Economic Survey 2005-06: overview of the economy
TEXT (June 05 2006): The money supply during July-April 22, 2006 of the current fiscal year expanded by Rs 294.9 billion or 9.9 percent as against an expansion of Rs 332.4 billion or 13.34 percent in the same period last year. The pace of monetary expansion remained well within the Credit Plan target for the year (12.8 percent) primarily because of the moderate build up in net domestic assets (NDA).
Within the NDA, both net budgetary and borrowings for commodity operations have also remained well within the credit plan targets.
However, credit to private sector has exceeded the target and stood at Rs 345.1 billion as against Rs 330 billion envisaged for the year in credit plan reflecting the buoyancy in the economy. Expansion in net foreign assets (NFA) on the other hand exceeded the target (Rs 15 billion) and stood at Rs 37.8 billion owing mainly to the receipts of privatization proceeds and issuance of sovereign bond.
The proceeds from privatisation and sovereign bond not only helped build NFA but it also helped in containing the growth in NDA through the retirement of government debt held by the SBP.
The net credit to government for budgetary purposes which had peaked at Rs 162.2 billion during July-March 11, 2006 sharply reduced to Rs 43.3 billion compared to the annual credit plan target of Rs 98 billion and Rs 15.0 billion borrowed in the corresponding period of last year.
The net budgetary support to government decreased by about Rs 115 billion between March 31, and April 13, 2006 due to the inflow of proceeds from privatisation and sale of bonds in the international capital market. Higher government borrowing for budgetary support reflects a large spending on earthquake related activities. Monetary expansion in fact, picked up substantially after the October 8, 2005 earthquake when broad money supply grew by 5.6 percent after a contraction of 1.2 percent during the first quarter (July-September) of the current fiscal year.
The tight monetary policy stance of the SBP was reflected in the slower pace of credit expansion to the private sector. The credit to private sector grew by 20.2 percent (Rs 345.1 billion) during July-April 22, 2006 compared with the growth of 28.0 percent or Rs 357.4 billion during the same period of last year.
Credit to private sector continued to exhibit strong demand, reflecting the confidence of the private sector on the continuously improving macroeconomic fundamentals of the country. During the last three years (2003/04 to April 22, 2006) the cumulative credit flow to the private sector amounted to Rs 1108 billion, surpassing the total credit flow of Rs 921 billion in the previous 18 years (1984 - 2003).
The distribution of credit to the private sector during July-March FY06 has been broad-based. The manufacturing sector continued to be the largest recipient of bank credit amounting to Rs 130.0 billion during July-March 2005-06, - 17.1 percent more than the comparable period of last year.
The overall manufacturing sector accounted for almost 47.9 percent of the credit to private sector businesses. Within the manufacturing sector, textile industry received Rs 69.5 billion or 53.5 percent followed by cement (Rs 15.1 billion), leather (Rs 2.2 billion), and fertiliser (Rs 3.6 billion).
Commerce - related activities also picked up strongly as their credit off-take rose by 35.4 percent to Rs 51.2 billion. Wholesalers and retail traders as well as exporters received three - fourth of the credit under commerce - related activities.
The growth in consumer loans remained robust, and their scale expanded by 27 percent to Rs 67.2 billion. Most of the consumer loans were acquired to finance a range of products including automobiles (Rs 23.2 billion) followed by personal loans (Rs 21.5 billion), credit cards (Rs 10.4 billion) and house building (Rs 10.1 billion). Three major reasons may be given to account for higher growth in consumer loans.
First, banks are more interested in consumer loans due to relatively higher spreads. Second, consumers find these loans still affordable amid expectations that interest rates may rise in the near future. Third, some of the banks are working more aggressively to tap their potential customers for consumer loans.
The tight monetary policy is also reflected in the rise of the weighted average lending rate. The average lending rate increased by 193 bps to 10.14 percent during July-March FY06 due to the lagged impact of 5-6 percentage point increases in cut-off yields on various TBs last year.
It is for the first time in many years that the inflation - adjusted average lending rate has turned positive. It is expected that the private sector would now be more selective and prudent in terms of availing bank credit. The tight money market conditions also led the banking industry to raise the average deposit rate by 90 bps to 2.75 percent. However, this rise was not enough as the banking spread further rose by 103 bps to 7.39 percent since July 2005.
STOCK MARKET: The stock market continued to maintain its strong performance and achieved new heights by creating many new records during the fiscal year 2005-06. The KSE-100 Index crossed the barrier of 12000 marks for the first time in the history of capital market and touched an all time high on April 13, 2006.
The KSE-100 Index made further inroad and reached 12274 points on April 17, 2006, showing a growth of 64.7 percent over June 2005. Similarly, the total market capitalisation also increased to Rs 3419.4 billion on April 17, 2006 (US $57.0 billion) from Rs 2013.2 ($33.7 billion) showing a growth of 70 percent over June 2005. At current levels, KSE's market capitalisation is equivalent to about 46 percent of estimated GDP of FY06.
The improved performance of the stock market can mainly be attributed to consistent and transparent economic policies resulting in strong economic growth; a successful privatisation process attracting foreign investors in prestigious organisation like PTCL and National Refinery; sound monetary policy of the SBP, maintenance of fiscal discipline and the capital market reforms including development measures introduced by the stock exchanges with full support of the SECP. The government's economic policies and capital market reforms helped in promoting a fair, efficient and transparent capital market and restoring investors' confidence. The privatisation of the government entities through the bourses helped broad-basing the equity ownership to a significant level.
The buying euphoria in the stock market has been spurred by a number of other favourable factors, including the continuation of the present policies on the banking sector by the SBP, renewed interest of large number of buyers of shares, bright prospect of reaping dividends, good capital gains and presence of institutional investors in the market. The KSE saw robust activity especially during the first 4 months of 2006, with all vital indicators pointing in the right direction.
The Securities and Exchange Commission of Pakistan (SECP) has been actively pursuing a capital market reform program geared towards the development of a modern and efficient corporate sector and capital market, based on sound regulatory principles that provide impetus for high economic growth. The reforms introduced over recent years in the fields of risk management, governance and transparency have contributed significantly towards the growth and development of capital market and building investor confidence.
FISCAL POLICY: Fiscal policy primarily deals with the levels and composition of taxation, spending and borrowing by the Government. A sound fiscal policy is essential for preventing macroeconomic imbalances and realising the full growth potential. Pakistan has witnessed serious macroeconomic imbalances in the 1990s mainly on account of its fiscal profligacy. Persistence of large fiscal deficit resulted in unsustainable levels of public debt, adversely affecting the country's macroeconomic environment.
Pakistan, accordingly paid, a heavy price for its fiscal indiscipline in terms of deceleration in economic growth and investment, and the associated rise in the levels of poverty. Considerable efforts have been made over the last six years to inculcate financial discipline by pursuing a sound fiscal policy. Pakistan's hard earned macroeconomic stability is underpinned by fiscal discipline.
In order to address the structural problems in the tax system and tax administration, the government has been introducing wide-ranging tax and tariff reforms, as well as reforms in tax administration. These reforms have already started yielding handsome dividends. During the last seven years, tax collection by the CBR has increased by 130.0 percent - that is, more than doubled.
The revenue deficit (the difference between total revenue and total current expenditure), a measure of government dis-saving, was 2.2 percent of GDP in 2000-01 but it has almost been eliminated in 2005-06. Under the Fiscal Responsibility and Debt Limitation Act 2005, the government was bound to eliminate revenue deficit by 2007-08. This target has almost been achieved two years in advance.
The primary balance (total revenue minus non-interest total expenditure) was in surplus from 2000-01 to 2004-05. However, primary balance has entered into deficit zone in 2005-06, though the number is small (0.2 percent of GDP). Pakistan must not allow primary deficit to get entrenched.
The share of indirect taxes declined from 82 percent to 69 percent since 1990-91 and until 2005-06. Even within the indirect taxes, dramatic changes have taken place. The collection from custom duty used to account for 45 percent of total tax collection and 55 percent of indirect taxes in 1990-91, its share has now been reduced to 19.3 percent and 28 percent, respectively. This is the consequence of the tariff reform implemented by successive governments since 1990-91.
