June Issue 2003

Every third person living in Pakistan falls below the poverty line — the overall trends in the country’s social sector are, in fact, the worst in the South Asian region.

Official estimates indicate that after 1998-99, poverty increased in Pakistan, since the impact of sanctions, droughts and water shortages strangulated growth rates. Subsequent remedial actions to stabilise the economy, taken in conjunction with` multilateral donors, further aggravated the poverty profile, and unemployment also increased. However, post September 11, there seems to have been an upturn in the situation. Pakistan’s newfound role as a frontline ally of the United States has minimised short-term risks to the external sector of the economy, and this has positively impacted the GAP.

From 1960-1990, Pakistan’s average GDP growth rate remained at about six per cent per annum, slowing down in the ’90s to 4.6 per cent. From 1998, the GDP growth rate slid further to a mere 3.2 per cent per annum. However, at last count, the growth forecast for 2002-03 stood at above 4.5 percent, and the medium-term prospects for the period 2003-05 were upgraded to 5-5.5 per cent.

A key factor behind the high growth rate of the 1960-90 period was large concessional flows, from both multilateral and bilateral sources. However, in the aftermath of the Soviet withdrawal from Afghanistan, the soft financing windows which were bolstering the growth momentum, gradually closed, and following Pakistan’s nuclear tests these sources all but dried up. During the last two years there has been a subtle reversal of fortune. The annual disbursements of the World Bank during 2001-02 registered a record sum of 860 million USD, the Asian Development Bank has pumped in one billion dollars per annum, and the International Monetary Fund has offered a concessional 1.4 billion USD structural reform programme. Additionally, hitherto blocked aid flows from the United States have resumed.

If the growth path remains sustainable, this may help reduce poverty over the next few years.

Nonetheless, regional peace and political stability in the country are the two fundamental requirements to help achieve higher levels of foreign private investment, a prerequisite for growth and employment generation.

According to estimates, poverty in Pakistan increased by 2-3.5 percent between 1998-99 and 2000-01. The latest official report of the Household Integrated Economic Survey (HIES) indicates a 32.1 percent incidence of poverty in Pakistan. However, the existing methodology for evaluation is so faulty, that the same data set offers at least three different poverty assessments in the country!

According to the Economic Survey 2001-02, poverty in Pakistan was reported at 28.2 per cent (based on 1998-99 data), with an assumed caloric-intake of 2150, and 650 rupees per capita income per month was defined as the national poverty line. However, the standard per capita recommended dietary Allowance (RDA) for Pakistan, used by most economists and donors, is 2550 calories (adult equivalent) per person per day, and all multilateral agencies using the same caloric-intake figure, in conformity with the basic need approach, measured 1998-99 poverty levels at 32.6 per cent in Pakistan.

After the latest HIES report, the government and donors once again differ in their respective poverty assessments. The Planning Commission estimates 32.1 per cent poverty for 2000-01, with poverty-line income at 748 rupees per month per person and 2350 caloric-intake. In the HIES assessment, about 48 per cent weightage was given to food needs and 52 per cent to income-related requirements. According to official estimates, using the same parameters, a sample survey of five per cent of Pakistan’s households during the third quarter of the current fiscal year indicated a 31.8 per cent poverty rate. Donors, however, using the standard 2550 calories RDA as a barometer, maintain the poverty level was close to 36 per cent, with a much higher incidence in rural areas.

This serious anomaly in poverty measurement by local and foreign agencies was highlighted by the Centre for Research on Poverty Reduction and Income Distribution (CRPRID). The Centre underscored the need to redefine the national poverty line by addressing the needs of the vulnerable, transient and the absolutely poor.

Reduced development expenditures, severe drought and water shortages — which also resulted in a downslide in the agriculture sector’s growth rate — are the main reason cited for the growing poverty index in Pakistan.

The impact of the strong stabilisation measures called for by the multilateral donors to rein in the large budget deficit, which averaged seven percent of the GDP since 1990, also adversely affected the growth momentum. The allocation of a major chunk of budgetary resources for debt servicing and deficit financing left very little for human development.

Overall allocations for the education and health sector remained at about three per cent — as against the requirement of 7-8 per cent — of the GDP, in recent years and the latest available data for the federal budget shows that during the first three-quarters of the current fiscal year, annual development spending and pro-poor expenditures remained behind the target.

The draft Poverty Reduction and Strategy Paper (PRSP) has proposed an increase in pro-poor spending from the 161.5 billion rupees allocated in 2002-03 to 187.6 billion rupees in 2003-04 (4.23 per cent of the GDP), to 215.1 per cent (4.42 per cent) in 2004-05, and 246.5 billion rupees (4.62 per cent of the GDP) in 2005-05. It also envisages a gradual increase in development spending from 133 billion rupees in 2002-03 to 155.4 billion in 2003-04, 180.4 billion in 2004-05 and 207 billion rupees in 2005-06. And it has been projected that the annual GDP will grow from 4.5 per cent to 5.2 percent in 2003-04, 5.5 percent in 2004-05 and 5.8 percent in 2005-06.

