The economy needs a reset

The government is all primed to sign a new IMF deal and celebrate more debt. Yet, it needs to reflect why we are in an endless loop of near default followed by lifelines from the IMF.

Doing the same thing and expecting a different result is futile. Eventually, it deepens the crisis. Countries that survive bad times rely on their own solutions. What we are faced with is not just a major economic problem, but a national emergency. Tried and failed tactics will not do.

Between 2008 and 2023, Pakistan borrowed $129 billion from foreign lenders. During this period, it paid back $136 billion in principal and interest, a net outflow of $7 billion. Each year, we paid $8.5 billion to foreign creditors, including about $2 billion in interest. This cycle of borrowing and repaying more than the original amount is a loss for the economy. Despite this, Pakistan still owes over $130 billion in debt. Those figures are about to get worse.

The IMF estimates that Pakistan needs $124 billion in the next five years. Of this, $87 billion would repay debt, and $25 billion – $30 billion would cover interest, over $5 billion annually. The cause of the problem is now considered the cure. The current account would be in control and reserves would improve, but entirely based on new debt.

This focus on avoiding default at the expense of all else is misguided. The only way to permanently avoid default is for the economy and exports to grow, enabling debt repayment.

In five years, our stock of debt would rise to $150 billion. We will move backward while impoverishing the people and hollowing out industry. At almost 6.0 per cent of GDP, the present foreign debt servicing is a huge outflow of dollars, and it is growing annually. Interest payments to Pakistani and foreign creditors exceed combined public spending on critical inputs such as education, health, and infrastructure. In FY2023, interest payments were 22 per cent more than net federal receipts, with loans funding all other expenses.

Citizens and businesses are struggling from years of economic adversity. Millions of young people enter the labour force yearly. But stalled industrial growth means fewer jobs. The government’s main response is to pass the economic burden onto the common people of Pakistan.

Such reasoning has weakened the economy’s growth potential. Our investment and productivity have fallen, while exports are at a standstill. Nor is there much value addition in exports. Between 2010 and 2019, Pakistan’s rank in the Competitiveness and HDI indices fell. World Bank data shows that, in constant 2017 $, our GDP has hardly risen since 1990.

The economy needs a reset. Pakistan must announce a long-term national development programme, with industrialization a key component. This would supplement the IMF programme – though staying within the agreed macro framework.

Our exports are stagnant because of a small industrial base. Pakistan must refocus on manufacturing. Out of the total world trade of $32 trillion, manufactured goods account for over $16 trillion. In the context of our economy, industrial revival should be a key goal for Pakistan.

Industrialization is not a single dramatic event. It requires a long-term plan with top-level commitment from both the public and private sectors. During this process, the economy will evolve through key stages: from low-tech goods to mass production of labor-intensive goods. As Pakistan earns forex, it can import capital goods for the means of mass production for import substitution, such as steel, chemicals and petrochemicals. Later it could move to high-tech products.

Although we have a few firms at each of these stages, their presence is small and only in a few sectors. Many are not globally competitive. Reviving the economy requires thousands more firms in many diverse sectors. To export, these firms must become efficient and competitive, and continuously improve their products. To achieve this, the private sector needs better support in the form of skills, R&D, logistics and financing.

Sustained growth comes from structural transformation, which involves creating new goods while steadily improving know-how to move up the value chain. Research shows a strong link between a country’s export mix and its level of development. Given our constraints, the government of Pakistan cannot upgrade all the public goods needed by industry. Therefore, the government and the private sector must select a few cross-cutting activities for support – those with the greatest chance of success. They should identify sector-specific constraints, which the government may help overcome. An empowered entity, such as the SIFC, could lead this process.

Pakistan has experienced a reverse structural transformation. The share of primary goods in total exports grew from 11 per cent in 2002 to 16 per cent in 2022. Revealing our anti-growth bias, even during periods of large foreign inflows, such as post-9/11 or CPEC, we did not diversify industry. To achieve a 10 per cent growth in FY24 exports, exporters cut the unit value of several items.

Low-hanging fruits to increase exports are available: manufactured goods we already produce but do not export as well as value-added agriculture. The government must identify and address sector-specific barriers faced by producers to help them increase volume and compete globally.

The economy requires SMEs on a massive scale in both urban and rural areas. SMEs do not have significant needs for imports or capital. They are a great resource for new ideas, entrepreneurship and jobs. SMEs will increase domestic demand for other goods produced in the country.

A large part of Pakistan’s growing population of young people is unskilled. They do not have regular jobs. To ensure social stability, the country must provide them jobs. There are many production activities where it is possible to create decent jobs for the unskilled. The government may support such industries. Pakistan has not effectively leveraged the demographic dividend. Economic success will come from improving the capabilities and engagement of all its people.

In urban areas, we should strengthen new-age industries, such as back-office processing, engineering services, freelancing, and fintech. With the right skills, financing and infrastructure support, these firms could quickly become competitive.

The government must understand the new dynamics of globalization. The path of low labour cost and low-tech exports followed by the Asian Tigers is no longer enough. Emerging economies are moving to higher-skilled manufacturing. That should also be our medium-term goal. Profits now come from talent and an economy’s integration into the global value chain. R&D, product design, and branding are key inputs. Traditional manufacturing increasingly combines digital services with production, disrupting the usual ways of doing business.

Invoking new ideas for aid use, the government must focus more on policy and governance issues while also supporting the balance of payments. At present, aid is just used for the balance of payments. Foreign inflows should upgrade internet connectivity and human capital. It should prioritize training and R&D, especially in the IT sector.

Pakistan must also seek grants for vocational training on a mass scale and online training assistance for specialized industrial fields. Aid may support firms to access technical personnel. To move up to higher-skilled manufacturing, the government of Pakistan must have a well-thought upskilling programme. Most of these schemes will not increase imports in a significant way.

In addition, the government must seriously improve governance and the business climate. Rather than help, governance is a hurdle. This too does not need capital. It needs leadership, training and reorienting the mindset of officials. Doing so would unleash the entrepreneurial spirit of the people.

The root cause of our weak economy is not a lack of capital, but a lack of organization, imagination and false policy choices in support of the political economy. This approach must change.

The writer is chair and CEO,

Institute for Policy Reforms. He has a long record of public service.