The share of sales tax increased at a tremendous pace from 14.4 percent to 40 percent of total taxes and from 17.6 percent to 60.2 percent of indirect taxes during the same period. Central excise as a tax is loosing its importance and gradually being faded out. Its shares in total taxes and indirect taxes were 22.5 percent and 27.5 percent, respectively in 1990-91. These have now been reduced to 8.4 percent and 11.9 percent, respectively during the same period.
The total expenditure remains more or less stable in a narrow band of 17.0 to 18.8 percent of GDP during the last six years. A substantial decline in interest payments from as high as 7.5 percent of GDP in 1998-99 to 3.1 percent of GDP in 2005-06, has provided fiscal space to re-orient expenditure in favour of development expenditure. Resultantly, the share of current expenditure in total expenditure declined from 89 percent of total expenditure in 1998-99 to 78 percent in 2005-06.
In addition, the share of development expenditure doubled from 11 percent to 22 percent in the same period. During the last six years the development expenditure improved from 2.2 percent of GDP in 2000-01 to 4.2 percent of GDP in 2005-06 and is likely to make a further jump to 4.7 percent of GDP in 2006-07.
The second largest component of the current expenditure, namely, defence spending remained stagnant at around 3.1 percent to 3.3 percent of GDP during the last six years. It is more useful to analyse the trend in expenditure after adjusting for inflation. The analysis in trend in expenditure in real term reveals some interesting facts.
During the last six years, the real growth in current expenditure averaged 3 percent per annum as compared with 4.5 percent in the 1990s. Total expenditure in real term grew by 3.4 percent in the first three years (2000-03) but accelerated to 5.6 percent during the last three years (2003-06).
The main contribution has come from development expenditure which grew by 7.4 percent per annum in first three years (2000-03) and by 23.8 percent in recent three years (2003-06). Non-defence non-interest expenditure in real term grew by 13.9 percent and 11.2 percent in these two periods, respectively.
This tremendous growth is mainly contributed by massive fall in real incidence of interest payments which depicted negative growth of 7.4 percent and 7.2 percent in first and second three years period. Defence spending, in real term grew by an average rate of 1.5 percent per annum during the last six years. Development expenditure in real term on the other hand grew by an average rate of 15.6 percent per annum during the same period. This fact, hopefully, will dispel some misconception in the minds of various analysts on the issue of defence versus development expenditure.
The fiscal policy stance remained decidedly growth-oriented during the fiscal year 2005-06, providing for strong public sector spending, intensification of spending on poverty alleviation and investing in infrastructure. Pakistan has made considerable progress in recent years on fiscal side. The overall fiscal deficit that averaged nearly 7.0 percent of GDP in the 1990s has declined to 3.3 percent in 2004-05. Fiscal deficit was targeted at 3.8 percent of GDP for the current fiscal year (2005-06) which was higher than the deficit of previous year (3.3 percent of GDP).
Higher deficit was targeted to finance higher public sector development program (PSDP), particularly towards financing infrastructure projects. Better than the targeted revenue position helped Pakistan over perform in achieving the underlying fiscal deficit. The underlying fiscal deficit for the year is estimated at Rs 261.6 billion or 3.4 percent of GDP as against the target of Rs 285 billion or 3.8 percent of GDP.
The earthquake-related expenditure for the year amounted to Rs 65.8 billion or 0.85 percent of GDP. Thus, including the earthquake-related spending, Pakistan's overall fiscal deficit stood at Rs 327.4 billion or 4.2 percent of GDP. In the next two years, Pakistan will continue to report overall fiscal deficit with and without earthquake-related spending to keep track of its underlying deficit.
Total revenues are estimated at Rs 1095.6 billion in 2005-06 compared with Rs 900 billion in 2004-05, thereby showing an increase of 21.7 percent. Tax revenue is provisionally estimated to have risen by 22.2 percent while non- tax revenue is estimated to rise by 16.9 percent. The Central Board of Revenue (CBR) was targeted to collect Rs 690 billion but it is likely to collect Rs 710 billion - Rs 20 billion more than the target and over 20 percent more than last year.
Total expenditure without earthquake-related spending on the other hand is estimated to grow by 21.5 percent. The higher growth in expenditure was mainly on account of a 43.4 percent increase in development spending which simply points toward the fact that the fiscal policy stance adopted by the government was growth-oriented.
The government has provided almost Rs 66 billion for earthquake - related spending this year and will continue to provide adequate resources for the rehabilitation of the affected people and for the reconstruction of the affected areas.
Public debt burden continues to decline rather sharply for the sixth year in a row on account of prudent fiscal management. Public debt was 85 percent of GDP in 1999-2000 but has declined sharply to 54.7 percent in 2005-06 - a decline of over 30.0 percentage points in just six years is one of the significant achievements of the government.
During the year, public debt as percentage of GDP declined from 61.4 percent to 54.7 percent - a 6.7 percentage points decline in one year in the midst of earthquake-related spending is other stellar occurrences of the current fiscal year. Since public debt is a charge on the budget, its burden must be viewed in relation to government revenue.
Public debt was 448.9 percent of total revenue last year but declined to 384.9 percent this year - a decline of 64 percentage points in one year is not a mean achievement.
External Sector Pakistan's external sector is being affected both by structural and cyclical factors. On the domestic side, four years of strong economic growth strengthening domestic demand and triggering a consequent pick up in investment spending, has led to a massive surge in imports.
On the external side, the global economy continues its strong and broad - based expansion with growth reaching close to 5 percent in 2006 with similar expansion projected for the next year - which will be the fifth successive year that the world economy has grown by more than 4.0 percent.
A strong and geographically broad - based growth has helped world trade to expand strongly and at the same time the rapid expansion of global trade has been a key driving force for growth in almost every part of the world. Like many other developing countries, Pakistan has also benefited from a strong and sustained growth in world economy. Notwithstanding global economic expansion, the sound macroeconomic policies that Pakistan pursued coupled with wide - ranging structural reforms, particularly in the areas of trade and tariff that it implemented over the last six or seven years have helped Pakistan doubled its exports in seven years.
EXPORTS: Exports were targeted at $17 billion or 18.1 percent higher than last year. Exports during the first nine months (July-March) of the current fiscal year are up by 18.6 percent - rising from $10.18 billion to $12.07 billion in the same period last year. The exports of primary commodities were up by 22 percent; prominent among those are exports of rice (33.6 percent), fish and fish preparation (30.2 percent) and fruits (20.6 percent).
Exports of textile manufactures grew by 19.2 percent; prominent among those are exports of bedwear (58.4 percent), readymade garments (31.0 percent), cotton yarn (29.4 percent), cotton cloth (16.5 percent) and towels (12.0 percent). Exports of other manufactures also registered a high double digit growth of 19.2 percent.
Within this category, exports of petroleum products grew by 80.8 percent and leather manufactures were up by 44.0 percent. In recent years, Pakistan has also entered in the exports of engineering goods. Though relatively small in numbers, exports of engineering goods were up by 10.3 percent.
The overall exports posted an increase of $1890.2 million, in absolute term in the first nine months, of the current fiscal year over the same period of last year. Of this increase, 61.4 percent or $1160.5 million has come alone from textile manufactures followed by other manufactures (20.9 percent or $395.7 million), primary commodities (11.1 percent or $209.6 million) and other exports (6.5 percent or $124.5 million). In other words, over 82 percent incremental exports in the first nine months (July-March) of the current fiscal year owe to textile and other manufactures and the remaining 18 percent to primary and non-traditional exports.
It is encouraging to note that exports this year have been largely quantity driven and with firming up of the price of exportable, Pakistan's exports may rise substantially in the medium- terms. During the first nine months (July-March) of the current fiscal year, over 88 percent increases in exports are driven by quantity (quantity effect) and the remaining 12 percent are due to the increase in unit values of exports (price effect).
Pakistan's exports are highly concentrated in few items namely, cotton, leather, rice, synthetic textiles and sports goods. These five categories of exports account for 74.5 percent of total exports during the first nine months of the year with Cotton manufacturers alone contributing 58.4 percent, followed by leather (6.1 percent), rice (6.9 percent) and synthetic textiles (1.2 percent). Pakistan's exports are also highly concentrated in few countries.
The seven countries, namely USA, Germany, Japan, UK, Hong Kong, Dubai and Saudi Arabia account for 50 percent of its exports. The United States is the single largest export market for Pakistan, accounting for 27 percent of its exports followed by the United Kingdom, Dubai, Germany and Hong Kong. Japan as Pakistan's export destination is fast loosing its significance less than one percent of its exports entering Japan. Pakistan needs to diversify its exports not only in terms of commodities but also in terms of markets. Heavy concentration of exports in few commodities and few markets could cause serious export instability.
