Falling into the debt trap

[Neo]

Falling into the debt trap

By Aftab Ahmad

THE United States’ indebtedness is estimated at $8.5 trillion against its GDP of $10.9 trillion. Economic observers in the US have started realising that if the trend of reckless borrowing is allowed to continue, the level of indebtedness would soon become unsustainable.

These observers are of the view that raising of taxes and cutting of government’s expenditure is the required prescription.. But, they know that no one would listen to them, at least for the time being.

The head of the US General Accounting Office (GAO), David M Walker, is reported to have told an audience of economic elite on October 28 in Austin (Texas), ‘We the people have to rise up to make sure things get changed. This is about the future of our country, our kids and our grand-kids.’ His warning in plain English was, ‘The ship of state is on a disastrous course and will founder on the reefs of economic disaster if nothing is done to correct it.’

Walker said the US has dug itself in a ‘fiscal black hole’. He has reportedly made a commitment of travelling throughout the country until the 2008 elections to get the message across, so that the new US government would be bound to take necessary action to address the problem.

The current US predicament is obviously the result of massive fiscal deficits in recent years together with the growing trade deficit, which is in the range of $450 – 500 billion a year. The fiscal deficit is in hundreds of billions of dollars. Bill Clinton’s fiscal policies had created a surplus budget, towards the end of his tenure.

However, after his exit, the Bush Administration had to immediately deal with an economic downturn. Since 9/11, the economy was hit hard as billions of dollars have been spent on the war against Iraq and ” terror.

At the same time, the trade deficit has grown alarmingly at a time when the international oil prices have sky-rocketed. As a result, the US indebtedness has risen sharply.

The position summarised about the US budget and trade deficits resulting in growing indebtedness reminds us about our own situation in Pakistan, which is not much different. During the last seven years, the government had been able to bring down the budget deficit from 6-7 per cent of the GDP to around three per cent.

However, the fiscal deficit has again gone up to 4.2 per cent of the GDP in 2005-06. Similarly, the trade deficit which had remained at a lower level until 2003-04 started rising thereafter and in 2005-06 it crossed the $12 billion mark.

The current account balance which had remained surplus during the 2001-02 – 2003-04 had turned into deficit and in 2005-06 the deficit amounted to more than $5 billion. The country’s external sector has become vulnerable to unexpected shocks.

What is more alarming is that the trade deficit during the first quarter of the current fiscal year at $3.16 billion is considerably higher than the trade deficit of $2.4 billion recorded during the corresponding period of last year, which suggests that the trade/current account deficits during the current fiscal may even be higher than last year.

At the same time, the fiscal deficit during the current year may also remain at a higher level due to relief/rehabilitation-related expenditure in connection with recent monsoon floods, at the top of earthquake-related expenditure.

The State Bank of Pakistan (SBP) had cautioned a few months ago that if the current account deficit during fiscal 2006-07 turned out to be higher than the one envisaged by the government, it may be difficult to sustain without either substantially raising external debt, recourse to an undesirable drawdown in reserves, or strong measures to contain aggregate demand or a more focused policy of containing external demand.

Would it be advisable to use the option of substantially raising the country’s external debt? Although the total external debt plus foreign exchange liabilities had marginally gone down from $38.9 billion in 1999 to $36.6 billion in 2005, the internal public debt had sharply increased during the period from Rs1575.9 billion in 2000 to Rs2248.7 billion in 2005.

It would not be advisable to substantially raise the country’s external debt at a time when our exports had slowed down and the foreign exchange reserves were not showing any improvement. An increase in the external debt in the circumstances would undoubtedly increase the vulnerability of our external sector.

Similarly, withdrawing from reserves to meet the balance of payment deficits would not be advisable, since the foreign exchange reserves are already at a lower level. Foreign exchange reserves of $10 – 12 billion looked dignified and respectable, when the current account was showing a surplus (from 2001-02 to 2003-04). However, now that the trade deficit and current account deficit stand at $12 billion and $5-6 billion respectively, fiscal deficit is on the increase and the total debt has gone up, the reserves of $10-12 billion have started looking dangerously insufficient.

At the moment, the foreign exchange reserves are one- third of our external debt, one-sixth of total debt and less than half of our annual imports. In such circumstances, instead of thinking about withdrawing from the reserves, the government and the SBP should make all possible efforts to bolster the reserves, as China and India have done.

As regards the last option suggested by the SBP, that is, to contain aggregate demand (or following a more focused policy to contain external demand), the SBP has been tightening the monetary policy for the last couple of years but so far the measures taken have not yielded the desired results. Neither inflation has shown any appreciable decline nor has the demand for imported goods come down.

Is it because the commercial banks are not fully cooperating and are advancing loans liberally as before or is it because the government’s fiscal policy is not moving in line with the monetary policy?

In any case, the SBP should find out what is behind the failure of its measures in producing the desired results and it should redouble its efforts to achieve its objective.

The government should also endeavour to bring down its fiscal deficit to the lowest possible level by cutting its non-development expenditure. It has become necessary to curb the excessive and speculative demand, in order to restore the health of the external sector and to bring down fiscal deficit and inflation.

The goal of the government should be to reduce the country’s indebtedness, bolster foreign exchange reserves, do away with trade/current account deficits and bring down fiscal deficit and inflation.

http://www.dawn.com/2006/11/13/ebr9.htm

 

[araz]

My response for whatever its worth.
It comes as no surprise that a country who,s leaders( not just Musharraf) want nothing less than brand new every time there is a new Government, and squander Government money like no bodies business should come to this state. We have been banging our chest for quite a few years about how our economy is growing and how our reserves are creeping past this or that mark. None of us realize that once the dust has settled, it is what productivity we have achieved out of this period of growth that matters, and frankly the improvement is either marginal or none at all. We have been forever relying on Textiles and Agriculture to boost our trade and bolster our balance of payment, but it has never worked. We are prone to excesses, (Musharraf,s million Dollar American visit)have a lumbering Beaurocracy, that is a white elephant and totally inefficient and corrupt to boost,our overheads are high, and we always want" Foreign".
Taking a look at the investment that has been done, most has been in the building sector, or in the odd refinery. We have virtually no infrastructure for highyield items such as electronics, mechanical,and other items. Whereas our infrastructure has improved, it stiil needs a lot of monetary input, not mentioning resistance bt certain vested interests, who do not want to see progress. We educate our boys and girls not to serve our country, but so they could go out to "Vilayat or Dubai" to earn money. When these boys want to come back they are discouraged to such an extent that they return to take up 3rd rate jobs rather than play a leading role in their own country.They settle for persecution and being treated as foreigners in exchange for monetary benefits.
the questions that need answering are how can things be improved. The salient features should be:
A) Law and order with zero tolerance and absolute impartiality.
B) Lack of bias in job selection.
C) Consistent and stable leadership for a sustained period.
D) Maximum financial input to develop infrastructure honestly and with a vision.
E) Downsize the Beaurocracy and cut non developmental expenditures.Make Governmental procedures simple and tranparent so that everyone can understand what is needed and required.
F) Set realistic targets and hire and fire on the basis of achievment.
G) Downsize the armed forces if possible and drastically cut nondevelopmental expenditures.
H) Make judiciary an integral and independant arm of the ruling Quartet, with Policing and law and order in its domain.
I) Total transparency in as many of the Governmental procedures as is possible. Make people accountable and reward achievements and punsh in efficiency/ irregularity.
J) All machinery should be imported with a view to either technology transfer/ co development.
K) More BOT/ Barter agreements in trade rather than outright loans if possible.
All of this needs total honesty from the leadership and unfortunately our leaders are like us.
Araz