Pakistan Economy: Situation far from satisfactory

As per The State of Economy Report 2021-22 released by State Bank of Pakistan, the country’s economic growth is expected to moderate considerably in FY23. Having delivered a headline growth approaching 6% in FY22, the country is expected to even miss the revised growth target of 3% to 4% this time round.

In addition, the government has targeted to reduce the fiscal deficit to 4.9% of GDP in FY23 from 7.9% in FY22, an outcome that would be achieved through both revenue and expenditure measures. Widening of tax base through elimination of exemptions, increase in tax rates and reinstatement of fuel taxes are expected to boost tax receipts. The non-tax revenues is also expected to improve with the re-imposition of PDL.

It must be kept in mind there can be slippages on the expenditure with respect to rehabilitation efforts. The IMF is insisting on higher collection in order to keep the fiscal and primary deficits within permissible levels. Analysts expect fiscal deficit to hover around 6.5% of GDP, despite higher tax collection.

This deviation could be due to: 1) higher debt servicing and 2) potential slippages during 2HFY23 owing to election and flood relief related spending.

Current account deficit situation is expected to improve beyond the original estimates of 3% of GDP in FY23 due to various demand suppression measures implemented by the government.

Likewise, commodity prices have also softened which will reduce the pressure on CAD even further. However, the loss to agriculture produce, induced by the recent floods, is likely to step up import of agriculture commodities, especially cotton.

Everyone must keep in mind that Pakistan’s economy is in an extremely fragile state at present with foreign exchange reserves slipping close to US$6 billion, barely enough to provide import cover of 1.16 months.

The external debt is reported at US$127 billion, equivalent to 40% of GDP. Pakistan faces significant challenges on the debt rollover. To this end, during 5MFY23, the gross inflow (including US$1.2 billion from IMF) has been only US$4.9 billion, while the amortization payments have been US$4.1 billion. The market has been jittery and analysts expect the volatility to continue throughout CY23.

As per the central bank, the recent flooding will impinge the country’s real economic activity through various channels, where the losses in agriculture sector arising from the damages to crops and livestock are likely to reverberate through the rest of the economy.

The current estimates for headline growth are 1.7% while analysts expect only a limited uptick in growth outlook during FY24, despite a low base effect, as the central bank would want to keep the indigenous demand in check to manage external account.

Fiscal side is not much better either. The GoP has targeted to reduce the fiscal deficit to 4.9% of GDP in FY23 from 7.9% in FY22, an outcome that would be achieved through a combination of both revenue and expenditure measures. FY23 has got off to a good start in term of collection with FBR exceeding its collection targets for 5MFY23.

There is currently an impasse over the IMF talks over the disbursement of the next US$1.0 billion tranche, with the fund and local authorities unable to agree on the quantitative targets. Analysts expect fiscal deficit to clock in at 6.5% of GDP, despite higher tax collection.

The GoP and the central bank are anticipated to keep the import bill under the wraps beyond FY23 in order to maneuver space on external front. This may result in interest rates remaining elevated and strict control of opening of L/Cs. The fallout, which may inevitably come as a result of adopting this strategy, will be visible in lower headline growth and tax collection. Analysts anticipate GDP growth to remain subdued beyond FY23.

 

Pakistan: Agriculture Victim of Catastrophes

Agriculture sector growth of 4.4% in FY22 was not only more than 3.5% seen in FY21, it also surpassed the targeted growth of 3.5%. This was largely due to a considerable increase in the output of important crops and the growth in livestock sector.

Within the crop sector, production of important crops increased by 7.2%. Sugarcane, rice and maize exceeded their targets; whereas, wheat fell short of meeting its target by 2.6 million tons. Cotton, despite higher production than FY21, missed its target by 2.2 million bales.

Fertilizer offtake also remained lower than last year, especially in the Rabi season, when the global prices surged significantly and domestic gas shortages emerged in the winter season.

 Despite this performance, the country had to import food products worth US$9.0 billion, while exports amounted to US$5.4 billion during FY22 – causing a deficit of US$3.6 billion in net food exports.

As the world grapples with rising global temperature, changing rainfall patterns and extreme weather events, the spillover of climate change to food security in regions such as Pakistan is becoming a source of concern for various reasons. The challenges to food security will intensify under climate change from floods, low productivity, poor infrastructure, among other factors.

Pakistan is the 8th most affected country by climate change due to rising global temperatures – losing around 0.5% of GDP in 173 climate-related catastrophes from 2000-2019.

In the worst-case scenario, United Nations Economic and Social Commission for Asia and the Pacific (UNESCAP) estimates average annual losses in Pakistan can be more than 9% of GDP, which would be the highest in South-Asia.

Increasing temperatures will significantly increase the risks to Pakistan’s food security since 77.5% of the agricultural production takes place in arid regions where temperatures are likely to increase more than in other climatic zones.

