Immediate macroeconomic adjustments required to correct Pakistan’s twin deficits

World Bank has said that immediate macroeconomic adjustments are required for Pakistan to correct the large twin deficits.

World Bank’s latest edition of the South Asia Economic Focus, Budget Crunch, finds that rising global interest rates and tighter liquidity situation will pose challenges to Pakistan given the high gross external financing requirements.

With declining reserves and elevated debt ratios, Pakistan’s ability to withstand external shocks is diminished and risks will remain predominantly on the downside.

Appropriate policy responses to correct these imbalances and increased buffers to absorb future shocks will reduce these risks and support a positive growth outlook.

Such responses would entail increased flexibility of the exchange rate, strengthening the fiscal position through renewed efforts to improve revenue collection and better coordination between federal and provincial governments to reduce public spending.

Giving future outlook, the WB report said Pakistan’s GDP growth is projected to decelerate to 4.8 percent in FY19 as authorities are expected to tighten fiscal policy to correct imbalances.

However, growth is expected to recover in FY20 and reach 5.2 percent as macroeconomic conditions improve.

This recovery is conditional upon the restoration of macroeconomic stability, a supportive external environment, including relatively stable international oil prices, and a strong recovery in exports.

Inflation is expected to rise to 8 percent (average) in FY19 and remain high in FY20, driven by exchange rate pass through to domestic prices and a moderate increase in international oil prices.

The pressure on the current account is expected to persist and the trade deficit is projected to remain elevated during FY19 and FY20. Remittances will continue to partly finance the current account deficit, although slower growth in the Gulf Cooperation Council (GCC) countries will affect remittances.

FDI, multilateral, bilateral, and private debt-creating flows are expected to be the main financing sources in the near to medium term.

The fiscal deficit is projected to narrow in FY19 due to post-election adjustments and some fiscal measures.

It is expected that there will be some scaling down of public investment spending at the federal and provincial levels, and increase in revenue collection through tax base expansion and other administrative measures.

Fiscal consolidation would improve debt dynamics, but the public debt to GDP ratio is expected to stay around 70 percent of GDP during FY19 and FY20 – the debt burden benchmark for high-risk in case of Emerging Markets (as per the IMF Market-Access Countries public debt sustainability analysis).

Growth deceleration and higher inflation are expected to slow-down poverty reduction in FY19 though overall poverty decline is projected to continue reflecting GDP growth. The presence of safety net programs will mitigate the negative impact of inflation on poverty.