Imports Pakistan's imports continue to be pushed higher by unprecedented rise in oil prices and continued strength of non-oil imports owing to buoyant domestic demand. Imports were targeted to grow by 4.25 percent for the fiscal year 2005-06 - rising from $14.4 billion to $20.7 billion.
Imports are up by 43.2 percent in the first nine months (July- March) of the current fiscal year - rising from $14.45 billion to $20.69 billion in the same period last year. Desegregation of total imports suggests that food imports grew by 35.9 percent - up from $990.7 million to $1346.7 million. Major contributors to the substantial rise in food imports include wheat, sugar and pulses; they together contributed 93 percent to the rise in food imports.
Imports of petroleum group have played a key role in taking Pakistan's import to a new height.
Emerging as a single largest item in country's import bill, Petroleum group import amounted to $4.6 billion during the first nine months (July-March) of the current fiscal year as against $2.8 billion in the same period last year, thus registering an increase of 64.5 percent.
Although the quantity of imports of crude as well as petroleum products are down by 2.3 percent and 5.8 percent, respectively, the prices of these two items were up by 76.6 percent and 62.9 percent compared with last year, causing import of these two items to rise by 64.5 percent in value terms. Despite reduction in quantity, Pakistan was forced to pay $1.9 billion more to import crude and petroleum products - a very heavy price for a developing country like Pakistan.
Overall imports during the first nine months (July-March) of the current fiscal year grew by 43.2 percent. In other words, imports in absolute terms have increased by $6.25 billion.
Major contributions to this year's incremental imports have come from petroleum group, raw materials and machinery. Almost 35 percent contribution came from machinery and raw materials, and 29 percent from petroleum group.
Therefore, these three items alone are responsible for 64 percent additional import and 27.6 percentage points to the 43.2 percent growth in total import this year. Consumer durables including cars, have contributed only 6.4 percent to the additional increase in total imports and 2.8 percentage points to the 43.2 percent growth in total import this year. Within this category of imports, electrical machinery and appliances contributed merely 1.7 percent while the contribution of cars has been 4.7 percent only.
More importantly, had the price of oil in international market remained at last year's level, the growth in overall imports would have been 30.7 percent, that is, 12.5 percentage points less than what is currently estimated.
On the contrary, had the total value of import of car would have been at last year's level or had there been no growth in import of cars in value term, the growth in total imports would have been 40.4 percent instead of 43.2 percent. Car has merely contributed 2.8 percentage points to the overall growth in imports.
Like exports, Pakistan's imports are also highly concentrated in few items namely, machinery, petroleum & petroleum products, chemicals, transport equipments, edible oil, iron & steel, fertiliser and tea. These eight categories of imports accounted for 72.5 percent of total imports during 2005-06. Among these categories machinery, petroleum & petroleum products and chemicals accounted for 53.4 percent of total imports.
Concentration of imports remained, by and large, unchanged over the last one decade with the exception of 2000-01. Pakistan's imports are highly concentrated in few countries. Over 40 percent of them continue to originate from just seven countries namely, the USA, Japan, Kuwait, Saudi Arabia, Germany, the UK and Malaysia. Saudi Arabia is emerging as major suppliers to Pakistan followed by the USA and Japan.
Trade Balance Despite sizable export gains, the merchandise trade deficit continues to widen, on the back of Pakistan's strong domestic demand fuelling non-oil imports. High global price of oil also inflated the oil import bill owing to its increasing dependence of imported crude oil.
The merchandise trade deficit stood at $8.62 billion by the end of the third quarter (July-March) of the current fiscal year as against $4.3 billion in the same period last year, thereby showing a deterioration of over 100.0 percent. Once again, the major contributors to further widening of trade deficit have been the petroleum group, machinery and iron & steel and scrap.
These three items alone accounted for 75 percent to the further rise in trade deficit.
Contrary to the general perception, the contribution of consumer durables has been 9.2 percent in the increase in trade deficit. Going forward, no one is expecting another 65 percent increase in oil prices in 2006-07 therefore, import growth is likely to decelerate in 2006-07. The sign of deceleration is already visible as import growth has slowed substantially in recent months.
Current Account Balance: Pakistan's current account balance that slipped into red in 2004-05 after posting surpluses for three consecutive years remained in deficit in 2005-06 with gap continued to widen owing to higher oil import bill on the back of high global crude oil prices and hefty rise in non-oil imports fuelled by strong demand.
Apart from further widening of trade deficit, higher freight charges by international shipping lines as a result of sharp increase in global trade and higher fuel cost, and growth in personal travel due to the rising level of income of middle and high income groups have also contributed to the widening of current account gap. Deceleration in the growth of net transfers is also responsible for widening of the current account deficit.
The current account deficit, excluding official transfers, stood at $4.7 billion in the first nine months (July-March) of the current fiscal year, compared to $1.18 billion in the same period last year.
As percentage of projected GDP for the year the current account deficit stood at 3.7 percent as against 1.1 percent in the same period last year. Although trade deficit almost doubled over the last year and services balance deteriorated by 27.5 percent, the strong inflows under private transfers fuelled by rising workers' remittances offset some of the negatives with current account deficit standing at $4.7 billion.
WORKERS' REMITTANCES: Workers' remittances, the second largest source of foreign exchange inflow after exports, continue to maintain its rising trend. Workers' remittances totalled $3.63 billion during the first ten months (July - April) of the current fiscal year, as against $3.45 billion in the same period last year, depicting an increase of 5.2 percent. The United States continues to be the single largest source of cash workers' remittances accounting for 27.4 percent or $995 million, followed by Saudi Arabia ($585 million or 16.1 percent), UAE ($556 million or 15.3 percent), UK ($346 million or 9.5 percent) and other GCC countries ($426 million or 13.2 percent). Given the trend so far, it is likely that workers remittances may touch $4.4 billion in 2005-06. Remittances have so far proved remarkably resilient and have hovered around $4.0 billion since 2002-03.
According to the World Economic Outlook, April 2005 published by the IMF, remittances can help improve the country's development prospects, maintain macroeconomic stability, mitigate the impact of adverse shock and reduce poverty. The Outlook further states that remittances allow families to maintain or increase expenditure on basic consumption, housing, education, and small-businesses formation.
To the extent, the poorer section of the society depend on remittances for their basic consumption needs, increase remittances could be associated with reduction in poverty and possibly inequality.
The Outlook also finds strong empirical evidence that suggest that construction activity is highly correlated with remittances inflow. Pakistan has been receiving, on average, over $4.0 billion per annum during the last four years. Such a massive inflow of remittances has helped Pakistan builds its foreign exchange reserves which, in turn, have provided stability in exchange rate. For the families, the massive flow of remittances has helped increase their consumption spending, helped improve their housing facility and improve their overall living conditions. It has also played an important role in reducing poverty in Pakistan.
FOREIGN DIRECT INVESTMENT: Foreign Direct Investment (FDI) has become an important source of private external finance for developing countries. It is different from other major types of external private capital flows in that it is motivated largely by the investors' long-term prospects for making profits in production activities in the host countries.
FDI in the first ten months (July-April) of the current fiscal year has reached $3.02 billion - the highest ever in the country's history, as against $0.89 billion in the same period last year, thus registering an increase of 238.7 percent. By the end of the current fiscal year, FDI is expected to reach $3.5 billion or 2.7 percent of GDP.
Almost 75.0 percent of FDI has come from six countries, namely, the UAE, US, Saudi Arabia, Switzerland, UK and Netherlands. The UAE with 42.5 percent ($1284.6 million) has topped the list of foreign investors followed by the US (13.9 percent or $419.1 million), Saudi Arabia (9.06 percent or $273.7 million), Switzerland (5.34 percent or $161.5 million), UK (5.0 percent or $151.4 million) and Netherlands (2.9 percent or $87.1 million).
Telecom, energy (oil, gas and power), financial services, trade, construction, chemicals, food and personal services have been the major recipient of FDI, accounting for almost 94 percent or $2.082 billion.
Telecom sector has been the single largest recipient of FDI with $1.0 billion followed by the energy sector ($304 million), financial services ($265.5 million), trade ($81.9 million), construction ($54.4 million), food ($52.7 million), personal services ($45.2 million) and cement ($33.6 million).
