The investment argument

As debate about the loosening monetary environment’s impact on private sector investment continues, it is important to note that the interest rate regime ensures provision of necessary working capital, but meaningful investment will be stimulated once aggregate demand rises and capacity is fully utilised. Presently, excess capacity is observed across sectors. In the cement industry, for example, present capacity is approximately 40 million tonnes, yet production languishes around the 32-33 million tonne mark. Similarly, in car manufacturing industry, production at 100,870 units falls well short of total capacity of 275,000.
So, till the excess capacity gap is bridged, fixed investment will not materialise, with monetary easing, or otherwise, and private sector demand for credit will remain elusive . And with GDP growth stuck in the low 2-3 per cent range, the market is simply not generating enough aggregate demand to induce substantive investment. Also, the government’s continued borrowing in the money market makes for the ideal marriage of convenience between the centre and the banking sector. Banks eye this as a risk-free asset, requiring no capital to back up advances. Sovereign debt is, of course, also more reliable considering rising incidences of non-performing loans. The exercise also cuts down on marketing expenses in an otherwise stagnant environment.
Before embarking on an investment-induced growth trajectory, relevant authorities must first streamline the fiscal environment. Issues of commodity pricing, subsidies, public sector enterprises and circular debt need to be addressed to attract serious investors. For now, monetary incentives will not have the desired impact on employment, poverty, investment and infrastructure. Also, the present market environment is too uncertain to attract serious investors. Parties willing to commit funds eye medium to long-term predictability and returns which, unfortunately, cannot be guaranteed for now. Therefore, with banks reluctant to reach out and the government’s borrowing binge continuing, interest rate reduction is just likely to feed into speculative activities stimulating cost-push inflation rather than proactive generation of investment, employment and consumerism.
Again, fiscal policy must take centre stage, not just the government’s budgetary expenses, but public spending in totality. With Rs400 billion odd hemorrhaging annually from public sector enterprises, and Rs351 of circular debt impeding on absorption capacity of financial institutions, the fiscal outlook is unattractive. In the stock market too, while a few blue-chips dictate market direction, there is no meaningful capital formation, no IPOs and no new debt issues. It is little surprise then that even local investors are fleeing to the relative safety of regional economies. To bank on inducing fresh investment in such circumstances would amount to misreading present market conditions.
Immediate fillip in revenue generation should come from fine-tuning the tax administration machinery, which requires greater capacity within FBR along with full political support to take punitive actions against evaders, concealments or understatement of incomes or sales, broadening tax net at both the Federal and the provincial levels. There has not been an encouraging response from provincial authorities since the 18th amendment devolved tax collection to their domain. By simply streamlining collection of property tax in Lahore and Karachi, tax authorities in Punjab and Sindh can help contribute 1-2 per cent to overall GDP growth. But with local government completely paralysed, and provinces unable to move forward on the tax issue, present collection is just a fraction of what it should be. The sooner those in charge reconfigure their priority list, the sooner local and central governments will have necessary fiscal space to initiate targeted expansionary fiscal policies that will unlock immediate growth, prop up employment, and engineer the second round multiplier.

The writer is former Governor, State Bank of Pakistan and Dean and Director, IBA