Fiscal targets fixed for the current economic year are really challenging. Achieving these targets include a growth rate of 7.0 per cent of GDP, reducing inflation to 6.5 per cent, keeping fiscal and trade deficits at 4.0 per cent and $12.8 billion respectively, certainly demands implementation of prudent fiscal and monetary policies. The government and the SBP, notwithstanding the fact that current fiscal year is an election year also (it might tempt the government to be a little extravagant in public expenditure to appease the electorate), have to put in their best to meet these targets. They have to be prudent not only to achieve fiscal and monetary targets, but have also to satisfy the general public and stakeholders that the economy, since the past eight years, has been raised on sound footings, something about which quite a few independent economists and analysts keep expressing their doubts.

The latest data released by the SBP about external debt liability reveals that it has increased to $40 billion with an average annual liability of debt servicing of $3.314 billion. The trends in external sector by the end of last fiscal year were also not satisfying either, because the economy looked visibly more dependent on remittances, grants from the US, borrowings from multilateral organisations and proceeds of privatisation as current account deficit increased to $7.0 billion.

External borrowing

External borrowing is a compulsion for a developing economy like Pakistan. It is meaningful and paying, provided it is utilised to build the economy, particularly with reference to enhancing its industrial capacity, export surplus and earning, developing infrastructure and effecting durable changes in the financial system. External borrowing sans these objectives becomes a financial liability for the economy with, at times, unbearable consequences. It was only a few years earlier when the country got trapped into debt trap because of a number of domestic and external factors. Since then, it has taken quite a bit of sacrifice on part of lesser stakeholders i.e. the common people, implementation of prudent fiscal and monetary policies by the government and SBP with assistance from the IMF and WB, substantial inflows and grants from the US, Western countries and multilateral organisations. It enabled the country to get out of the debt trap.

Equally important was re-accounting of the economy around four years earlier that increased the value of GDP on one hand and decreased ratio of domestic and external debt to GDP. They roughly stand around 54.0 per cent and 50.0 per cent of the GDP respectively, at present. The ratios are comfortable even by international standard that puts public debt up to 60.0 per cent of the GDP. It is a comfortable limit with a subtle condition that the economy has the capacity to pay back the debt. Our main concern is about the latter point.

9/11 and tilt in Pakistan’s foreign policy; the front line state in US-led global war on terrorism brought substantial financial gains to the country. Conspicuous among them was rescheduling of foreign debt of $12.5 billion with a grace period and at low interest rates. It certainly provided relief to the economy which was over burdened with foreign debt servicing liability. In 2003-04, foreign debt and liabilities stood at $35.474 billion. It was being anticipated that with over all improvement in the economy and financial assistance from the US, Pakistan would not opt for contracting foreign debt to meet its fiscal needs. But, the grounds realities during the last five years have been quite different. There has been substantial increase in external as well as domestic debt in absolute terms despite low ratio to GDP. External debt and liabilities during these years have increased to $40.172 billion at the end of June 2007.

During the first three years of the last five years, external borrowing was moderate that showed slight increase during the fourth year. However, it suddenly jumped to $3.0 billion during last fiscal to meet the requirements of debt servicing and current account deficit. Foreign debt and servicing is costing heavily to the public exchequer. According to SBP data, during the last four years, $13.3 billion for debt servicing, including $3.54 billion as interest had to be paid. With mounting foreign debt, it is feared that debt servicing liabilities will keep on increasing.

Economic indicators

FY07 ended up on a positive note despite a number of challenges that the economy faced primarily because of deep rooted economic imbalances and political uncertainties scary for the investors, particularly during the second half of the last fiscal year. Economy grew at 7.0 per cent growth because of strong growth of agriculture and services sectors. Forex reserves increased by $2.5 billion to approximately $15.0 billion. Rupee remained stable with depreciation of 0.3 per cent only vis-à-vis US$ thanks to direct intervention by the SBP. FBR met its target of collecting tax revenue of Rs835 billion. Balance of payment surplus increased to $3.5 billion compared to a surplus of $1.3 billion in FY06 despite a huge current account deficit of $7.0 billion.

