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The State of The Economy
Dr. Akmal Hussain
Newspaper: The Daily Dawn, Lahore
Dated: Monday, June 7, 2004

Pakistan stands today at a conjunctural moment in its economic history. After a decade of slow GDP growth, rapidly rising poverty and acute fiscal constraints, the emergence of a substantial fiscal space has now set the stage for facing the strategic economic challenge that could bring a better future for the people. The challenge is to launch Pakistan on a new growth path characterized by a sustained high GDP growth of 7 to 9 percent combined with a change in the composition of growth to ensure rapid poverty reduction. Addressing this policy challenge requires new policy thinking. I will begin with a brief assessment of Pakistan's recent economic performance, as a prelude to identifying the structural constraints to sustainable growth and then conclude by outlining a strategy for accelerating and simultaneously restructuring economic growth for poverty reduction.

Let us begin with an assessment of the increase in the GDP growth observed during the last two years (2002-03 and 2003-04), to see whether it is adequate for poverty reduction and whether it is sustainable. GDP growth, which averaged at 3.85 percent during the decade of the 1990s increased to 5.1 percent for the first time in 12 years during the year 2002-03. This year (2003-04) GDP growth is expected to increase further and reach about 6 percent. The question is whether this two-year performance signifies a change in the underlying trend, or is it transient. In this regard it is important to note that without a new and appropriate policy intervention the observed increase in GDP growth is neither adequate for poverty reduction nor sustainable. Consider. The strategic variables that sustain GDP growth continue to remain insufficient: The total investment rate, which was 18.7 percent in the 1980s and needs to be 20 percent even for sustaining growth at 6 percent, continues to remain at less than 16 percent. (Investment as a percentage of GDP was 15.5 percent in the year 2002-03). The fact that there is a continued constraint to private sector investment in terms of future expectations rather than available savings is indicated by the fact that the total national savings as a percentage of GDP is significantly higher (17.1 percent) than the total investment rate.

Clearly the government instead of getting carried away by its own rhetoric that it has achieved an "economic take off ", needs to ponder on the fact that its assumption of fiscal stabilization by itself leading to higher investment has not proven valid. Recent research comparing South Asian and South East Asian investment rates (Ali Cheema and Faisal Bari) has demonstrated the well-known fact that the level of infrastructure, the quality of governance and law enforcement are important determinants of investment behaviour. Therefore the government needs to rid itself of the misconception that reduced budget deficits and increased State Bank reserves in themselves will lead to higher investment and growth. They need instead to focus on rectifying the problem of the woefully inadequate infrastructure, poor governance institutions and the alarming law and order situation, if investment is to increase substantially and a higher GDP growth made sustainable.

The increase in GDP growth achieved during the last two years has essentially been due to three factors none of which signify sustainability: (i) better harvests in the major crop sector, (ii) improved capacity utilization of a small group of industries consisting of automobiles, textiles and cement, (iii) a boom in the wholesale and retail trade sector fueled by increased availability of bank credit, which has gone into consumer credit rather than into substantially increased productive capacity in industry.
It appears that the increase in the GDP growth observed in the last two years may not be sustainable. However, even if a 6 percent growth rate could be sustained, it is inadequate for achieving poverty reduction. I have argued in my published work during the last two years that given the inequality in the distribution of income in Pakistan, a GDP growth rate of at least 7.5 percent is required to make a dent into poverty. The most direct evidence of my proposition is that it is precisely in the last two years when GDP growth is supposed to have increased, that poverty has also increased.

Institutional factors in agriculture, industry and functioning of markets in Pakistan underlie the structural propensity for slow and unstable growth on the one hand and growing poverty on the other. Let us consider each in turn:

  1. Structural Constraints to Crop Sector Growth: In agriculture the average annual growth rate of major crops has declined from 3.34% during 1980s to 2.38% in 1990s. At the same time, the frequency of negative growth years in some of the major crops has increased. The slow down in growth and increased instability of output in major crops has resulted in sharply increased rural poverty on the one hand and a slow down in the export growth on the other. Underlying this phenomenon are four major institutional constraints:
    1. Reduced water availability at the farm gate due to poor maintenance of the irrigation system and low irrigation efficiencies of about 37%. While the availability of irrigation water has been reduced, the requirement of water at the farm level has increased due to increased deposits of salts on the top soil and the consequent need for leaching. For example, according to the government about 33 million tons of salts are annually brought into the Indus Basin Irrigation System, out of which 24 million tons are being retained.
    2. What makes improved efficiency of irrigation even more important is that the extensive margin of irrigated acreage has been reached, so that future agricultural growth will have to rely on improving the efficiency of water use and other inputs. Thus the rehabilitation of Pakistan's irrigation system for improving irrigation efficiency has become a crucial policy challenge for sustainable agriculture growth.
    3. It is well known that high yielding varieties of seeds gradually lose their potency through re-use, changing micro structure of soils, and changing ecology of micro organisms in the top soil. Therefore, breeding of more vigorous seed varieties adapted to local environmental conditions and their diffusion amongst farmers through an effective research and extension programme is necessary to accelerate and sustain agriculture growth.
    4. One of the most important constraints to sustainable growth in the crop sector is the degradation of soils, resulting from improper agricultural practices such as: (i) lack of crop rotation and the resultant loss of humus in the top soil; (ii) stripping of top soil and resultant loss of fertility associated with over grazing; (iii) water erosion along hill sides and river banks due to cutting down of trees and depletion of natural vegetation. According to one estimate, over 11 million hectares have been affected by water erosion and 5 million hectares by wind erosion.


