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The cat is out of the bag. It was an interesting last quarter - the growth story is becoming real while the external pressures are emerging to be even more threatening. The monetary policy decision making has to be proactive. Good news that inflation has remained in control and is likely to remain well within the target of 6 percent for FY18.

The economy has shifted gears in 4QFY17; the LSM grew at 5.7 percent (11MFY17), which is higher than the provisional 4.9 percent in FY17 based on 9MFY17 data. This implies that actual GDP growth could be higher than provisional 5.3 percent for FY17. Private sector credit shows a similar story as it picked up in the fourth quarter - by 136 percent on yearly basis in Apr-Jun, while the full year growth stood at 42 percent.

A similar story for PSEs - a growth of 225 percent in credit for FY17; but the momentum has slowed down in the last quarter. The story till 9MFY17 was that government investment was primarily fueling growth and in the previous year (FY16), the government support was pushing the economy.

Now the confidence is there and private sector is driving momentum which is broad based. It is not fair to form an opinion based on one quarter performance, but the trend is there and seems to have legs barring an external shock. The implicit model is slowly building external vulnerabilities.

The shift in gears has an implication on external vulnerabilities as current account deficit shot up in the second half of the fiscal year, especially in the last quarter. Imports are growing at alarming rate while exports have remained stagnant. In FY16, home remittances covered 103 percent of goods' trade deficit, while in FY17, the coverage has thinned to 71 percent.

Overall current account deficit crossed $12 billion or 4 percent of GDP. FDI covered a little over $2 billion, while the reserves are down by $2 billion in the year. The gap of around $8 billion is covered by debt in one form or another. That trend is not sustainable. The IMF expects gross financing needs to reach $13.6 billion in FY18, while FDI would not even cover $3 billion of it. The immediate challenge is to keep reserves at current level and the only apparent way to do so is to raise debt.

The size of the economy is growing and external foreign exchange earnings avenues such as remittances are not growing massively. Other avenues such as CSF are becoming minuscule in the game; and even that is hard to come seeing the US stance on Pakistan. Similarly $2-3 billion in FDIs is too little a cushion.

The immediate need is to slowdown the pace using policy tools by the SBP and think of fresh avenues of foreign exchange earnings in the medium term. Without it, the growth momentum will continue and external imbalance would keep growing. Pakistan may be able to fetch debt in the short to medium term (1-3 years); but eventually the reserves would fall to levels that compel policymakers to once again knock those very familiar doors of the IMF.

The smart play is to anticipate a crisis in the medium term; and start managing today. A combination of monetary and exchange rate tightening is the order of the day. That is a recipe to avert a sudden shock - the debt bubble is growing and, if it is stretched, it could have higher impact when it bursts. A 5-7 percent currency depreciation in a staged manner and some rounds of 25 bps tightening could be a prudent approach.



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