FOREIGN EXCHANGE RESERVES: Pakistan's total liquid foreign exchange reserves stood at $13.0 billion at the end of April, 2006. Of which, reserves held by the State Bank of Pakistan amounted to $10.6 billion and by banks stood at $2.4 billion.
Since end-July 2005 ($12.6 billion) and until end-April 2006 ($13.0 billion), Pakistan has added $407.0 million in its foreign exchange reserves. Many factors contributed towards this comfortable position of reserves. The most prominent among those are: private transfers that include remittances, higher export proceeds, floatation of bonds, higher FDI flows and privatisation proceeds. With this build up in reserves, Pakistan is in a position to meet any abnormal external shock.
Privatisation: A wide-ranging structural reform introduced during the last six year coupled with macroeconomic stability and rapid, strong and sustained economic recovery has transformed Pakistan into one of the ideal locations for foreign investment. Foreign investors are not only entering into the greenfield projects but are also actively participating in Pakistan's privatisation program.
This is also the reflection of the confidence of the global investors on the transparent privatisation program that has been followed in the past several years. Since January 1991 and until April 18, 2006, Pakistan has completed 160 transactions with gross proceeds of Rs 395.2 billion. Of which, 57 transactions worth Rs 338 billion were completed during October 1999 to April 2006. During the first ten months (July - April) of the current fiscal year, 11 transactions worth Rs 217.9 billion have been completed.
The major milestones achieved under the privatisation program for the year include the strategic sale of the entities like KESC, Pak-Arab Fertilisers, PTCL, Pakistan Steel Mill, Pak-American Fertiliser, Mustehkam Cement, Javedan Cement and CTI. The upfront payment of $1.4 billion by Etisalat and transfer of management control of PTCL has been one of the major achievements of privatisation program for the year.
The major privatisation initiatives which are under process and are likely to be complete soon include: Pakistan State Oil (PSO), Pakistan Petroleum Limited (PRL), Oil and Gas Development Company Limited (OGDCL), Faisalabad Electric Supply Company (FESCO), GENCO-1 Jamshoro, National Investment Trust (NIT) and other industrial units.
EXTERNAL DEBT: Until a few years ago, Pakistan was facing serious difficulties in meeting its external debt obligations. Not only was the stock of external debt and foreign exchange liabilities growing at an average rate of 7.4 percent per annum during 1990-99, but the debt carrying capacity of the country was weakening at a similar pace.
Consequently, the debt burden (external debt and foreign exchange liabilities as percentage of foreign exchange earnings) reached an unsustainable level of 335 percent by 1998-99. Following a credible strategy of debt reduction, over the last six years, Pakistan has succeeded in not only slowing the pace of debt accumulation but also succeeded in reducing the country's debt burden in a substantial manner.
Pakistan's external debt and liabilities have declined by $2.4 billion in seven years - down from $38.9 billion at the end of the 1990s to $36.5 billion by end-March, 2006. The other indicators of debt burden which are widely monitored by the international financial institutions, rating agencies, and participants of the international debt capital markets, have shown sharp reduction.
For example, the external debt and liabilities as percentage of GDP which stood at around 52 percent in end-June 2000, declined to 28.3 percent in end-March 2006. Similarly, the external debt and liabilities as percentage of foreign exchange earnings was reduced from 335.4 percent in 1998-99 to 127.6 percent by end-March 2006.
It may also be pointed out that Pakistan's external debt and liabilities were 22 times of its foreign exchange reserves in 1998-99 but declined sharply to 3.1 times in just seven years.
These statistics suggest that Pakistan's external debt burden has declined at a much faster pace than anticipated and that it is now on a solid downward footing. It may also be noted that the maturity profile of the debt has also improved during the period. The short-term debt was 3.2 percent of the external debt and liabilities but declined to 0.9 percent in the same period.
PAKISTAN'S LINK WITH INTERNATIONAL CAPITAL MARKET: With the successful implementation of first generation structural reforms and after gaining economic stability, Pakistan decided to give signal to the international capital markets through issuance of debt instruments. On February 12, 2004 Pakistan made a successful return to the international capital markets for the first time in more than five years.
Pakistan issued S$500 million 5-year Regulation-S Eurobond due 2009 lead managed by J. P Morgan, Deutsche Bank and ABN Amro Bank. This transaction attracted strong demand from high quality and diversified international investors resulting in 4 times over subscription and consequent tightest possible pricing of the bond in comparison to similar rated sovereign offering for 5-year new issues.
The success of this transaction reflected a vote of confidence by the international investor community on Pakistan's economic policies and reform agenda. Pakistan's Eurobond was priced at 370bps above US Treasury to yield 6.750 percent which looked very tight when compared with emerging market peers. The Pakistani bond was priced some 50bps inside the Philippines, despite the fact that it was rated three notches lower.
Pakistani paper was tightly priced when it was also compared with the weighted average spread of 435bps for the Emerging Market Bonds at the time of Pakistani deal. Since the issue of Pakistan's Eurobond, due 2009, it has undergone compression by about 201bps as on May 04, 2006. As compared to the issue spread of UST + 370bps, the bond is trading currently at a spread of UST + 169bps, about 54 percent less.
In January 2005, Pakistan issued US $600 million Islamic Sukuk lead managed by Citi Group and HSBC. The 5 year notes, structured to comply with Islamic law ("Shariah") were priced at 6 month US $Libor + 220 bps benchmark. Pakistan's debut Islamic Bond issue saw considerable interest from both conventional as well as Islamic investors across the three regions, Asia, Middle East and Europe.
It attracted orders worth $1.2 billion, with more than 80 accounts participating in the transaction. Pakistan decided to increase the transaction size from the original US $300-500 million to US $600 million to cater for the significant demand and to allocate the bonds to high quality accounts. Pakistan had over 80 accounts with a well-distributed book (Middle East 47 percent, Asia 31 percent and Europe 22 percent).
The Pakistan Sukuk 2010 over the past year have witnessed tightening of spreads over US $ Mid Swaps which is the evidence of continued investor confidence in the Pakistan economy.
EUROBOND OF 2016 AND 2036: On March 23, 2006, Pakistan successfully issued US $500 million new 10-year Notes and US $300 million new 30-year Bonds in the international debt capital markets lead managed by J. P Morgan, Citi Group and Deutsche Bank.
This transaction, which represented the first international 144A bond issued by Pakistan since 1999, raised significant interest amongst US QIBs and international Institutional investors. The 10-year notes were priced with a coupon of 7.125 percent to yield 7.125 percent, framing a spread of 240bps over the relevant 10-year US Treasury benchmark. The 30-year bonds were priced with a coupon of 7.875 percent to yield 7.875 percent, framing a spread of 302bps over the relevant 30-year US Treasury benchmark.
Pakistan was able to achieve spreads on both the new 10 and 30-year bonds that were tighter than its previous 5-year issues. By issuing 10 and 30 year bonds, Pakistan completed its primary objective of establishing a full Pakistani International yield curve in record time. This remarkable achievement was completed against a backdrop of increased volatility in the US Treasury and Asian credit markets. With over 170 accounts participating, books closed with total orders exceeding US $2bn.
The issue was over 2.5 times oversubscribed. Since the issue of the new Pakistan bonds due 2016 and 2036, the EM credit markets have continued to tighten. The Pakistan '2016 and '2036 bonds have performed in line with the markets with the spread over UST undergoing compression by about 24bps and 36bps respectively, within just over a month since issued.
As compared to the issue spread of UST + 240bps, the 2016 bond is trading currently at a spread of UST + 216bps, about 10 percent less. The 2036 bond, as compared to the issue spread of UST + 302bps, is trading currently at a spread of UST + 266bps, about 12 percent less.
It is important to note that this offering was the largest ever funding exercise of the government. The largest deal, prior to this transaction has been the $600 million Sukuk in 2005.
It was the longest ever tenor achieved by Pakistan. Both the new 10 and 30 year offerings are debut offerings for Pakistan and the US dollar yield curve was extended out to 30 years in just 2 years. Most emerging market sovereign issuers have taken longer time to extend their yield curve from 5 to 30 years. It took Philippines 4 years and Brazil and Turkey 3 years to extend their yield curve to 30 years.
