Floods devastation: World Bank cuts Pakistan’s growth projection to 2pc

ISLAMABAD: While committing $2 billion in loans for flood-affected areas, the World Bank (WB) Thursday revised downward Pakistan’s macroeconomic projections in the aftermath of severe floods, by lowering GDP growth and hiking inflation as well as worsening fiscal and external deficits.

In the South Asian region, Pakistan’s macroeconomic projection remains second worst after Sri Lanka where the GDP growth was projected to go negative. “Without creating buffers on internal and external fronts, the economies in South Asia will be facing challenges like Sri Lanka,” Hans Timmer, World Bank Chief Economist for South Asia said while addressing a virtual news conference from Washington D.C on the occasion of launching WB’s Fall 2022 Economic Outlook for South Asia on Thursday.

The WB projected a massive downward revision in the GDP growth rate to 2 per cent for Pakistan against an official projection of 5pc, hiking inflation up to 23pc against the target of 11.5pc, budget deficit of 6.9pc of GDP against official estimates of 4.9pc and primary deficit at negative 3pc of GDP against the official target of surplus 0.2pc of GDP for the current fiscal year provided Islamabad remained under the existing IMF arrangement of Extended Fund Facility (EFF).

The WB has projected that poverty would go up by 2 to 4.5pc, pushing 5.8 million to 9 million people below the cruel clutches of the poverty line in Pakistan after witnessing floods.

“The floods have heightened macroeconomic risks. Continued policy tightening has become more challenging on account of floods. The government will face challenges in implementing the planned fiscal consolidation, given the extensive relief and recovery needs. Additional downside risks include unexpected damages resulting from the still-evolving flooding situation that could further reduce output and worsen economic imbalances; political pressures that undermine the implementation of a coherent and prudent macroeconomic policy mix; unanticipated deterioration of external conditions; and risks associated with large fiscal and external financing needs,” the WB’s Pakistan Development Update, launched here at the Bank Office on Thursday, said. To manage these uncertainties, the WB suggested that the government should adhere to sound economic management, while carefully targeting any new expenditures to the poor and maintaining progress on critical structural reforms, including in the energy sector.

At the launch of the Pakistan Development Outlook, WB Country Director Najy Benhassine said that the Bank committed to providing $2 billion for flood-affected areas in Pakistan. He said they evaluated each and every project from the existing portfolio and identified repurposing of $1 billion funding. “We also made a request to WB’s Board of Directors to allow us for utilising IDA funding in advance,” he said and added that the efforts were underway to accelerate the disbursements in ongoing projects executed by federal and provincial governments.

With regard to damages and reconstruction cost, the WB said that the post-disaster needs assessment was underway but the government was sharing range of $10 to $40 billion losses. The WB’s economist again supported idea for adoption of real effective exchange rate (REER) for promoting exports and stated that there was clear co-relation between real effective exchange rate and increase in exports. He said that if there was real devaluation of 10 per cent in rupee against dollar there is elasticity of 5 percent increase in exports on the basis of elasticity.

The WB’s Pakistan Development Outlook report states that the country achieved higher growth of 6pc in last fiscal year at the cost of growing economic imbalances. The fiscal expansionary policies and delayed monetary response fuelled twin deficits such as the budget deficit and current account deficit.

Supported by accommodative macroeconomic policy, Pakistan’s economy saw robust growth in FY22, at the cost of growing economic imbalances. The Government has begun to further tighten policy to constrain aggregate demand.

However, the catastrophic flooding is likely to disrupt activity and may lead to delays in the required fiscal consolidation. In the context of high macroeconomic risks and large financing needs, the outlook is sensitive to market perceptions and sentiment. The government should adhere to sound economic management and carefully communicate a clear strategy for economic recovery, while judiciously targeting any new expenditures and maintaining progress on critical structural reforms, including those in the energy sector.

It states that the economic outlook and prospects for overdue adjustment have been significantly affected by the floods. Agricultural output is expected to decline sharply, with losses to cotton, date, wheat, rice crops and livestock. Cotton losses are expected to weigh on the domestic textile, wholesale, and transportation service industries.

Public relief and recovery efforts are expected to partially offset the loss in activity. Real GDP growth is therefore expected to slow to 2pc in FY23, but recover to 3.2pc by FY24, supported by a rebound in agricultural production, reconstruction efforts, and projected lower global inflationary pressures.

Due to higher domestic energy prices, flood disruptions, and the weaker Rupee, inflation is projected to rise to 23pc in FY23 but moderate to 9.5pc in FY24 with declining international energy prices and resolution of flood-related supply constraints. Despite flood-associated effects, the current account deficit (CAD) is expected to narrow slightly to 4.3pc of GDP in FY23, partly due to stronger remittance inflows and is projected to shrink further in FY24 as exports recover from flood impacts.

In line with fiscal consolidation efforts and lower subsidy expenditures, the primary deficit (excluding grants) is forecast to narrow from 3.1pc of GDP in FY22 to 3pc in FY23, despite negative impacts to revenue bases and increased expenditure needs due to the floods.

Similarly, the fiscal deficit is projected to contract by one percentage point to 6.9pc of GDP in FY23 and expected to gradually narrow over the medium term as revenue mobilization measures take hold, particularly GST harmonization and personal income tax reform. With rapid nominal GDP growth, public debt as a share of GDP is projected to decline gradually over the forecast period, despite continued primary deficits. The macroeconomic outlook is predicated on the IMF-EFF program remaining on track.

Continued policy tightening has become more challenging on account of the floods. The government will face challenges in implementing the planned fiscal consolidation, given the extensive relief and recovery needs. Additional downside risks include unexpected damages resulting from the still-evolving flooding situation that could further reduce output and worsen economic imbalances; political pressures that undermine the implementation of a coherent and prudent macroeconomic policy mix; unanticipated deterioration of external conditions; and risks associated with large fiscal and external financing needs.

The devastating floods will have adverse effects on poverty reduction. The floods will impact households through at least four channels that includes: (i) reduced income due to lost harvests and livestock, or loss of livelihood; (ii) loss of assets, such as homes, livestock, productive equipment, and household durables; (iii) shortages of food due to lost food stocks, poor harvests and rising food prices; and (iv) loss of human capital, due to disease, food shortages and prolonged school closures. Preliminary estimates suggest that as a direct consequence of the floods, the national poverty rate can increase by 2.5 to 4.0 percentage points, pushing between 5.8 and 9.0 million people into poverty. Reversing these negative socio-economic effects is likely to take considerable time, and some losses, such as those to human capital and land productivity, can lead to more sustained declines in welfare and will warrant specific policy attention.

Given the recent spikes in inflation, this report examines the impact of inflation on household welfare and reviews policy options to cushion the effects of rising prices on the poor. By accounting for differences in consumption patterns and in price trends across various goods and services, this report identifies the differential impact of inflation across income groups. The analysis shows that the recent bout of inflation has had disproportionately adverse impacts on the poor. More specifically, the analysis shows that the poorest households, on average, experienced inflation rates that were one percentage point higher than the wealthiest households.

Apart from a sound macroeconomic policy mix, sectoral policies with sustainable fiscal costs that largely benefit poor households, like reducing import duties on sensitive food products, could help to reduce inflationary pressures. These policies could be complemented with well targeted temporary expansions of social protection programs to mitigate the impact of higher inflation on poor households. Over the medium term, enhancing economy-wide productivity growth through reforms in the agriculture and energy sectors could further ease inflationary pressures, the report said.