Need to push for sustainable economic growth

LAHORE: Government policies certainly affect economic performance, but progress in liberalization and macroeconomic stabilization should not be considered sufficient to trigger sustainable growth.

Liberalization has not put the Pakistan’s economy on a sustainable growth path as it was not complemented with strong institutions, that are vital in any economy and planners overlooked the crucial importance of these institutions for good performance.

Institutional capacities depend to a large extent on the combination of the rule of law and democracy.  In fact global data imply that not only democratic governments but authoritarian regimes with the strong rule of law can deliver efficient institutions that ensure sustainable economic growth.

“Liberalization was carried out without strong market institutions in Pakistan that led to the extraordinary output collapse. The importance of liberalization cannot be underscored but the devil is in details, which often do not fit into the generalizations and make straightforward explanations look trivial.”

The country lost its way because democracy here is illiberal. Authorities introduced competitive elections before establishing rule of law. This is because democracy is periodically reintroduced in Pakistan when the dictators lose control over law and order and are forced to hand back power through elections. The democratic regimes thus always inherited institutions that were weakened by dictators in a bid to maintain their hold on power.

To make the matter worse both the dictators and the democratic government after assuming power instead of shutting down completely some public sector programs  initiated by their  predecessor kept all programs half-alive, half-financed, and barely working. This raised the cost of pending programs and resulted in wastage of public funds locked in incomplete programs. Both dictators and democrats then initiated their own programs from the depleted resources. This led to the slow decay of public education, health care, infrastructure, law and order institutions, and R&D institutions. Virtually all services provided by the government from collecting custom duties to regulating street traffic are currently the symbol of notorious economic inefficiency.

Every ruler concentrated on public appeasing policies never seriously pursued reforms to remove market imperfections. They feared backlash from their electorate as reforms are associated with the temporary loss of output. In all economies where the institutions are strong the decline in the production of non-competitive enterprises and industries is offset by an increase in the production of competitive industries and enterprises.

Economies with weak institutions underperform as the informal sectors dominate manufacturing and services sectors. This also happens because  of barriers to capital and labor flows such as poorly developed banking system and securities markets, uncertain property rights, the lack of easily enforceable and commonly accepted bankruptcy and liquidation procedures, the underdevelopment of land market, housing market and labor market infrastructure. Pakistan is plagued with all these deficiencies baring banking system that is in better shape. Growth however cannot be expected if only one or two institutions out of more than dozen are performing.

Measuring the efficiency of state and non-state institutions is not simple. But the dramatic increase in share of shadow economy in Pakistan does point towards collapse of institutions. Strong institutions ensure rule of law and compliant tax culture. The tax to GDP ratio that was 13.5 percent of the GDP has now declined to below 10 percent of the GDP. Low revenues have impacted the ability of the state to deliver basic public goods. Inappropriate regulatory framework has resulted in evasion of taxes, low wages, bank arrears and rent culture of which indicate weakening of institutions.

The fragility of the institutions is manifested in the flight of capital as even the finance minister admitted that more than $200 billion are parked outside the country by influential Pakistanis. The decline of bank financing as a proportion of GDP; poor enforcement of property rights, bankruptcies, contracts and law and order in general; in increased crime rates all point towards decaying institutional strength.  

Strengthening institutions is the one of the most important policy factors that affects socio-economic performance of an economy was always ignored in Pakistan. The accelerated growth during the Shaukat Aziz era was pursued his popular belief that the speed of liberalization and macro-stabilization would cure all ills. The booms and busts in growth would continue in Pakistan until the most important policy measures aimed at preserving and/or creating strong and efficient institutions are half heartedly implemented.