The numbers present a rosy picture, with the authorities claiming that the prescribed level of spending would, by 2006, reduce the incidence of poverty by 25 per cent, and result in 100 per cent primary school enrollment, 60 per cent literacy, a greater access to safe drinking water, a wider coverage of basic health facilities and immunisation, and a reduction of the population growth rate from 2.1 per cent to 1.87 per cent.

Part of this strategy, the medium-Term Budgetary Framework (MTBF), outlines 760.2 billion rupee budgetary revenues, and 937.1 billion budgetary expenditures for the fiscal year 2003-04, with a budget deficit estimate of 177.6 billion rupees or four per cent of the GDP. It is aimed that the fiscal gap be narrowed down to three per cent of the GDP by the year 2005-06. And it is estimated that during this period the stock of public debt would increase from 3903.3 billion rupees to 4702.4 billion.

However, donors have their reservations about the PRSP’s projections. They observe that the absolute level of spending foreseen does not match the outcomes sought, and contend that the increase in spending could, in fact, be twice the level indicated in the PRSP, even if a very tight fiscal stance and a steep debt reduction path is maintained.

A careful analysis of the situation reinforces the donors’ concerns. There are clear indications that the resource availability indicated will not be enough to achieve the social development targets set. All sectorial programmes show large ‘financing gaps,’ with no firm credit line available. In the education sector alone, official estimates project a financing gap of 84 billion rupees until 2005-06 if the desired goals are to be met, and this gap will widen further to 253 billion rupees by the year 2012.

Similarly, while officials anticipate a reduction in the unemployment rate from 7.82 per cent in 2000-01 to 6.69 per cent by 2005-06, most independent analysts estimate that about 0.6 million people have joined the rank of the unemployed annually in recent years due to sluggish economic activity and this trend is not likely to change.

A major reason for policy failures in Pakistan has been the corruption and inefficiency in large public sector enterprises (PSEs). Latest figures released by the World Bank indicate that PSEs ate up 300 billion rupees (over five billion USD) of local taxpayers’ hard-earned money between 1998 and 2002. This huge loss put a drain on the budget, leaving little for social sector development. Most public enterprises, such as the power and gas sector companies, were under the direct control of the army during this period. But the level of corruption and poor governance continued unabated. Ironically, the state-owned Water and Power Development Authority (Wapda) and Karachi Electric Supply Corporation (KESC) are all set to extract an additional 55 billion rupees in support out of the forthcoming budget to cover their losses during 2002-03.

This gloomy scenario notwithstanding, despite the adverse trends in the public sector and poor social conditions, the external sector has shown dramatic results, courtesy General Pervez Musharraf’s shift into the US camp.

Pakistan’s total external debt and liabilities had declined from 37.9 billion rupees in June 2000 to 35.6 billion rupees by end-March 2003 (the Ministry of Finance does not refer to the one-billion dollar debt that was waived by the US). Alongside, the level of reserves touched almost 10.5 billion rupees, with the official liquid reserves held by the State Bank of Pakistan (SBP) reaching over nine billion. As a result, the net external debt (total external debt and liabilities minus liquid reserves held by the Central Bank) fell to 26.5 billion rupees by end-March 2003, against 36.9 billion in June 2000.

The Ministry of Finance has repeatedly presented this figure in high-level official meetings, and as part of its new poverty estimate, citing it as one of the government’s key achievements. However, the fact remains that most of the official reserves are the result of large outright purchases of dollars at a premium from the market. There has been some smart recovery in exports during the current fiscal year, but the gain is largely due to the benefit of additional quotas granted by the European Union in response to Pakistan’s new foreign policy after September 11.

Against this backdrop, there are key challenges for the planners of the 2003-04 budget.

There are at least five major fault-lines — including rising poverty, power sector difficulties, the law and order and security situation, poor access to justice and the high cost of doing business in the country — that need to be addressed in the budget to enhance the investment climate. Secondly, juggling the figures in the forthcoming budget in the existing circumstances will be a preparatory exercise for the new quota-free regime of the World Trade Organisation (WTO) that will commence from January 2005.

Economic experts are unanimous in the opinion that the government has a daunting task ahead and needs to deal with the economic situation in a much more bold and aggressive manner, since merely tinkering with the faulty areas will be an exercise in futility.

The law and order conundrum is perhaps one area, which is influenced as much by internal factors as it is by the overall geopolitical situation. In the area of reducing input costs, assuring policy consistency, streamlining tax processes and improving speedy access to justice, there is room to do a lot if the available fiscal space is properly explored. The thrust of the tax policy should be on the expansion of the tax base, rather than enhancement of the tax rate. Fixed levies on petroleum and excise duties on various items should be substantially reduced. Similarly, the power sector should devise viable means to cut its losses rather than asking for handouts in the form of tariffs and budgetary revenues. In the banking sector, despite a reduction in the weighted average interest rates, the spread between the lending and deposit rates has not narrowed down, resulting in continued inefficiency and system losses. This needs to be corrected.

Without resolving these fundamental weaknesses in the system, investment will not take place, and without investment, poverty reduction and economic growth will remain elusive.