By Haris Khattak, Economics and Business Student at University College London
Former Prime Minister Imran Khan has been under fire recently for his economic policy; critics claiming that his debt-driven response to the Covid-19 pandemic is largely to blame. But is the Khan administration the ones we should blame?
The Fuel to the Fire
A country that relies heavily on imports is bound to experience economic shocks during a period of worldwide economic down-turn. And Pakistan is no exception. Pakistan’s share of world imports (0.26%) is more than double its share of world exports (0.12%). Coupled with its growing need for foreign currency reserves, it seems that once again, another South-Asian country is headed towards a potential default on its loans.
The Pakistani rupee has lost significant value internationally. As of today, the rupee is trading at nearly 260 rupees against the pound. This is concerning news for the economy as imports are now relatively more expensive. A major Pakistani import is refined petroleum, largely imported from the UAE. To make matters worse, the rupee has reached a historic low against the dirham, trading at just 60 rupees per dirham.
A net importer like Pakistan requires foreign currency (mainly the US dollar) to trade with its importers. However, Pakistan’s foreign currency reserves have been plummeting after the collapse of the Khan administration. According to the State Bank of Pakistan (SBP), foreign currency reserves have fallen to just $9.2bn compared to $17.3bn in the fiscal year 2020-2021. Reserves have fallen to such a minuscule amount that the Finance Minister, Miftah Ismail, has warned the government that the economy has an import cover of less than 1.5 months. As the trade deficit widens, this forces the government to borrow more to finance its imports, adding more ‘fuel’ to the debt burden.
Mounting debt
The chart to the right shows that currently the Pakistani government owes a staggering $38bn in debt payments in the rest of 2022 alone.
Earlier this year, the newly elected Prime Minister of Pakistan, Shahbaz Sharif went on a 3-day trip to Saudi Arabia, securing a much needed $3bn to encourage the IMF to lend Pakistan a further $1.2bn. Although this money has been deposited in the State Bank to back-pedal the fading forex reserves, this loan greatly increases the debt burden.
The Sovereign Debt Vulnerability Ranking, a composite measure of a country’s default risk, ranked Pakistan as the 4th most likely country to default, behind the likes of Ghana and El Salvador. Ranking near the top-end of the solvency-risk indicator, which measures the ability of a country to service its long-term debt, Pakistan seems to be heading towards an imminent default.
Who is responsible?
A much deeper issue has come to light during this recession, and that is the constant discussion of political unrest within the Pakistani government. The recent vote of no confidence against the ex-prime minister may been at the forefront of the steep currency depreciation. An event as severe as a no-confidence motion has not successfully occurred in Britain for almost a century, which goes to show the extent of political instability this may have caused. As a country becomes increasingly unstable, investors are deterred and this may lead to capital flight or even worse, a currency crisis.
Shahid Kardar, a former governor of the SBP said, “Pakistan’s expenditures have to be reduced considerably.” The new Prime Minister was urged by the IMF to reduce subsidies on fuel, that were previously put in place. However, this may further increase the cost-of-living crisis in Pakistan, where the average person earns a meagre $370 per month.
It cannot be concluded who exactly is to blame. Whether it is the ex-Prime Minister’s policies or the current one, it can be concluded that a large part of this economic slump is certainly due to the political uncertainty in Pakistan over the last 30 years. Another factor is the ongoing loans Islamabad has been taking for almost the whole of this century. No matter who is leading the country, the deep-rooted urge to borrow money will remain. As Milton Friedman once said, ‘nobody spends somebody else’s money as wisely as he spends his own’.
The Next Sri Lanka?
Sri Lanka’s economy was heavily reliant on tourism as its main source of dollar inflows. After the pandemic in 2019, tourism declined substantially, from 244,000 tourists per month to just 38,000. As tourism declines, the economy loses its ‘pipeline’ of dollars, causing a decline in foreign currency reserves; Sri Lanka’s reserves were less than $1bn in July.
Former President Gotabaya was largely to blame for the mismanagement of Sri Lanka. Appointing several family members into positions of power, he gained full control of the country. Earlier this year, he announced that Sri Lanka will no longer be importing fertiliser in an attempt to reduce the trade deficit. Policies as absurd as these highlight the unrestricted power he had.
Pakistan’s similarity to Sri Lanka is concerning; crippling forex reserves coupled with a family holding significant power seems like another domino waiting to fall. However, Pakistan being a nuclear-armed nation, is unlikely going to be allowed to default as the consequences could be detrimental on a worldwide scale. On Monday, the IMF met to decide on Pakistan’s bailout, the verdict still unknown. But what is known is that Pakistan has dodged a short-term default according to the Foreign Secretary.
If policies are not altered to stimulate the economy, Pakistan may soon be headed in the same direction as Sri Lanka. It is important to note that the art of borrowing money has allowed some economies to flourish under precise management such as the UAE, which has an external debt obligation of $167bn. Dubai owing most of this money, has used it to transform the city into the ‘land of skyscrapers.’ However, Pakistan’s management is not nearly as precise, and the public’s appetite for necessary economic reforms is limited, causing a great deal of uncertainty. Only time will tell what the future holds for Pakistan and its people.
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