Friday, January 26, 2007
VIEW: Recent economic developments ââ¬âShahid Kardar
The real unknown is the state of the poor. The evidence on the growth in their real incomes and purchasing power is at best anecdotal and somewhat murky. There are huge and widening disparities in incomes and wealth between the rich and the poor
Recent economic data indicates a decline in the core inflation rate by two percentage points. Although this is welcome news, it will bring little comfort to the poor for whom inflation in essential food items continues to be in double digits. Prices of goods like oil and food tend to be affected more by supply and demand conditions than by monetary policy and by way of carrying more weight in the Consumer Price Index (of 40 percent), impact overall inflation and expectations regarding inflation more heavily. This suggests that the prices of essential wage goods are key factors in determining inflationary pressures and that monetary policy is not a major determinant of inflation in Pakistan.
Another welcome development of the State Bankââ¬â¢s tightening policy is the deceleration in the rate of increase in imports. This has been due in no small part to the downslide in the international price of oil and to some slowing down in imports of investment and other goods, the latter partly owing to the fact that the base of imports had become rather large for their increase to continue at rates of 30 percent per annum.
However, the adverse impact on the balance of payments will not be reduced substantially because the growth in exports has also decelerated. We are likely to still encounter the prospect of a huge trade deficit by the end of the financial year, perhaps even larger than the one witnessed last year. This gap in the external account will be financed by the surge in remittances, liberal availability of concessional aid and external borrowings at worldwide low interest rates. The rest of the chasm will be filled by GDRs (global depositary receipts) of OGDC, UBL, etc and proceeds of some other privatisations. The latter option is clearly not sustainable since we will at some point run out of assets to sell.
Some of the woes of the export-manufacturing sector are because of poor managerial practices, failure to revamp organisations to remain competitive in the new world order. However, the public sector must also share a large portion of the blame that has resulted in continued high costs of doing business for the private sector, thus compromising its competitiveness.
Apart from failing to provide decent quality infrastructure of roads and ports it either administers the prices of some key inputs like that of oil (which it had, until this week, maintained at a high level although its international price had fallen some time ago) or actually provides/produces them, like energy and fuel (electricity and gas) whose availability, prices, reliability and quality are critical ingredients in the cost structure of the industry. It also guides a taxation system of non-adjustable turnover and withholding taxes or levies that operate as taxes, raising the cost of production. Also required are timely decisions by the government in a rapidly changing global trading environment, another area in which Islamabad fares poorly.
While the value of the rupee has depreciated over the course of the year against other currencies ââ¬â and despite the pressure in the international currency market on the US dollar ââ¬â it continues to be artificially higher against the dollar. While the standard line by the government that market forces determine the value of the rupee makes amusing reading, it brings little relief to the export sector. The latterââ¬â¢s cost curve, for reasons mentioned above, has shifted above to a higher level with a rising gradient.
Even if the governmentââ¬â¢s contention about the market forces were accepted, is it a defensible strategy, considering that our domestic rate of inflation is significantly higher than that of our trading partners and competitors? The lowering of profitability levels in the export and modern sectors of the economy dampen the incentive to invest in these sectors. Hence, the shift into non-productive activities like real estate and the stock exchanges, and to some extent in manufacturing for the domestic market in the more protected industries.
If China were to follow this advice the value of the RMB would be appreciating. Both India and China, by not choosing to sharply revalue their currencies upwards and maintaining highly competitive currencies have made it exceedingly difficult for our exports to compete internationally. When we eventually decide to adjust the value of the rupee (perhaps when there are no privatisation proceeds to finance part of the trade deficit), others would have captured some of our export markets. It would be awkwardly difficult, if not impossible, to regain those markets. Of-course, adjusting the value of the rupee would add to inflation to some extent, but this would be for a short-term and the impact would not be that debilitating (manufacturers cannot pass on the entire increase in costs).
The other area of concern is the governmentââ¬â¢s budgetary deficit, reflected in the increasing resort to direct ad hoc borrowings from the State Bank (reflecting poorly on the latterââ¬â¢s claims of independence), as well as from the banking and non-banking sectors. The example of the latter is the use of national savings schemes to raise money from institutions (ostensibly to force commercial banks to pay higher interest rates on deposits).
In the opinion of this writer, the availability of consumer finance and the possible ill-advised easing of interest rates some time in early 2007 will ensure continued healthy growth in the manufacture of durable goods financed from this source of funding. Hence, we are likely to soon see the production of motor cars rise to 350,000, that of motorcycles to 1 million and that of TV sets to 1 million and beyond, and a similar spurt in the demand and supply of refrigerators and washing machines.
The progress of the domestic manufacturing sector producing other consumer goods will depend upon the ability of domestic industry to compete with imports through efficiency improvements, entrepreneurial willingness to narrow gross profit margins and the ability of the CBR to check under-invoicing of imports, etc.
That part of the domestic retail sector providing luxury goods and services to the more privileged households, who have made lots of money in the last 3-4 years (from the temporary boom in the real estate and stock market and the increased production of goods funded by consumer finance), will also continue to thrive in the near future.
The real unknown is the state of the poor. The evidence on the growth in their real incomes and purchasing power is at best anecdotal and somewhat murky. There are huge and widening disparities in incomes and wealth between the rich and the poor (with inflation worsening these imbalances), who also seem to be polarised along ethnic and regional lines). This has been the major cause of the deterioration in the law and order situation, growing alienation, disaffection and social discontent. In this context it is important to bear in mind that the greater the income and wealth inequality the more difficult it will be to reduce poverty through economic progress.
The author is a former finance minister of the Punjab
http://www.dailytimes.com.pk/default.asp?page=2007\01\26\story_26-1-2007_pg3_2