POVERTY: The fight against poverty represents the greatest challenge of our times. Considerable progress has nevertheless been made in different parts of the world in reducing poverty. The proportion of people living in extreme poverty on global level fell from 28 percent in 1990 to 21 percent in 2001 (on the basis of $1 a day).
In absolute numbers the reduction during the period was 130 million with most of it coming from China. In Sub-Saharan Africa, the absolute number of poor actually increased by 100 million during the period. The Central and Eastern Europe and the CIS also witnessed a dramatic increase in poverty. While incidence of poverty declined in South Asia; Latin America and the Middle East witnessed no change.
The recent trends in global and regional poverty clearly suggest one thing and that is, that rapid economic growth over a prolonged period is essential for poverty reduction. At the macro level, economic growth implies greater availability of public resources to improve the quantity and quality of education, health and other services. At the micro level, economic growth creates employment opportunities, increases the income of the people and therefore reduces poverty.
Many developing countries have succeeded in boosting growth for a short period. But only those that have achieved higher economic growth over a long period have seen a lasting reduction in poverty - East Asia and China are classic examples of lasting reduction in poverty. One thing is also clear from the evidence of East Asia and China that growth does not come automatically. It requires policies that will promote growth.
Macroeconomic stability is therefore, key to a sustained high economic growth. Although extreme poverty on global level has declined, the gap between the rich and poor countries is increasing, even when developing countries are growing at a faster pace than developed ones - perhaps due to the large income gaps at the initial level.
In a world of six billionpeople, one billion have 80 percent of the income and five billion have less than 20 percent. This issue of global imbalance is at the core of the challenge to scale up poverty reduction.
In Pakistan, Poverty Reduction Strategy was launched by the government in 2001 in response to the rising trend in poverty during 1990s.
IT CONSISTED OF THE FOLLOWING FIVE ELEMENTS:- (a) accelerating economic growth and maintaining macroeconomic stability, (b) investing in human capital, (c) augmenting targeted interventions; (d) expanding social safety nets; and (e) improving governance.
The net outcome of interactions among these five elements would be the expected reduction in transitory and chronic poverty on a sustained basis. The reduction in poverty and improvement in social indicators and living conditions of the society are being monitored frequently through large- scale household surveys in order to gauge their progress in meeting the targets set by Pakistan for achieving the seven UN Millennium Development Goals by 2015.
Pakistan's growth performance over the last four years is enviable in many respects. Sound macroeconomic policies and implementation of structural reforms in almost all sectors of the economy have transformed Pakistan into a stable and resurgent economy in recent years. The real GDP has grown at an average rate of over 7.5 percent per annum during the last three years (2003/04 to 2005/06). With population growing at an average rate of 1.9 percent per annum, the real per capita income has grown at an average rate of 5.6 percent per annum.
The strong economic growth is bound to create employment opportunities and therefore reduce unemployment. The evidence provided by the Labour Force Survey 2005 (First two quarters) clearly supports the fact that economic growth has created employment opportunities. Since 2003-04 and until the first half of 2005-06, 5.82 million new jobs have been created as against an average job creation of 1.0 - 1.2 million per annum. Consequently, unemployment rate which stood at 8.3 percent in 2001-02 declined to 7.7 percent in 2003-04 and stood at 6.5 percent during July - December 2005. The rising pace of job creation is bound to increase the income levels of the people.
In recent years the role of remittances in reducing poverty has been widely acknowledged. Remittances allow families to maintain or increase expenditure on basic consumption, housing, education, and small-business formation. Total remittances inflows since 2001-02 and until 2005-06 have amounted over $19 billion or Rs 1129 billion. Such a massive inflow of remittances particularly towards the rural or semi-urban areas of Pakistan must have helped loosen the budget constraints of their recipients, allowing them to increase consumption of both durables and non-durables, on human capital accumulation (through both education and health care), and on real estate. To the extent that the poorer sections of society depend on remittances for their basic consumption needs, increased flow of remittances would be associated with reduction in poverty.
Although, growth is necessary but it is not sufficient to make any significant dent to poverty. Realising this fact the government had launched a directed program under the title of Poverty Related and Social Sector Program some five years ago. Over the last five years the government has spent Rs 1332 billion on poverty-related and social sector program to cater to the needs of poor and vulnerable sections of the society. Such a huge spending on targeted program is bound to make a significant dent to poverty.
THE HOUSEHOLD INTEGRATED ECONOMIC SURVEY (HIES) - a component of Pakistan Social and Living Standards Measurement (PSLM) Survey provides important data on household income, consumption expenditure and consumption patterns at national and provincial level with rural-urban breakdown. The information pertaining to income and expenditure of the households are used to estimate poverty. The HIES is specifically designed to monitor poverty status of population by collecting information on consumption expenditure at the household level. With a representative sample size of 14706 households, it covered 5808 and 8898 households in the urban and rural areas of the country, respectively. The Survey was started in July 2004 and the entire field operations were completed in June 2005.
The poverty line is based on 2350 calories per adult equivalent per day. It is also comparable with poverty line of 2000-01 as it was also based on 2350 calories and calculated from Pakistan Integrated Household Survey (PIHS). The poverty line of 2004-05 is adjusted by the inflation rate during the period 2001-2005.
THE LATEST ESTIMATE OF INFLATION - adjusted poverty Iine is Rs 878.64 per adult equivalent per month - up from Rs 723.40 in 2001. Headcount ratio, ie, percentage of population living below the poverty line has fallen from 34.46 percent in 2001 to 23.9 percent in 2004-05, a decline of 10.6 percentage points. In absolute numbers the count of poor persons has fallen from 49.23 million in 2001 to 36.45 million in 2004-05.
The percentage of population living below the poverty line in rural areas has declined from 39.26 percent to 28.10 percent while those in urban areas, has declined from 22.69 percent 14.9 percent. In other words, rural poverty has declined by 11.16 percentage points and urban poverty is reduced by 7.79 percentage points. Consumption inequality increased marginally during the period. These findings are consistent with the developments on economic scene that have taken place in Pakistan since 2000-01. A strong growth in economy, rise in per capita income, a large inflow of remittances and massive spending on poverty-related and social sector programs were expected to reduce poverty in Pakistan.
It is important to note that the methodology and the estimates of poverty have been endorsed by the development partners such as the World Bank, the Asian Development Bank, the United Nations Development Program (UNDP) and the Department for International Development (DFID), UK. The service of world renowned poverty expert, Professor Nanak Kakwani was hired by the UNDP to independently look into the methodology as well as poverty estimates. He also authenticated both the methodology and estimates. In order to maintain consistency across years, it is essential that we apply the same agreed upon methodology over the years, irrespective of its weaknesses and strengths.
SECOND GENERATION REFORMS: Structural reform is the essence of development. Broadly speaking, structural reforms entail measures that change the institutional framework and constraints governing market behaviour and outcomes.
In general, structural reforms have been associated with the notion of increasing the role of market forces and reducing the extent to which government regulations or ownership of productive capacity affect the decision making of private firms and households. It would, however, be misleading to equate structural reforms with the goal of abandoning regulation altogether. Structural reforms aim at adapting institutional frameworks and regulations for markets to work properly.
But it is well-known that some markets are prone to market failure or inefficiencies, therefore, there is a role of the government to correct the market failure and improve the efficiencies of the markets. Structural reforms, therefore, do not abdicate the government to play its due role.
Pakistan has been implementing wide-ranging structural reforms in almost every sector of the economy to improve supply-side response by removing impediments to private sector development, removing irritants to improve investment climate and improving the allocation of resources. The reforms implemented thus far include: financial sector reforms, capital markets reforms, tax and tariff reforms, reforms in tax administration, fiscal transparency, reforms in privatisation program, governance reform, particularly with respect to devolution and capacity building, agricultural reform, particularly with respect to agriculture pricing, movement of commodities and introducing private sector in wheat operation, and most importantly, the passing of the Fiscal Responsibility and Debt Limitation Act 2005. The last one was very essential to pursue a rule-based fiscal policy to inject financial discipline. Pakistan has benefited immensely from what is known as first generation reforms.
Pakistan's economic recovery has been strong, rapid and sustained. Going forward, Pakistan is targeting a growth rate of 6 to 8 percent per annum in the next five years. However, it is clear that a growth of this magnitude would not be achievable automatically. To sustain a growth momentum of 6 to 8 percent per annum more efforts and more 'growth-critical' reforms would be required.
