Growing vulnerabilities By Khurram Husain


IT is hard to recall the last time a growth spurt in our history started facing critical challenges so fast. It was only a few weeks ago, in the run-up to the budget, that we were all told to celebrate the return of GDP growth to four per cent and anticipate even more momentum in the fiscal year ahead. The budget sought to put more wind in the sails of the economy and for a while was hailed by the business community for all the tax breaks that they thought they were about to receive.

And then we read the fine print and realised things are not as they seem. Now the challenges are growing faster than the economy and the business community is finding out that all that glitters is not necessarily gold. As the data pours in, a picture is slowly emerging of manufacturing having hit a peak, and the external sector sinking back into the deficits it had so jubilantly just been pulled out of.

Over the course of the last year, we have seen ruling party people loudly telling us to celebrate and be joyous at various economic indicators. Chief among these was large scale manufacturing (LSM) which saw rising activity since around August of 2020, hitting a peak in January of this year, and the current account that swung into surplus around last summer and stayed there through most of the fiscal year. We were told this is a critical turning point, that the economy has turned a crucial corner and from here on growth will be the story of the economy, this time on a sustainable basis, without leading to a crash like it has every other time.

But no sooner had this story begun to sink in than something important seemed to change. Even as the government was busy celebrating its 4pc growth figure (heavily challenged by the community of Pakistan’s economists), than the LSM index began coming off its peak and the trade deficit returned, pushing the current account back into negative territory from where it had come.

Activity picks up while the gravy train runs, but slows down almost as soon as the gravy runs out.

By the month of May, the LSM index was down 20pc from its peak in January and has registered steady declines every month since then. The decline is even sharper in the manufacturing index the data for which is provided by the manufacturers themselves, and has declined by almost 33pc in the same period. In fact, the overall LSM index now returned to where it was back in September, when the growth spurt began.

The committed ones will try and point out that the slowdown is not indicative of broader trends in the economy, that it is being driven by specific sectors like sugar, wheat or oil. But the fact is that the same numbers they were touting a few months ago are today painting a changing picture. The simple fact here is that this growth spurt was produced through heavy inducements from the state, whether fiscal or monetary ‘incentives’ (which is a fancy word for government handouts), and by January of 2021 those inducements had run their course.

Spurring growth through inducements has this downside. Activity picks up while the gravy train runs, but slows down almost as soon as the gravy runs out. So now they have to arrange the funds for a second round of such stimulus spending, which is what lies behind the sweeping tax breaks just announced for the automobile sector, which carries heavy weightage in the LSM index. If auto sales pick up as a result, it could well impart fresh momentum to the LSM index, giving ruling party devotees a few more data releases to dance around with for a few months.

Something similar has happened in the external sector. From a deficit of $8.56 billion in calendar year 2019, the current account balance swung into a surplus of $245 million in 2020. But in the first three months of 2021 it swung back to a deficit of $274m, and then registered a further deficit of $188m in April and $632m in May. We await June data to see whether or not this direction sustains itself, but between January and May of this year the current account has already seen a deficit of more than a billion dollars.

Read: The economy is growing, but for whom?

More importantly, the trade deficit in goods has surged by 26pc in the period running from July to May. The overall balance of trade has been helped by a slight drop in the import of services, otherwise the emergence of the trade deficit at the same time as the economy begins to show signs of renewed activity points squarely towards the re-emergence of the same vulnerabilities that have historically swamped every growth spurt in our history.

Here is their dilemma now. Having launched the gravy train of ‘incentives’ for industry on a massive scale last year, they now have to find ways to keep it going or it will grind to a halt as quickly as it started to move. This is why new ‘incentives’ for industry are being announced every month, and public spending will need to kick in very quickly to further support demand in the economy. But these ‘incentives’ eat away the fiscal base on which economic stability is ultimately pegged in our country, and if left unchecked, the resultant growth from these ‘incentives’ depletes the foreign exchange reserves. The cycle inevitably completes itself every time as growth gives way to a crash.

Now they have to find ways to provide the fiscal space needed to pull this off as well as to shore up reserves. This is the game now getting going. For a while they will manage things through more short-term borrowing. And while the growth lasts they will paint it in exuberant colours, claiming they have broken the shackles of the past and set the country on the path of lasting prosperity. But the underlying vulnerabilities are real and growing.

The writer is a business and economy journalist.

Twitter: @khurramhusain

Published in Dawn, July 15th, 2021