The popular discourse on the economy of Pakistan has swung all of a sudden from one extreme to the other. The previous discourse was set in a tone of self-congratulation and loud pronouncements that everything was hunky-dory while the discussion these days is marked by a sense of alarm, doubts about the veracity of the statistics and an accusatory tone. Both these approaches are highly flawed and leave most Pakistanis in a state of confusion and anger. They do not know what the real state of the economy is, and what they should expect in the coming months. This article is an attempt to present a dispassionate and objective analysis of the economic situation and to sift facts from fiction, separate analysis from emotions, present the strengths and weaknesses and, ultimately, draw conclusions based on reality rather than rhetoric and half-truths. The data used here is not entirely drawn from official sources but also from a variety of international and domestic analysts, and researchers.

          There is one question that is uppermost in everybody's mind: is Pakistan on the brink of an economic meltdown? The country is certainly faced with a difficult economic situation. There is no doubt that the fiscal year 2007-08 was difficult for Pakistan's economy. The incoming government has, indeed, inherited a difficult financial position. The momentum of economic growth has slowed down, macro-economic stability has derailed, investor confidence is in a state of hiatus. The need to take tough policy decisions to get the economy back on track - on the one hand by reducing the imbalances, and on the other, by providing immediate relief to the poor and the vocal fixed-income earning classes - which poses serious political challenges to the incoming government. Externally, the environment is not favourable either. Turbulent financial markets, worldwide shortages of food and the escalating prices of oil and commodities make the task of economic management even more difficult. Lingering political uncertainty, a recalcitrant bureaucracy and truculent terrorists have further worsened the situation.

          It is true that both international and domestic factors have contributed to the setbacks. The former government's reluctance to make gradual adjustments in the prices of oil, electricity and gas, particularly in response to the changing international conditions; conflicting estimates of the wheat crop, the postponement of a new Global Depository Receipt and bond issues; the slowdown in further reforms, particularly in the area of governance and devolution; the paralysis in decision-making and follow-up on resolving economic issues and almost sole preoccupation with political issues and the judicial crisis have, without a doubt, hurt the economy. The absence of effective social protection and a social assistance framework accentuated the inflationary pressures, amplified the imbalances on fiscal and external current accounts and created wheat, electricity and gas shortages. It was not only the domestic policy or management lapses but also external factors that impinged heavily. The world prices of wheat increased by 92%, rice by 80%, edible oils by 100% and petroleum product prices have touched $117 per barrel. No developing country has remained insulated from these harsh and onerous developments, some of which were totally unforeseen and unanticipated. These negative developments in the last year have given a widespread erroneous impression that the gains achieved in the previous seven years were illusory in nature, based on fudged facts and figures. Nothing could be further from the truth. The last eight-year period has to be divided into two periods: 1999-2000 to 2006-07 and 2007-08.The performance of the economy in the two periods has been quite distinct - a lot of progress in the first period and regression in the second.

          The facts clearly show that as a result of developments made in the first seven years, Pakistan's economy has become resilient enough to withstand adverse shocks. Major structural reforms carried out between 1999-2000 and 2006-07, modest improvement in economic governance, restoration of investor confidence, credibility with international financial markets, reduction in the debt burden and other timely decisions paved the way for the turnaround and built the resilience of the economy.

           Per capita incomes have risen by 50%. Poverty has declined, although there is a difference in opinion on the magnitude of reduction - it lies between 5 to 10 percentage points. Unemployment is lower and the middle class has expanded. The fiscal space created by sound economic management as well as provision of international assistance allowed the government to raise the level of development expenditure five-fold during this period i.e., from Rs.100 billion annually in FY 99-00 to Rs.525 billion in FY 07-08. This massive expansion in development outlay allowed completion of many large projects, while work on 90 other mega projects is in different phases of implementation. When completed, these projects will bring large benefits to the economy. Privately-owned banks have expanded their lending base from 1 million borrowers to 4.5 million and extended loans to middle-class salary workers, small and medium enterprises, small and medium farmers and the poor (through microfinance). Foreign exchange reserves remained at a comfortable level and the exchange rate was stable. The credit rating of Pakistan was consistently upgraded by Standard and Poor's and Moody's. In the education sector, the allocation to the higher education sub-sector was raised ten-fold, the President's Education Sector Reforms programme was launched at a cost of Rs.100 billion to achieve universal primary education, strengthen science education and to promote public-private partnership. Health indicators have shown considerable improvement and the population growth rate has decreased from 2.7% to 1.8%.

          However, it must also be conceded that even before 2007-08 the economy had begun to come under several stresses. Inflationary pressures have intensified since 2005, hurting the poor and the fixed-income earners. External current account deficits widened, although they were fully financed by capital flows. Allegations of collusive practices by certain industries, hoarding and smuggling of wheat, insider information and manipulation of the Stock Exchange, and a lack of procedural compliance in the Pakistan Steel Mills transaction were repeatedly raised by the media but were not satisfactorily addressed. Income inequalities and regional disparities did pose a risk to national cohesion. These negatives about the quality of economic management and the communications strategy of the government cannot be swept under the rug.

          Some of the weaknesses that manifested themselves in recent months can also be ascribed to the failings of the previous seven years. The first was the inability to cope with the looming energy shortages. The plans and projects of additional electricity generation, natural gas imports and alternative energy sources remained unfulfilled at the same time when the government was pushing the demand side through massive rural electrification, new gas connections, substantial increase in the use of air conditioners and other gadgets by a rising middle class and the easy availability of consumer credit. Second, the government did not develop a sound food security plan in which subsidies were targeted towards the poor and vulnerable segments of the population.

