Tackling the Economic Goliath

The recent floods have posed new challenges to already struggling economy 

By Muhammad Ragheeb

Pakistan’s economic crisis which the current coalition government found itself thrown into six months ago seems to be slightly under control and clouds of an imminent default have subsided for now. The release of the IMF tranche a month back has allowed some stability to state bank reserves and has restored hope that other sources of multilateral funding from international donors will also be approved thus stabilizing our situation to some extent.

 However various challenges still remain, now further exasperated by the devastating floods as well as by the Federal Reserve increasing interest rates to battle inflation in the United States. Headline inflation in Pakistan has crossed 40% and is the highest it’s been in the past 50 years since the separation of Bangladesh. 

A commodity super cycle post Corona led to prices of raw materials soaring in the international market which drastically increased our imports and greatly increased our current account deficit leading to a balance of payment crisis and thus a rapid fall in our currency value. The situation was made worse by the government giving subsidies on oil and energy which greatly increased consumption of these imported commodities as well as by the delay in the restoration of the IMF program which deprived us from access to dollar inflows.

The recent floods however are a huge dent to recovery efforts and have greatly worsened our economic situation. More than 33 million people have been affected by these floods with many thousands killed. Huge tracts of Sindh, Baluchistan and South Punjab have been submerged under water now for months.

The cost of damages from these floods is estimated to be around 30 billion USD. Along with the humanitarian crisis that these floods present, they are also causing increased inflation and currency devaluation. The floods have destroyed vast areas of cropland that was being used for cultivation of rice, wheat, vegetables and fruits. In the province of Sindh so much land has been submerged under water that a 100 square km artificial lake has emerged in the heart of it. 

Severe flooding has led to roads and railway tracks being cut off, damaging supply chains and the ability of supplier’s to reach urban markets. This has led to fears of a food shortage developing in the country and thus is forcing importers and government to spend dollars on imports of these commodities from Iran, Afghanistan and China.

 This in turn increases demand for dollars and further devalues the rupee. The floods have also increased inflation since the lack of supply from domestic sources is pushing prices of food items even higher. Food security is already very precarious in a country of 270 million people like Pakistan and hence food inflation has hit already marginalized segments of society even harder.

As far as the response from international community is concerned, lack of desire and ability of foreign donors to provide aid seems to be greatly reduced this time around as most countries themselves are struggling with record inflation and thus have less finances to spare for humanitarian endeavors abroad.

Unlike the 2005 earthquake or the floods in 2010, the response this time has been very timid and Pakistan will have to largely rely on its own resources which is bound to be a huge drain on our limited finances and will greatly slow growth in the country in the short term whilst increasing imports for reconstruction activities in the long run. With our meager financial resources this will truly be a monumental challenge for Pakistan. 

As if our internal problems were not enough, another new issue confronting Pakistan is the rapid increase in interest rate by US Federal Reserve to combat inflation in the US. The dollar is at a 20 year high against other currencies. Even relatively stable currencies like the Euro and the Yen have taken a beating against the dollar and the Pakistani rupee is no exception. 

The increasing strength of the dollar not only makes imports more costly for us but also decreases foreign investment in the country which is necessary for economic growth. This happens because with increased interest rates, people liquidate riskier investments in countries like Pakistan and flee to safe haven of the dollar as investment in it starts giving greater returns. The Federal Reserve is expected to continue raising interest rates until U.S inflation falls to around 2%. Therefore the value of dollar is expected to continue to rise and outflow of investments in the short to medium-term will persist. 

These factors have led to Pakistan’s currency being the sixth worse performer globally in 2022 as it has fallen by around 30% this year. This has had negative effects on our national debt, inflation and public finances, greatly impacting the standard of living of an average Pakistani citizen. The government has to swallow bitter pills such as removal of subsidies, rationalization of energy prices as well as increased taxation in order to continue to access multilateral funding and prevent default.

 It also must quickly move to sale assets such as Pakistan Steel Mill and shares in public sector companies in order to materialize the investments promised by Gulf States since those are a major component of our budget estimates this year. Along with raising additional finances through such measures, Government also needs to discourage all non-essential imports as well as imports linked to non-export oriented industries such as automobiles to stem the outflow of dollars.

 Increased focus on enhancing remittances through legal channels is also important along with boosting exports to ensure that we achieve a current account surplus this year compared to the multi-billion dollar deficit we are currently running. Only by undertaking such measures can we ensure that Pakistan does not go the way of countries like Sri Lanka which failed to take above mentioned steps in a timely manner and is now paying a huge price.

Muhammad Ragheeb

ragheeb40@gmail.com