OVER THE NEXT FIVE YEARS THE GOVERNMENT'S REFORM AGENDA INCLUDE: strengthening institutions, improving the competitiveness of our industry, building a robust financial system in an environment of global financial restructuring, further strengthening of tax administration, promoting transparency in economic policy-making, further reform in capital market and strengthening the country's physical and human infrastructure. While it is not possible to discuss each element of reform, an attempt has been made to provide some flavour of these reforms.
Strengthening of institutions is vital to remove obstacles to higher growth and better social service delivery. As part of institutional strengthening the government has already launched major initiatives, prominent among those include reforms in judiciary, police, civil service, and pension, the restructuring of the Central Directorate of National Savings (CDNS), transforming the existing Monopoly Control Authority (MCA) into a Competition Authority Organisation, and introduction and adoption of E-Government Strategy.
Furthermore, the government has already set-up a Commission to assess existing regulations and procedures affecting the interaction between the administration and the business with a view to eliminating red tape and with it, corruption opportunities.
It is clear that judicial reform is aimed at strengthening the rule of law and enhancing the transparency and accessibility of the legal system by modernising the court system at all levels and strengthening capacity, effectiveness, and accountability of law enforcement agents. This is an on-going and difficult reform program.
Some progress in police reform has also been made. The civil service reform is also an on-going reform and major progress has been made in enhancing the capacity of our civil servants through training within and outside the country. On pension reform, the government is working towards introducing a contributory Provident/ Pension Fund Scheme for the new entrants. The work on converting the existing CDNS into a corporate body is also at a fairly advance stage. The government believes in free-market system but in recent years the rise of 'extra-market forces' have been observed, leading to market failures and creating hardship for ordinary consumers.
It is in this perspective that the government is revamping the existing Monopoly Control Authority by converting it into a Competition Authority with proper powers to deal with extra-market forces. In order to improve the efficiency of various ministries the government is working towards achieving ISO 9001 Certification.
A beginning has already been made with Ministry of Finance working towards achieving this certification. The restructuring of the Federal Bureau of Statistics with a view to converting it into an autonomous institution is also high on the agenda of reform. To implement the second generation reform the government is setting up an Economic Reform Unit in the Ministry of Finance with a view to co-ordinating with other ministries in implementing various reforms. This unit will also serve as Secretariat for the Private Sector Development initiatives.
Improving competitiveness of Pakistan's industries is central to the reform agenda. It deals with improving investment climate by strengthening microeconomic sources of competitiveness. Improving competitiveness requires understanding of various impediments and policy bottlenecks that affects competitiveness of our industry.
Most important element of improving competitiveness is the strengthening of the country's physical infrastructure, that is, the supply of gas, power, working of ports, roads, rail linkages, telecommunication network, and water availability. Given the resource constraints on the one hand and the role strong infrastructure in enhancing competitiveness on the other, the government has recently set-up Infrastructure Project Development Facility in line with public-private partnership.
Furthermore, to improve the competitiveness of our industries the Government has commissioned a number of studies with the help of development partners to examine microeconomic constraints in improving investment climate and promoting private sector development.
The banking and financial sector of Pakistan is much stronger today than it was some one decade ago or in comparison to other countries in the Asian region. However, further strengthening of the banking system to meet the challenges arising from global financial restructuring is required. Future reforms include: voluntary mergers and consolidation of smaller banks to become effective and strong banks; further strengthening of the legal infrastructure of the banking system; formulation of new Banking Law to deal with current and future challenges; a deposit insurance scheme to protect the small depositors; further liberalisation of financial services in the context of TRIMs; promoting transparency and accountability in banking system; and observance of international standards.
Tax administration reform is the cornerstone of the reform agenda. A major overhaul of the Central Board of Revenue (CBR) is being implemented. It aims at increasing the CBR's effectiveness, reduce corruption opportunities, and raise the buoyancy of the tax system through organisational restructuring, self assessment, elimination of personal contacts between tax-payers and tax authorities, simplified processes, tax-payers facilitation, revised terms and conditions for employment of the CBR officials and improved IT management. A considerable progress in these areas have been made but much more is required to make CBR an efficient tax administration for which many initiatives have been launched and are at various stages of implementation.
Concluding Remarks Economic success brings fresh challenges. Pakistan has witnessed strong, rapid and sustained economic recovery with growth averaging at 7.0 percent per annum during the last four years. This has positioned Pakistan as one of the fastest growing economies in Asia. The economic landscape of Pakistan has changed altogether therefore; its challenges are also different today. How to sustain the on-going growth momentum
in an environment of macroeconomic stability is the biggest challenge going forward. Linked with this are the challenges of job creation, poverty alleviation, improving social indicators and most importantly, strengthening the country's physical infrastructure to support 6-8 percent growth in the medium-term.
An impressive economic recovery from an economic downturn is a good time to enhance the speed of implementation of the second generation reforms. Many economic problems are due to shortcomings in the markets, rather than to resource shortages or an excess or deficiency of overall demand. There is a broad consensus that where there are such problems, structural reforms, that is policy measures that change the institutional and regulatory frameworks governing market behaviour, can lead to a greater efficiency in the allocation of resources.
Notwithstanding extra-ordinary successes in the face of headwinds Pakistan still faces many challenges in fully realising its potential for sustained economic growth, better living standards, and greater resilience to shocks. The moment such as this does not mean that we have time to pause or rest. Although we have made great strides over the last six years, we are fully aware that much remains to be done.
EXECUTIVE SUMMARY:
Pakistan's economy has delivered yet another year of solid economic growth in 2005-06 in the midst of an extra- ordinary surge in oil prices and devastating earthquake of October 8, 2005 causing widespread damages. Pakistani corporates and consumers continue to be the bright spot.
Consumer spending remained buoyant and investors remained upbeat on the strength and sustainability of the current growth momentum, despite higher energy prices and natural calamities. With economic growth at 6.6 percent in 2005-06, Pakistan's economy has grown at an average rate of almost 7.0 percent per annum during the last four years (2002/03 - 2005/06) and over 7.5 percent in the last three years (2003/04 - 2005/06), thus positioning itself as one of the fastest growing economies of the Asian region. The growth momentum that Pakistan sustained for the last four years is underpinned by dynamism in industry, agriculture and services, and the emergence of a new investment cycle supported by strong credit growth.
The pre-requisites for a sustained economic growth appear to have gained firm footing during the last four years.
The outgoing fiscal year (2005-06) has been an extra-ordinary year for the economy of Pakistan. At the very onset of the year the economy faced headwinds from rising oil prices, hovering around $70 - 75 per barrel and putting severe strains on the country's trade balance on the one hand and budget on the other, and massive earthquake of October 8, 2005 causing extensive damage to property, infrastructure, school, hospital etc and loss of over 70,000 human lives. The rescue, relief and reconstruction of earthquake affected areas also put budget under severe stress. Pakistan's economy has proved itself as remarkably resilient in the face of shocks of extra-ordinary proportions. Growth has remained buoyant. Real GDP grew strongly at 6.6 percent in 2005-06 as against the revised estimates of 8.6 percent last year and 7.0 percent growth target for the year.
Key drivers of this year's growth have been service sectors and industry. Large-scale manufacturing grew by 9.0 percent as against 15.6 percent of last year and 14.5 percent target for the year, exhibiting signs of moderation on account of higher capacity utilisation on the one hand and strong base effect along with several other factors on the other hand. The services sector continued to perform strongly at 8.8 percent. Construction too continued to perform strong showing, partly helped by activity in private housing market, spending on physical infrastructure, and reconstruction activities in earthquake affected areas. Consumer spending remained strong and investment spending gained further traction.
Pakistan's economy continues to maintain solid pace of expansion since the fiscal year 2002-03 recovery in the economy has been strong, rapid and sustained. During the fiscal year 2005-06, Pakistan's economic fundamentals have gained further strength. The most important achievements of this year include:
GROWTH AND INVESTMENT:
Pakistan's economy continued to maintain solid pace of expansion for the fourth year in a row in the fiscal year 2005-
06 despite facing headwinds from rising energy prices at $70-75 per barrel and the widespread damage caused by the earthquake of October 8, 2005. The growth momentum that Pakistan sustained for the last four years is underpinned by dynamism in industry, agriculture and services, and the emergence of a new investment cycle supported by strong credit growth.