Vulnerability of external sector

Parameters of strength of an economy are well defined and well known. Three out of them are distinct to make an economy self-reliant and stable that can withstand internal and external pressures, absorb shocks that might be arising because of political turmoil and unexpected economic uncertainties. The three distinct parameters are; performance of import-export, annually generated tax revenue to meet public and development expenditure and modus operandi of enhancing forex reserves. China has made quantum jumps become the 2nd economic power in the world in a short span of around three decades. It happened exclusively because of an extremely favourable imports-exports regime that enabled it to make its economy booming with around 10.0 per cent annual growth rate and accumulate forex reserves of more than a trillion US dollars.

A developing country like Pakistan, for a number of reasons, might not be in a position to make quantum jumps to give boost to its economy in the same way as China has done, although, it can certainly benefit from its experience.

In a competitive economic world, the short cut to create national wealth is through increasing ones share in global trade. It helps to make economy vibrant, maintain high economic growth, boost exports, alleviate poverty and raise standard of living of people. Our exports, during the past two years, after having performed comparatively better for around three years, have become sluggish and less competitive in the regional and global market. The expectation that their exponential growth would stay to pave way for steep growth, has been betrayed by a number of domestic and external factors. Conspicuous among them are, exports being textile-centric and less competitive, lacking in value addition and opened to limited number of markets.

There is no dearth of competitors in global market as the race for survival of the fittest becomes overheated. Pakistan has no option except to improve its exports according to the global market’s taste and appetite for quality products at comparatively cheaper rates. Human resource, infrastructure, aggressive marketing and cost effectiveness are some of the domestic factors that are making exports less competitive. Unless there was quantum improvement in them for which the government and corporate sector will have to put in much more joint efforts than have been done so far, exports might not grow rapidly.

An export target of $19.2 billion has been fixed for the current fiscal year, against exports of $17.2 billion during the last year. But keeping in view a host of domestic factors that include political uncertainty, power crisis, inflation, and high discount rate imposed by the SBP because of tight monetary policy and unfavourable weather conditions as at present, it is feared that exports might face difficulties meeting the target. In case exports remained sluggish and imports increased beyond the target of $32 billion, the possibility of trade deficit increasing beyond $12.8 billion, down from last fiscal year’s trade deficit of $13.5 billion, can’t be ruled out. Such a scenario would certainly make economy more dependent on external sector that has its own vulnerabilities.

Tax revenue collection will increase to around three times, more than Rs1 trillion targets fixed for the current fiscal year. But the fact remains that tax-to-GDP ratio remains quite low at around 10.0 per cent and government resorts to expansionary fiscal policy to meet its budgetary needs that builds inflationary pressure. Monetary policy (July-December 2007) observes, "with a budget deficit of 4.0 per cent of GDP (Rs399 billion), the government’s expansionary fiscal policy for FY08 creates risks from financing requirements. To meet financing requirements of this deficit, the budget forecasts a huge target of net external receipts (Rs193 billion), bank borrowing (Rs82 billion against Rs138 billion during last fiscal year), and privatisation proceeds (Rs75 billion). Realisation of receipts under external finances and privatisation proceeds would be with discrete path of time, with the former depending on investors’ confidence and latter on pace of progress of privatisation; while government would need continuous financing to meet day-to-day expenditure. This would create temporary pressure on the SBP for deficit finance. Heavy expected monetisation of deficit during the course of the year would therefore generate challenging implications for the conduct of monetary policy." Surprisingly, direct intervention by the SBP to buy US$ to keep rupee stable creates its own inflationary pressure.

Foreign debt, privatisation proceeds, US aid and remittances are the key elements of external sector in addition to exports earnings. Despite the fact that they render a lot of support to the economy, they can’t be counted as all weather birds that would be available to rescue economy during dire moments or situations in future. The government borrowed $3.044 billion despite the record inflow of FDI and remittances during the last fiscal year. Heavy foreign borrowing increases debt liabilities that have already risen to a high level. This is a matter of concern because the economy has limited capacity to pay back. Reverse remittances i.e. profits earned by foreign investors and remitted back home is also increasing. It increased to around $1.0 billion during the last fiscal year and would increase further in future burdening the precarious forex earnings.