There are multiple channels through which food security will come under stress in Pakistan: 1) little room to expand area under cultivation (in particular for wheat) in the short to medium term under the prevailing technological constraints, 2) availability of water in the Rabi season acting as a constraint in the canal-irrigated areas of Pakistan, 3) land degradation due to imbalanced used of fertilizer and also waterlogging, 4) despite improving wheat yield in Pakistan over the years, climate change is likely to slow down the progress in the future – for instance global wheat yields are likely to drop by 17% globally due to changing weather patterns, 5) incessant population growth rate is posing resource availability challenges and 6 Increased threat of locusts, especially in the rice-wheat farm systems.

Pakistan economy after the floods

When Pakistan received tranche of US$1.2 billion from International Monetary Fund (IMF), it was anticipated that PKR would find solid ground against the US$. However, against expectations, the currency continued depreciation.  While the country’s borrowing needs for the year are fully met, the outlook beyond FY23 remains uncertain.

As per the latest IMF document, Pakistan’s gross borrowing needs over the next 5 years are expected to top US$180 billion, meeting them or even rolling them over will be an uphill task. In the short term, the country’s borrowing needs may increase further as floods have washed away standing crops in Sindh and lower Punjab.

The country will need to import various food items to fulfill local demand and the import bill will be driven by food items. With exports likely to remain lackluster, the onus falls upon inward remittances and FDI to balance the gap between inflows and outflows.

However, the remittance inflow, which has picked up of late, has remained largely disappointing. The same can be said for RDA inflows which have also started to dry up over the past few months.

The need of the hour is to increase monthly remittances and RDA inflows while stamping out currency smuggling from the country.

Pakistan’s monthly current account deficit (CAD) for August 2022 nearly halved to US$0.7 billion, lowest since April 2022, despite hefty oil and food imports amid recent flood damages. Import curtailment gained support from administrative measures, reducing trade deficit to US$2.9 billion (a decline 4%MoM). Remittances also increased during the month to US$2.7 billion, cushioning trade deficit adequately. The month also saw a Balance of Payment surplus owing to US$1.2 billion received from IMF. Going forward, bilateral and multilateral loans and international aid for floods rehabilitation will likely provide external support.

Trade deficit has declined by a mere 4%MoM to US$2.9 billion, largely owing to administrative measures on restricting non-essential items and policy rate impact. However, food imports have increased to all-time high of US$1.0 billion up 34%MoM.

Petroleum imports have been recovered at US$1.9 billion, up 30%MoM) in August 2022. The month also saw trend reversal in PBS-SBP import difference, which has mostly remained short-lived historically.

Resumption of energy supplies amid normalized working days and lack of Eid holidays, led to the rebound in textile exports, up 18%MoM. This has led to overall exports growth of 23%MoM; helping trade deficit to remain under US$3.0 billion level. 

Remittances recovered during August 2022, increasing to US$2.7 billion, up 8% MoM and cushioning the trade gap. Higher inflows from United States and Saudi Arabia have elevated overall base. Looking ahead, analysts expect decent growth numbers in FY23 backed by increase in Pakistani worker registration in GCC countries.

As per Board of Emigration and Overseas Employment (BEOE), around 531,000 Pakistanis have expatriated during 8MFY22 as against 288,000 and 225,000 during FY21 and FY20, respectively. Most of the expatriations have occurred towards Middle East countries which continue to enjoy better macros in a high oil price environment.

The overall Balance of Payment (BoP) turned to positive and stood at US$440 million. This is largely owing to US$1.2 billion tranche received from IMF under EFF facility. But to support overall BoP and foreign exchange reserves, Pakistan needs further support from international organizations and friendly countries, the deliberations with these lenders have already started. Analysts believe, the stronger US$ has continued to impact PKR, besides the low foreign exchange liquidity in the country; pushed PKR to near to its all-time low of PKR240/USD.

 Pakistan has been severely impacted by the recent floods as it has led to massive damage to country’s physical infrastructure including damage to homes, roads, bridges etc.

As per National Disaster Management Authority (NDMA) a cumulative loss of 1.76 million houses (partially and fully damaged), 390 bridges and roads (distance of 12,718km) has already taken place till September 14, 2022.

Therefore, there is a need to explore cement sector outlook, especially after floods. A brokerage house made an attempt to estimate the impact. The manufacturers cumulatively represent 76% of the total industry size in terms of plant capacity.

The survey results show that 75% of the participants expect domestic cement dispatches to fall in the range from 0% to 10%YoY in FY23 as against 2MFY22 fall of 35%. Around 17% of the participants anticipate growth of 10% or above and 8% expect it to increase from 0% to 10%. 

This likely fall in local sales is better than initial expectation of a larger fall due to floods and economic slowdown.

Cement manufacturers anticipate cement demand to pickup next year as 83% of the participants expect demand to remain in the range of 0% to more than 10% in FY24 whereas 17% of the manufacturers believe it will increase from 10% to 20% as construction activity will pick up once relief measures complete and the water starts receding.

The survey results also show that rebuilding or reconstruction activity could at least take 3 to 6 months. 42% of the participants expect it to start after 1 to 3 months whereas 42% of the participants believe it will start after 3 to 6 months. On other hand, 17% of the participants anticipate that it will start after 6-9 months.