Real GDP grew by 6.6 percent in 2005-06 as against 8.6 percent last year and fell short of the target (7.0 percent). With economic growth at 6.6 percent in 2005-06, Pakistan's economy has grown at an average rate of almost 7.0 percent per annum during the last four years and over 7.5 percent in the last three years, thus enabling it to join the exclusive club of the fastest growing economies of the Asian region.
Growth of value addition in Commodity Producing Sector (CPS) slowed to 4.3 percent in 2005-06 as against 9.2 percent last year. Both the important components of the commodity producing sector namely, agriculture and manufacturing performed less than their targets. Within the CPS, agriculture and manufacturing grew by 2.5 percent and 8.6 percent, respectively.
Agriculture and particularly its crop sector could not perform up to the expectation especially major crops registered a 3.6 percent contraction in growth. Livestock, a major component of agriculture, exhibited strong showing and pulled the overall growth in agriculture to 2.5 percent as against the target of 4.2 percent. Livestock has been the only saving grace as far as the performance of agriculture is concerned this year.
Overall manufacturing, accounting for 18.2 percent of GDP, registered an impressive growth of 8.6 percent against the target of 12.0 percent and last year's achievement of 12.6 percent.
Large-scale manufacturing grew by 9.0 percent as against 15.6 percent of last year and 14.5 percent target for the year, exhibiting signs of moderation on account of higher capacity utilisation on the one hand and strong base effect along with several other factors on the other hand. Small-scale manufacturing grew at estimated 9.3 percent in 2005-06.
The Construction sector continued its strong showing, partly helped by activity in private housing market, spending on physical infrastructure, and reconstruction activities in earthquake affected areas. The construction sector is estimated to grow by 9.2 percent in 2005-06 as against extraordinary growth of 18.6 percent last year.
The services sector grew by 8.8 percent in 2005-06 as against 8.0 percent of last year. Growth in the services sector in 2005-06 was primarily attributable to strong growth in the finance and insurance sector, better performance of wholesale and retail trade, as well as transport and the communications sector. Finance and insurance sector spearheaded the growth in the services sector and registered stellar growth of 23.0 percent during the current fiscal year 2005-06 which is slightly lower than 29.7 percent of last year. Value added in the wholesale and retail trade sector has increased by 9.9 percent over the previous year, compared to 11.1 percent growth last year. The transport, storage and communications sector grew by 7.1 percent compared to 3.5 percent growth last year.
Major contribution towards growth has come from the services sector which has emerged as a new growth power house for some time. The commodity producing sectors (agriculture and industry) has contributed one-third of the GDP growth and the services sector contributed the remaining two-third to the real GDP growth of 6.6 percent. The CPS contributed 31.7 percent or 2.1 percentage point to this year's growth while the remaining 68 percent or 4.5 percentage points contribution came from services sector. Within the CPS, agriculture contributed 0.55 percentage points or 8.4 percent to overall growth while industry contributed 1.54 percentage points or 23.3 percent. Within services sector wholesale and retail trade has contributed 27.9 percent or 1.84 percentage points to GDP growth.
Pakistan's per capita real GDP has risen at a faster pace during the last three years (5.6 percent per annum on average in rupee terms) leading to a rise in average income of the people. Such increases in real per capita income have led to a sharp increase in consumer spending during the last three years. Per capita income defined as Gross National Product at market price in dollar term divided by the country's population, grew by an average rate of 13.9 percent per annum during the last four years - rising from $579 in 2002-03 to $847 in 2005-06. Per capita income in dollar term registered an increase of 14.1 percent over last year - rising from $742 to $847.
As opposed to an average annual increase of 1.4 percent during 2000-03, real private consumption expenditure grew by 13.1 percent in 2004-05 and further by 8.1 percent in 2005-06.
INVESTMENT:
During the fiscal year 2005-06, gross fixed capital formation or domestic fixed investment grew by 30.7 percent as against a sharp rise of 28.6 percent last year. Private sector investment grew by 31.6 percent this year as against a growth of 29.1 percent last year. Major growth in investment by private sector is witnessed in agriculture (15.3 percent), manufacturing (14.4 percent), mining and quarrying (45.5 percent), construction (9.5 percent), transport and communication (20.2 percent), and wholesale and retail trade (424.5 percent). Public sector investment on the other hand registered massive growth of 46.7 percent as against a hefty 32.9 percent increase last year.
The growth in domestic investment was largely a public sector phenomenon last year but this year, it was mainly public-private sector partnership driven. Total investment increased from 18.1 percent of GDP last year to 20.0 percent of GDP in 2005-06.
Fixed investment as percentage of GDP is estimated at 18.4 percent as against 16.5 percent last year. Both public sector investment and private sector investment as percentage of GDP have increased to 4.8 percent and 13.6 percent respectively, up from 4.4 percent and 12.1 percent last year.
SAVINGS:
National savings as percentage of GDP stood at 16.4 percent in 2005-06 fractionally lower than last year's level of 16.5 percent. Domestic savings stood at 14.4 percent of GDP in 2005-06 slightly lower than 14.5 percent of GDP last year.
TEXT (June 05 2006): The money supply during July-April 22, 2006 of the current fiscal year expanded by Rs 294.9 billion or 9.9 percent as against an expansion of Rs 332.4 billion or 13.34 percent in the same period last year. The pace of monetary expansion remained well within the Credit Plan target for the year (12.8 percent) primarily because of the moderate build up in net domestic assets (NDA).
Within the NDA, both net budgetary and borrowings for commodity operations have also remained well within the credit plan targets.
However, credit to private sector has exceeded the target and stood at Rs 345.1 billion as against Rs 330 billion envisaged for the year in credit plan reflecting the buoyancy in the economy. Expansion in net foreign assets (NFA) on the other hand exceeded the target (Rs 15 billion) and stood at Rs 37.8 billion owing mainly to the receipts of privatization proceeds and issuance of sovereign bond.
The proceeds from privatisation and sovereign bond not only helped build NFA but it also helped in containing the growth in NDA through the retirement of government debt held by the SBP.
The net credit to government for budgetary purposes which had peaked at Rs 162.2 billion during July-March 11, 2006 sharply reduced to Rs 43.3 billion compared to the annual credit plan target of Rs 98 billion and Rs 15.0 billion borrowed in the corresponding period of last year.
The net budgetary support to government decreased by about Rs 115 billion between March 31, and April 13, 2006 due to the inflow of proceeds from privatisation and sale of bonds in the international capital market. Higher government borrowing for budgetary support reflects a large spending on earthquake related activities. Monetary expansion in fact, picked up substantially after the October 8, 2005 earthquake when broad money supply grew by 5.6 percent after a contraction of 1.2 percent during the first quarter (July-September) of the current fiscal year.
The tight monetary policy stance of the SBP was reflected in the slower pace of credit expansion to the private sector. The credit to private sector grew by 20.2 percent (Rs 345.1 billion) during July-April 22, 2006 compared with the growth of 28.0 percent or Rs 357.4 billion during the same period of last year.
Credit to private sector continued to exhibit strong demand, reflecting the confidence of the private sector on the continuously improving macroeconomic fundamentals of the country. During the last three years (2003/04 to April 22, 2006) the cumulative credit flow to the private sector amounted to Rs 1108 billion, surpassing the total credit flow of Rs 921 billion in the previous 18 years (1984 - 2003).
The distribution of credit to the private sector during July-March FY06 has been broad-based. The manufacturing sector continued to be the largest recipient of bank credit amounting to Rs 130.0 billion during July-March 2005-06, - 17.1 percent more than the comparable period of last year.
The overall manufacturing sector accounted for almost 47.9 percent of the credit to private sector businesses. Within the manufacturing sector, textile industry received Rs 69.5 billion or 53.5 percent followed by cement (Rs 15.1 billion), leather (Rs 2.2 billion), and fertiliser (Rs 3.6 billion).
Commerce - related activities also picked up strongly as their credit off-take rose by 35.4 percent to Rs 51.2 billion. Wholesalers and retail traders as well as exporters received three - fourth of the credit under commerce - related activities.
The growth in consumer loans remained robust, and their scale expanded by 27 percent to Rs 67.2 billion. Most of the consumer loans were acquired to finance a range of products including automobiles (Rs 23.2 billion) followed by personal loans (Rs 21.5 billion), credit cards (Rs 10.4 billion) and house building (Rs 10.1 billion). Three major reasons may be given to account for higher growth in consumer loans.
