion in the fiscal deficit is then financed primarily by the government borrowing from the central bank, which is akin to printing money. So it’s pumping liquidity into the system and that’s leading to higher inflation.

This is exactly what happened in 2008, which in fact led to the Pakistanis asking the IMF for a program of economic assistance alone. The ongoing IMF program has been suspended because Pakistan was not able to meet the conditions that the IMF had set for them, including on the size of the fiscal deficit and certain other actions like introducing a new or revised general sales tax, which is sort of like a VAT [value-added tax].

The government just recently, in fact this past week, said it tried to push this through but found such political opposition that it decided not to go through with it. So that’s off the table.

He throws up certain figures:

By my reckoning, the fiscal deficit in the budget was 4.7 percent of GDP. It’s going to be around 8 percent if this continues…… The figures coming out right now show growth of between 2 and 2.5 percent, with inflation easily above 20 percent—it could be 25 percent.

India is better-off in case of inflation (though our food inflation has been in double digits for so many months now). Our growth rates are much higher. Though fiscal situation is similar. Pakistan fiscal is expected to worse going ahead but India’s likely to be better. But as I said in earlier post as well, India has had a much worse fiscal position despite not having a crisis as such. This raises many questions on India;s fiscal policy over the years.

Khan says he is hopeful things improve in Pakistan as there are some top economists at the helm and know the issues. The real worry is state of politics.

There are sensible people still in the country. There are sensible people who realize what path they’re headed down. And I think that they see what the consequences are. I think the neighbors, and particularly India, should also appreciate the situation and be helpful in this regard because India doesn’t need a country or a nation of 200 million odd people, a dysfunctional state on its borders—and very long borders.

When we say meltdown, we’re basically saying, the state becomes dysfunctional. I’m using an extreme analogy, but you don’t want a Somalia surely with warlords and provincial leaders, etc., fighting among each other. The root of the central government disappears. I think that’s the real danger, when people talk about Pakistan disintegrating, they are talking about different provinces going their own way.

Interesting stuff.

Whenever, one reads about fiscal deficits in other economies in crisis or near crisis situation, it is startling to see how India’s fiscal situation is much the same despite not having a crisis. Other economies report total deficits and India only reports central govt. deficits. The money you add state and district level deficits, situation gets much worse.

This comparison and regular studies on the same are important to drive a point about India’s worrisome fiscal situation. How it has avoided a crisis or a stern warning over all these years remains a puzzle.

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