Difficult Times

Analyzing the economic conditions in Pakistan has always been daunting due to the volatility in the economic indicators. There was resounding fear a few months ago that the country was at the doorstep of a potential default, and the policymakers were preparing for a doomsday scenario. Critical indicators were in the red, flashing a sign of impending danger. As the IMF negotiations succeeded and the inflows of crucial dollars began dampening the adverse impact of the mounting economic challenges, the conversations have now changed towards highlighting the recovery in the economic conditions. The Pakistan Stock Exchange seems to be roaring ahead (at the time of the writing of this article) as the KSE-100 index breaks into new record territory, while the Business Confidence Index, as reported by the State Bank of Pakistan, is gradually recovering and closing into the positive zone. It had plummeted into the negative zone earlier in the year as the business community’s confidence had clearly taken a hit due to the lack of economic certainty in the economy. The ominous clouds that hang over the economy may have evaporated for now, but the real challenge now is to keep them away for the long run.

The Business Confidence Index, published by the State Bank of Pakistan in collaboration with the Institute of Business Administration, Karachi, reports on the confidence of businesses in the country every month. It surveys firms across the business sector, including both the industry and the services sector. Business confidence had plummeted to its lowest levels since the start of the COVID-19 pandemic, recovering slightly in the middle of the year as the IMF program was reinstated. However, it decreased again in September 2023 and recovered in October 2023, highlighting the volatility in the economic outlook perceived by the business sector. It is currently expected to hover close to the positive zone. The economic conditions will improve with political certainty in the post-general election period. However, one important measure that needs to be considered is the recovery in international trading activities, as imports decrease, but export growth remains limited.

Although it is imperative that exports increase to generate the inflow of much-needed foreign exchange reserves, it is also essential that businesses are allowed to meet their demand for imports to produce more efficiently. Exports increased less than 2 percent year-on-year in the first five months of FY24, while imports declined by more than 17 percent in the same period. This follows the decline in imports of more than 30 percent in FY23. The reduction in imports may have helped alleviate the balance-of-payment crisis but has reduced the country’s economic activity level.

Importers are crucial in providing consumers of finished consumer goods or unfinished, raw materials and intermediate goods with a more efficient mix of products priced effectively and adjusted for the quality of the products. For instance, importers are likely to source the products from the cheapest sellers and ensure the best quality at the given price.

Choosing different sellers without market friction will allow producers to operate more productively. This sourcing can involve years of established trading relationships, enabling importers to tap into more efficient production networks. These relationships collapse when importers face restrictions and limitations on their international trading activities. In the long run, the relationships between Pakistani importers and their foreign sellers will likely be replaced, so it may become impossible to reestablish such linkages. Hence, import restrictions may have a longer-term impact in creating distortions that are not as evident today.

As the government contemplates import restrictions to alleviate the balance of payment crisis, it is essential to understand the pattern of imports into Pakistan. Fuel imports are a significant component of total imports into Pakistan, and the government heavily regulates the pricing of several mineral commodities. Approximately 1/3rd of imports into Pakistan are petroleum goods. The imports of mineral fuels increased from $10 billion in 2020 to $25 billion in 2022. The total imports were $45 billion in 2020 and $71 billion in 2022. This import surge was one of the reasons for the large trade deficit, a contributing factor to the balance of payment crisis. The government regulates its prices by setting a specific price fortnightly.

As the government contemplates import restrictions to alleviate the balance of payment crisis, it is essential to understand the pattern of imports into Pakistan.

Until lately, when the IMF required the government to raise its prices and impose taxes and levies, the consumption of petroleum products was heavily subsidized mainly to fulfill political objectives. This has resulted in imports and dependency on cheap fuel, resulting in large trade deficits. Again, if the government had not intervened in distorting the price levels, it could have averted the trade deficit-driven balance of payment crisis and reduced the inefficiencies due to poor pricing in the energy sector.

The Pakistani public is bearing the brunt of an economic crisis, with tax hikes and electricity cost increases. The policymakers must now start to address the financial concerns to rekindle economic activities as we enter the dawn of a new political era in the country.