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Understanding Pakistan’s economic woes

by Muhammad Ragheeb-ud-din
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Since its inception, Pakistan’s economic growth has largely been dependent on foreign aid, cheap loans, and remittances with very little focus on export growth led by manufacturing and IT services. It has also been chronically affected by huge fiscal deficits due to low tax collection and very high spending largely because of the inefficient and bloated public sector. Pakistan has historically received tens of billions of dollars in cheap loans and grants from the United States, UAE, Saudi Arabia, and China that have allowed massive state funding for development as well as day-to-day operations. Analyzing our economic model helps us understand why till now we have failed to grow from a low-income country, whose GDP per capita is lower than the blockaded Gaza Strip, into a middle to high-income country like several of our Asian neighbors such as China, and Vietnam, and India.

A comparison with our more successful counterparts shows that starting in the 90’s China, India, and Vietnam attracted a huge amount of investment from Western countries in order to establish themselves as manufacturing hubs and exported to the same Western countries to fuel their earnings, stabilize currency and finance domestic growth via infrastructure, education and healthcare investments. All three have recent annual exports bigger than the GDP of Pakistan and have seen dramatic Per Capita income rise as well as a reduction in poverty. India for example has reduced Extreme poverty from around 40% in 1994 to 11% today. Pakistan on the other hand has relied less on Private foreign investment and foreign companies shifting their manufacturing to Pakistan and more on foreign debt inflows both bilateral such as loans for China Pakistan Economic Corridor project and multilateral such as from the International Monetary Fund. However, in the past thirty years, they have failed to boost exports on par with our neighbors. In the past twenty-five years, we have shown only four times growth in exports whereas for India it is around fourteen times. Even more worrying is that our imports have shown a far higher growth than exports leading to increased demand for loans to finance consumption in the country. This has led to constant growth in our foreign debt as well as a constant decrease in the value of our currency which in turn has led to a host of problems such as very high inflation, low wages low foreign investment, and fewer jobs. A strong manufacturing and services export sector is necessary to boost per capita income which in turn leads to greater consumer spending and thus higher growth due to greater economic activity. Samsung Group for example accounts for twenty percent of total South Korean exports and GDP. It is widely accepted that the success of South Korea is due to the success of Samsung which is entirely based on the export of manufacturing and services.

Our second major issue has been huge fiscal deficits fuelled by low tax collection and wasteful spending. Pakistan’s tax-to-GDP ratio is one of the lowest in the region. The average for the Asia Pacific region is around 19.8% whereas even after improvement by 2021 ours was 10.3% in 2021. This is because of the inability of the state to identify and collect direct taxes such as income tax from wealthy businesses and individuals due to corruption as well as the incompetence of government employees. Furthermore, several sectors such as textile exports, agriculture, retail, and real estate are neither properly documented nor are fully brought under the tax net due to various exemptions. Retailers for instance pay no income tax whatsoever whereas the World Bank in its report highlighted potential tax generation of Two trillion via proper documentation and taxation of this sector. Exporters up until now were only paying 1% tax on their export proceeds which caused hundreds of billions in lost revenue. Besides low tax collection the government also wastes huge sums annually on loss-making state-owned enterprises (SOEs’), theft of Power and Gas as well as on pensions, salaries, perks, and other non-development expenses. SOEs alone cost us around 500 billion in losses in 2021 to 22 while power theft and line losses were 520 billion separately in the same fiscal year. The biggest bill however is pensions and salaries. 3 trillion is the cost of public sector pay along with 1.5 trillion which is spent on total pensions. After adding the pay of project-based employees and SOE workers the total rises to 6 trillion. After the inclusion of military salaries and pensions, the number rises to 7 trillion. Given that our total revenue in the 2022 Fiscal year was 13 trillion and 7.3 trillion was debt servicing cost it is safe to say that the 250 million people of this country live only to pay government debt or the salaries of its employees. Everything else from hospitals to schools to development spending has to be funded via further borrowings which may or may not fully materialize and end up further fuelling future fiscal deficits at a greater pace.

Our economic model of foreign borrowing and government overspending has left us prone to boom and bust cycles. When loans are readily available we spend them freely on infrastructure and further expansion of civil service employees without taking into account Returns on these investments. This initially fuels growth which leads to jobs and greater spending but as soon as inflows stop the entire economy grinds to a halt. Rapid inflation, lack of jobs, and less development are the knockoff effects of such cycles which have prevented Pakistan from rising like the rest of the “Asian tigers” group of which it once was a member. Hopefully by making a change to our economic model these two faults can be arrested and the country can rejoin said group in the coming decade.

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