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Moderation Amidst Lingering Challenges: A Pre-Budget Economic Review

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By Madiha Rubab

June 12, 2024 (MLN): The incumbent government of Pakistan has been grappling with formidable economic and financial challenges in the aftermath of the political turbulence. However, the country has been buoyed by one of the strongest agricultural outputs in decades, with an impressive 6.25% growth rate – an 18-year high.

This robust agricultural performance has contributed to agriculture now accounting for slightly less than 25% of the country’s GDP. Bumper crops of wheat and rice have led to record production levels of 31.4 million tons and 9.9 million tons, respectively, marking an increase of more than 10% in local production.

Notably, the headwinds of higher commodity prices and the inflation supercycle appear to have subsided. International oil prices have softened, providing relief to the government and businesses on the input side, while non-oil commodity prices have maintained their ground or inched upwards.

The industrial sector and Large-Scale Manufacturing (LSM) have been the laggards during this period, slow to join the recovery bandwagon.

With the monetary policy stance softening on the back of lower inflation levels, credit conditions are expected to follow suit, easing business conditions.

Industrial output has already started showing growth in Q4 FY24 and is anticipated to support the economy as agricultural prices enter a stabilization phase in the latter half of FY25.

Consequently, Pakistan has witnessed a moderate real GDP growth of 2.38% in FY24, compared to a contraction of 0.2% in FY23.

While this growth rate is lower than the long-term average of 4.7% and the last five-year average of 2.6%, it exceeds earlier projections made in the first half of the fiscal year.

The reduction in the current account deficit has helped improve foreign exchange reserves to around $9 billion, despite large debt repayments and weak official inflows.

The latter half of FY24 has started on a positive note, posting a current account surplus for three out of four months, narrowing the FY24 deficit to only $202 million.

Worker’s remittances, rice exports, and value-added textiles have delivered strongly, supported by lower import-related commodity prices and improved local agricultural output. As industrial output picks up, reserves and exchange rate parity may come under pressure due to increased demand for imported commodities.

Swift action must be taken to secure alternate sources of funding and mobilize external financing, either through privatization or international bonds.

Fiscal discipline has generally been lacking within political governments in Pakistan, especially coalition governments. The current budget and the one under discussion have focused primarily on tweaking rates to capture higher tax revenues, with no groundbreaking steps taken to broaden the tax base.

Unless measures are taken to manage the energy sector leakage, restructure public sector enterprises (PSEs), privatize loss-making entities, and tax the untaxed agricultural sector, the economy will continue to limp towards stabilization.

Inflation has remained tame, with the FY24 figure widely expected to be in the range of 24%, followed by a sharper tapering in FY25 to below 14%. Real interest rates remain significantly positive, which is crucial for guiding inflation towards the medium-term target of 5–7%.

If this path continues, Pakistan could potentially see interest rate drops of up to 6–7% during FY25, mostly near the end of the first half.

The balance of payments and external accounts continue to be the economy’s wild cards. Economic conditions appear to indicate that things are under control, and the IMF seems to be assisting the government in its economic endeavours. The FY24 close would see SBP reserves slightly below the double-digit numbers.

The last few months have witnessed improvements in clearing the backlog of dividend and profit repatriations and lowering the backlog of imports. Higher interest rates have attracted hot money within the system to capture yield arbitrage, which may be short-lived due to falling local yields.

It is imperative that the government moves quickly to privatize PSEs, especially the loss-making ones, and successfully tap into the international market to restore confidence toward Foreign Direct Investment (FDI).

Overall, economic growth is expected to remain moderate in FY25, with a sharp dip in interest rates and a minor uptick in the USD/PKR parity.

This assessment is based on the assumption of a slight moderation in agricultural output, an upside in industrial output, continuation of ongoing stabilization policies, continued support from multilateral agencies, and minimal upside in input-side commodity prices.

Madiha Rubab is a multi-credentialed finance expert, holding qualifications as an Associate Chartered Accountant, LLM, LLB, MBA in Banking and Finance, JAIBP, CAMLP, pursuing FMVA. A perpetual learner driven by intellectual curiosity, passionate advocate for integrating ESG principles and AI innovation into the financial sector.

The author is an independent economic analyst and writes on Linkedin.

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