          By all reckoning, it is obvious that the original targets specified for 2007-08 are unlikely to be achieved and the economic outcomes are expected to be much worse than what was anticipated and prescribed in the beginning of the fiscal year. The adverse international developments in the oil, food and commodity markets would have rendered these targets redundant in any case.

          The fact that the economy was left without anyone steering its wheels, particularly when the waters were choppy, made things worse. The only serious reservation I have pertains to the motive for the understatement of domestic interest payments in the original budget estimates. Whether it was sheer incompetence or a deliberate attempt to put a lower number to contain the fiscal deficit can be investigated, ascertained and disclosed to the public at large. But the non-achievement of many other targets and worsening of outcomes cannot be ascribed to across-the-board suppression or concealment of facts or fudging of figures but to the cumulative effect of indecision and paralysis in the management of the economy exhibited during the year by the previous elected government and the caretaker government and the harmful effects of an unanticipated external environment.

           The question of sustainability of growth in the future has to be addressed squarely. There is a legitimate concern among many quarters that the growth achieved in the past five years is unsustainable as it was driven mainly by consumption liberalisation. The popular notion is that the agriculture and manufacturing sectors were neglected. This is factually incorrect. The share of the manufacturing sector has risen from 14.7% to 19.1% of the GDP. A large increase in private sector credit enabled an expansion in aggregate demand. Manufacturing industries, which were operating at low capacity, got a boost due to rising consumer demand and some of them were able to attain profitability because of the lowering of the unit cost of production. The manufacturing sector recorded growth of 14, 15.5 and 10% in FY 04, 05 and 06, respectively, up from 4.5% in FY 02 and 6.9% in FY 03. As capacity was fully utilised in most industries, new investment was undertaken to respond to this rising demand. The total fixed capital formation in the manufacturing sector between FY 02 and FY 07 amounted to Rs.1,300 billion due to double digit annual growth. From Rs.140 billion in 1999-2000, the fixed investment level in 2006-07 jumped to Rs.404 billion. Along with manufacturing, the transport and communications sector was the recipient of investment totalling Rs.1,320 billion.

           As most of this investment is in various stages of implementation, the benefits will accrue over the next five years. It is true that complementary investment in power and gas was missing in this period, eventually leading to disruptive energy shortages and a slowdown in growth in the current year. But the cumulative public and private sector investment of Rs. 8,053 billion or US$134 billion made in the last eight years, still has to add to output stream in the coming years. The investment to GDP ratio had already moved up to 23% in FY 07 - almost five percentage points higher than the average rate of 18%. Political stability after the 2008 elections should also confer some dividends in the form of further improvement in this investment ratio.

          A new dimension has been introduced in the growth equation in the past one year i.e., high international food prices. If managed carefully and assiduously, this price boom can ensure food security for Pakistani citizens and also earn foreign exchange through exports of surplus food staples. The rice export capacity has already exceeded 3 million tons and an average price of $800 per ton can fetch almost $2.4 billion. Similarly, the wheat and maize crops in the coming year have the potential of producing exportable surpluses if proper pricing and marketing incentives are provided to the farmers. In case it is mishandled, food shortages and price hikes can lead to riots similar to those in other countries. The big question mark about the sustainability of growth in the future is how quickly and effectively the incoming government is able to tackle the issues of fiscal and current account imbalances, reassure the foreign and domestic investors about the direction of policies and governance, and how the energy shortages are mitigated. In case the new budget takes appropriate remedial measures and the energy situation improves in the coming year, the country should be able to resume its path on the growth trajectory that it has followed since FY 03. The economic fundamentals remain strong and only a course correction is needed.

          The above analysis clearly demonstrates that the economy is under stress and has gone off track but by no means is it at the brink of a crisis. I am quite confident that the present economic team is capable of putting the economy back on track in the next six months or so. The new finance minister, Ishaq Dar, is no stranger to economic management under difficult conditions and the price adjustments he has announced recently are certainly a step in the right direction.

          The first 100 days provide an excellent opportunity to take tough decisions needed to get the economy back on track - ring fence the poor and the fixed income groups by providing targeted subsidies, communicate frequently and constantly with the public, explain the rationale and justification for the decisions taken and listen to critics and commentators openly without being defensive.

          In the short term, the fiscal deficit has to be brought down by curtailing unproductive expenditures, passing on oil and gas price differentials to the consumers, slowing down the development projects that have not yet started and are not of a critical nature, accelerating energy conservation and generation programmes, taxing capital gains in the stock market earned through short-term trading, recovering agricultural income tax from land owners beyond a certain limit and imposing taxes on services that are outside the net.

          In the medium term, food and agriculture production, agro-processing industries, dairy and livestock production, marketing, storage and warehousing, and transport and retail distribution have to be given the highest priority, along with agricultural credit, insurance, microfinance and the upgrading of rural infrastructure. Devolution to local governments to allocate resources and manage their own affairs should be strengthened, along with fundamental reforms in the governance structure.

          In the long term, the industrial and export structure has to be diversified into more dynamic products, such as engineering goods and services, steel, petrochemical complex and oil refineries. These are the essential ingredients upon which the new structure should be based, along with heavy investment in skilled and unskilled manpower development.

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