With the international media prancing on the woes of the EU and irresolution within the US, default seems to be the common howling pawn being rather unsuccessfully hauled towards the gallows. In Pakistan on the other hand, whereas the absolute debt-to-GDP ratio(70 per cent) may not be as high as some economies within the EU, US or China, the previous financial year repeated admonitions to the government to restrict its borrowing, especially from the SBP. In fact, the government did observe some discipline, as the amount borrowed from the central bank remained under the agreed limit of Rs1,290 billion for the third quarter.
As a corollary, sticking to this limit directly implies resorting to other arenas for financing the deficit. The commonplace understanding suggests more T-Bills, the most preferred short-term, risk free bond much to the disdain of the private sector. However, there is another very stark and much discussed avenue; the IMF, constantly raising brows at the government’s inability to reform the tax system and also to put its accounts in order. Much so, it also exerts its influence over the World Bank and ADB in terms of not lending to Pakistan until it put its house in order. And then one sees news pop ups – Finance Minister Hafeez Sheikh trying to bargain for at least half of the tranche amount of $3.6 billion, which the government has been waiting on for over six months now. Or better yet, the government asking IMF to allow it to borrow $800 million from the ADB and world bank.
Of Pakistan’s overall debt, the largest chunk belongs to the domestic debt, comprising mainly T-Bills, Sukuks, PIBs and NSS. However, not any less significant is the Rs3.9 trillion that is owed to external creditors in addition to the sizeable Rs763 billion owed to the IMF.
In comparison, the economy stands quite proudly on $17 billion in foreign reserves attributed with keeping the exchange rate stable. This level can provide the economy with about six months of import cover. Further, if they prevail at the current level throughout the ongoing fiscal year, then the IMF tranche ($1.2 billion) due in Feb-12 can be also be paid off with ease.
However, coming back to the original question: Can Pakistan maintain this forex position and is there a chance of default? The answer is no, if the current account maintains its surplus heavily resting upon export gains made in the preceding year due to higher cotton prices in the international market and more significantly, the ever ballooning remittance receipts ensuring healthy foreign exchange reserve account. Stability in the latter is also dependant upon the government being able to obtain the last IMF tranche before the stand-by facility expires in Sep-12.
The answer is no if the export level and subsequently growth is stunted this year. Cotton prices have drastically come down indicated by the KCA spot rate which has decreased from Rs13,500 to Rs8,500, albeit settling at a higher level. What is even more alarming is nose-diving FDI, which dropped by six per cent in the first 11months of FY11 due to uncertain political and socio-economic conditions. Moreover, to finance the deficit for the ongoing fiscal year, the government’s attempt to float OGDCL bonds worth $500 million has also proved unsuccessful so far.
Fellow economists would agree that long-term economic stability comes from structural changes and not one-off positive events. In an economy, which grows by 2.1 per cent, an increase in indirect taxes by about 11 per cent does not bode well for consumers whose purchasing power has been further squeezed. The government is extracting from wherever it can only to finance its current expenditure, which does not contribute to productive growth. And till the time it sticks to this approach, the finances acquired from abroad will not be repaid through productive venture and real output, but the nation’s existing wealth. So deplete it shall, and default they will!