Caution: learning curve ahead
THERE is a lot to cheer in the performance the economy is putting in, but as the recently released State Bank's report makes abundantly clear, celebrations ought to wait. The performance is mixed, at best.
Consider some of the points made in the report. One point of strength that the IMF and the government like to point to is the reduced levels of government borrowing from the State Bank. This is indeed a positive. The report says that "the government retired Rs304.4 billion in Q1-FY16 to SBP, which was 7.8 times the amount retired in the same period last year". This is a positive development undoubtedly, and has contributed to keeping inflation on a downward trend in spite of a 2.6pc devaluation of the rupee against the dollar in the same period.
But the report is quick to add that "net retirements to SBP were primarily financed by government borrowing from commercial banks, which stood at Rs443.8bn for Q1-FY16 compared with Rs178.9bn in Q1-FY15". So the government basically borrowed from commercial banks and used the money to retire debt owed to the State Bank directly. Although the level of government borrowing from commercial banks "remained unchanged at last year's level", the fact that one set of loans was retired using money borrowed from elsewhere still takes some of the shine off this accomplishment.
Government spending was contained in the first quarter, growing at 7.2pc in the first quarter compared to a 12.7pc growth in the same period last year, which shows some brakes are being applied. The report notes that the slowdown in spending is largely on current expenditures, while development spending saw an increase of almost 50pc, perhaps due to the commencement of CPEC-related spending.
On the external side, the big development is a contraction in the current account deficit, which came in at $350 million, compared to $1.6bn in the same period last year. The report adds that "[t]his small deficit was comfortably financed by inflows from the issuance of Eurobond; 13 commercial borrowings by the government; and an increase in FDI (though still persisting at low levels)".
It's not clear how comfortable one should feel with this list. In another section, FDI inflows are described as 'scanty', rising as they did by a meagre $47m. I think there are individuals in Pakistan who could probably write a cheque for that amount.
The trade deficit has improved this year by almost $1.3bn, which would appear to be a cheerful development. But almost all of this is accounted for by the drop in oil prices. In fact, "[n]on-oil trade deficit has reached a 7-year high of over $3bn in the first quarter" says the report, the worst it's been since early 2008. The rise in this portion of the deficit is driven largely by plummeting exports, which are in fact the headline item on the external front. Speaking of FDI, the numbers for the half year between July and December tell an interesting story. Net FDI for this period in the current fiscal year came in at $624m, provisionally. Last year, in the same period, the figure was $610m. But something interesting happened last year in net FDI. There was a cumulative outflow from Chinese companies of $750m, which threw all the net figures completely out of whack, considering the inflow from China was $931m, leaving net FDI from China at $180m. By comparison, just consider that the next largest countrywise outflow was $94m, to Switzerland.
A glance at the history of net FDI from China suggests that the numbers here are more volatile than they are for most other countries, implying we need a greater understanding of how these corporates really behave as the seasons change on the economy. The large outflow of FDI recorded last year reportedly had an innocuous cause: the conversion of a loan into equity by China Mobile when its subsidiary Zong had made a very large payment to purchase 3G spectrum. But looking at the history of the outflows and inflows of Chinese FDI shows spikes that are unusual, pointing towards the growing involvement of Chinese corporates and Chinese equity and debt, in our economy. On balance, this is a hugely positive development considering corporates from other countries are increasingly shy of acquiring stakes in Pakistan. But a few dangers lurk if the implementation is not done right, considering the historic volatilities as well as the circumstances shaping up in China. Remember how the FDI under the IPP policy of 1994 was hailed by the government and assailed by the next? And recall also that the crisis between Hubco and the second Nawaz Sharif government in 1998 was sparked by a very large dividend payment that was made at a time when reserves were very low. The second Nawaz Sharif government made the argument that the deals signed under the IPP policy had payment obligations, such as capacity charges that they were not aware of, and that these obligations put a massive burden on Wapda finances at the time.