  2. Structural Constraints to Industrial Growth: The large scale manufacturing sector which historically was growing at 7 to 11% per annum is now growing at less than 3%. The factors underlying this dramatic decline include the following:
    1. A fundamental structural constraint to industrial growth as indeed the underlying factor in slow export growth, is the failure to diversify exports. The large scale manufacturing sector, particularly exports are concentrated in the traditional low value added end of textiles.
    2. A changed pattern of global demand for industrial products with a shift towards higher value added and knowledge intensive products. Pakistan’s industrial structure was not positioned to respond quickly to these changed market conditions.
    3. An erosion of the domestic framework within which investment and growth is sustained. This includes: (i) A continued threat to the life and property of citizens due to a continued poor law and order situation. (ii) High electricity tariffs, relatively high interest rates (though these have fallen this year), (iii) Lack of trained professionals especially in the high skill sector, (iv) An inadequate technological base through which industry can respond in a flexible way to changing patterns of demand, (v) A continuing arbitrary and corrupt use of regulatory controls by a whole range of officials at the lower echelons in departments such as income tax, sales tax and customs who create strong disincentives for investment, efficiency and export diversification in industry. (vi) Dumping of smuggled, poor quality and extremely low priced imported goods which are in many cases counterfeit copies of branded Pakistani manufactured goods.


  3. Asymmetric Markets, Power and Poverty: In designing a pro poor growth strategy it is necessary to address structural factors not only at the macro level but also at the local level. Poverty occurs when the individual is isolated from the community and is locked into a nexus of power that deprives him of his actual and potential income. My research for the Pakistan National Human Development Report shows that the poor face a structure of markets, State and institutions, which discriminate against their access over resources, public services and government decision-making.
    In this context overcoming poverty means empowering the poor at the local level. The challenge of pro-poor growth therefore is to re-orient both the structure of the economy as well as the local structures of power in favour of the poor.

To achieve sustainable growth the structural factors identified above need to be addressed. The elements of a faster and more equitable growth may be outlined in a four-pronged strategy as follows:

  1. Improving the Supply of Irrigation Water: The first prong of the growth strategy should be a national campaign on a war footing to build new dams and at the same time to rehabilitate Pakistan's irrigation system, which is currently in a state of acute disrepair due to decades of poor maintenance. Such a campaign being inherently labour intensive would not only generate employment rapidly but also help to improve water availability and yields per acre at the farm level.
  2. Infrastructure Development: Additional labour intensive infrastructure projects should also be undertaken to simultaneously generate employment and stimulate aggregate demand in the economy. Such projects could be the building of farm to market roads, national high ways and ports, upgrading the railway system and enlarging its transport capacity for bulk cargo together with an improved communication system and increased production of cheaper energy through gas fired turbines rather than through imported furnace oil.
  3. Milk, Marine Fisheries and High Value Added Agriculture Products: The third prong of the revival strategy is to rapidly develop export led production capacity for milk, fisheries and high value added agricultural products such as fruits, vegetables and flowers.
    If the institutional framework could be established for training the farmers in scientific feeding and breeding and if the logistics could be set up to collect milk from the farm door by means of refrigerated transport, milk output in Pakistan could be doubled. This would have a dramatic impact not only on the incomes of poor peasants, but also on exports and overall GDP growth.
    Marine Fisheries, also provide a significant potential for improving foreign exchange earnings and increasing the incomes of the poor. Currently there are large losses and failure to achieve significant exports due to the fact that the storage conditions of fish during transportation are both unscientific and unhygienic by international quality standards.
    Increasing the production of fruits, vegetables and flowers for exports and for increasing incomes of small farmers would require institutional support for marketing, and improved grading packaging, and refrigerated transport right up to the cargo terminals for air freight to the export market.
  4. Rapid Growth of Small Scale Enterprises: The fourth prong of the strategy would be to provide the institutional support necessary for the rapid growth of small scale enterprises. These SSEs. include high value added units in light engineering automotive parts, moulds, dyes, machine tools and electronics and computer software. The details of the institutional framework for accelerating the growth of SSEs are contained in my work for the Pakistan National Human Development Report, UNDP 2003. The strategic issue in accelerating the growth of SSEs is that it would simultaneously accelerate GDP growth with relatively lower investment, increase employment generation and improve the distribution of income.


I have argued in this article that even though there has been a significant increase in GDP growth in the last two years, this is neither sustainable nor adequate for poverty reduction. This brings us to a new moment in our policy thinking. The government’s economic managers have so far focused on the financial sector. The challenge now is to achieve a break through in the real economy. In this regard, I have identified some of the structural weaknesses of the real economy as the basis of an economic strategy for accelerating and restructuring the growth process to enable rapid poverty reduction.

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