First, banks are more interested in consumer loans due to relatively higher spreads. Second, consumers find these loans still affordable amid expectations that interest rates may rise in the near future. Third, some of the banks are working more aggressively to tap their potential customers for consumer loans.
The tight monetary policy is also reflected in the rise of the weighted average lending rate. The average lending rate increased by 193 bps to 10.14 percent during July-March FY06 due to the lagged impact of 5-6 percentage point increases in cut-off yields on various TBs last year.
It is for the first time in many years that the inflation - adjusted average lending rate has turned positive. It is expected that the private sector would now be more selective and prudent in terms of availing bank credit. The tight money market conditions also led the banking industry to raise the average deposit rate by 90 bps to 2.75 percent. However, this rise was not enough as the banking spread further rose by 103 bps to 7.39 percent since July 2005.
STOCK MARKET: The stock market continued to maintain its strong performance and achieved new heights by creating many new records during the fiscal year 2005-06. The KSE-100 Index crossed the barrier of 12000 marks for the first time in the history of capital market and touched an all time high on April 13, 2006.
The KSE-100 Index made further inroad and reached 12274 points on April 17, 2006, showing a growth of 64.7 percent over June 2005. Similarly, the total market capitalisation also increased to Rs 3419.4 billion on April 17, 2006 (US $57.0 billion) from Rs 2013.2 ($33.7 billion) showing a growth of 70 percent over June 2005. At current levels, KSE's market capitalisation is equivalent to about 46 percent of estimated GDP of FY06.
The improved performance of the stock market can mainly be attributed to consistent and transparent economic policies resulting in strong economic growth; a successful privatisation process attracting foreign investors in prestigious organisation like PTCL and National Refinery; sound monetary policy of the SBP, maintenance of fiscal discipline and the capital market reforms including development measures introduced by the stock exchanges with full support of the SECP. The government's economic policies and capital market reforms helped in promoting a fair, efficient and transparent capital market and restoring investors' confidence. The privatisation of the government entities through the bourses helped broad-basing the equity ownership to a significant level.
The buying euphoria in the stock market has been spurred by a number of other favourable factors, including the continuation of the present policies on the banking sector by the SBP, renewed interest of large number of buyers of shares, bright prospect of reaping dividends, good capital gains and presence of institutional investors in the market. The KSE saw robust activity especially during the first 4 months of 2006, with all vital indicators pointing in the right direction.
The Securities and Exchange Commission of Pakistan (SECP) has been actively pursuing a capital market reform program geared towards the development of a modern and efficient corporate sector and capital market, based on sound regulatory principles that provide impetus for high economic growth. The reforms introduced over recent years in the fields of risk management, governance and transparency have contributed significantly towards the growth and development of capital market and building investor confidence.
FISCAL POLICY: Fiscal policy primarily deals with the levels and composition of taxation, spending and borrowing by the Government. A sound fiscal policy is essential for preventing macroeconomic imbalances and realising the full growth potential. Pakistan has witnessed serious macroeconomic imbalances in the 1990s mainly on account of its fiscal profligacy. Persistence of large fiscal deficit resulted in unsustainable levels of public debt, adversely affecting the country's macroeconomic environment.
Pakistan, accordingly paid, a heavy price for its fiscal indiscipline in terms of deceleration in economic growth and investment, and the associated rise in the levels of poverty. Considerable efforts have been made over the last six years to inculcate financial discipline by pursuing a sound fiscal policy. Pakistan's hard earned macroeconomic stability is underpinned by fiscal discipline.
In order to address the structural problems in the tax system and tax administration, the government has been introducing wide-ranging tax and tariff reforms, as well as reforms in tax administration. These reforms have already started yielding handsome dividends. During the last seven years, tax collection by the CBR has increased by 130.0 percent - that is, more than doubled.
The revenue deficit (the difference between total revenue and total current expenditure), a measure of government dis-saving, was 2.2 percent of GDP in 2000-01 but it has almost been eliminated in 2005-06. Under the Fiscal Responsibility and Debt Limitation Act 2005, the government was bound to eliminate revenue deficit by 2007-08. This target has almost been achieved two years in advance.
The primary balance (total revenue minus non-interest total expenditure) was in surplus from 2000-01 to 2004-05. However, primary balance has entered into deficit zone in 2005-06, though the number is small (0.2 percent of GDP). Pakistan must not allow primary deficit to get entrenched.
The share of indirect taxes declined from 82 percent to 69 percent since 1990-91 and until 2005-06. Even within the indirect taxes, dramatic changes have taken place. The collection from custom duty used to account for 45 percent of total tax collection and 55 percent of indirect taxes in 1990-91, its share has now been reduced to 19.3 percent and 28 percent, respectively. This is the consequence of the tariff reform implemented by successive governments since 1990-91.
The share of sales tax increased at a tremendous pace from 14.4 percent to 40 percent of total taxes and from 17.6 percent to 60.2 percent of indirect taxes during the same period. Central excise as a tax is loosing its importance and gradually being faded out. Its shares in total taxes and indirect taxes were 22.5 percent and 27.5 percent, respectively in 1990-91. These have now been reduced to 8.4 percent and 11.9 percent, respectively during the same period.
The total expenditure remains more or less stable in a narrow band of 17.0 to 18.8 percent of GDP during the last six years. A substantial decline in interest payments from as high as 7.5 percent of GDP in 1998-99 to 3.1 percent of GDP in 2005-06, has provided fiscal space to re-orient expenditure in favour of development expenditure. Resultantly, the share of current expenditure in total expenditure declined from 89 percent of total expenditure in 1998-99 to 78 percent in 2005-06.
In addition, the share of development expenditure doubled from 11 percent to 22 percent in the same period. During the last six years the development expenditure improved from 2.2 percent of GDP in 2000-01 to 4.2 percent of GDP in 2005-06 and is likely to make a further jump to 4.7 percent of GDP in 2006-07.
The second largest component of the current expenditure, namely, defence spending remained stagnant at around 3.1 percent to 3.3 percent of GDP during the last six years. It is more useful to analyse the trend in expenditure after adjusting for inflation. The analysis in trend in expenditure in real term reveals some interesting facts.
During the last six years, the real growth in current expenditure averaged 3 percent per annum as compared with 4.5 percent in the 1990s. Total expenditure in real term grew by 3.4 percent in the first three years (2000-03) but accelerated to 5.6 percent during the last three years (2003-06).
The main contribution has come from development expenditure which grew by 7.4 percent per annum in first three years (2000-03) and by 23.8 percent in recent three years (2003-06). Non-defence non-interest expenditure in real term grew by 13.9 percent and 11.2 percent in these two periods, respectively.
This tremendous growth is mainly contributed by massive fall in real incidence of interest payments which depicted negative growth of 7.4 percent and 7.2 percent in first and second three years period. Defence spending, in real term grew by an average rate of 1.5 percent per annum during the last six years. Development expenditure in real term on the other hand grew by an average rate of 15.6 percent per annum during the same period. This fact, hopefully, will dispel some misconception in the minds of various analysts on the issue of defence versus development expenditure.
The fiscal policy stance remained decidedly growth-oriented during the fiscal year 2005-06, providing for strong public sector spending, intensification of spending on poverty alleviation and investing in infrastructure. Pakistan has made considerable progress in recent years on fiscal side. The overall fiscal deficit that averaged nearly 7.0 percent of GDP in the 1990s has declined to 3.3 percent in 2004-05. Fiscal deficit was targeted at 3.8 percent of GDP for the current fiscal year (2005-06) which was higher than the deficit of previous year (3.3 percent of GDP).
Higher deficit was targeted to finance higher public sector development program (PSDP), particularly towards financing infrastructure projects. Better than the targeted revenue position helped Pakistan over perform in achieving the underlying fiscal deficit. The underlying fiscal deficit for the year is estimated at Rs 261.6 billion or 3.4 percent of GDP as against the target of Rs 285 billion or 3.8 percent of GDP.
The earthquake-related expenditure for the year amounted to Rs 65.8 billion or 0.85 percent of GDP. Thus, including the earthquake-related spending, Pakistan's overall fiscal deficit stood at Rs 327.4 billion or 4.2 percent of GDP. In the next two years, Pakistan will continue to report overall fiscal deficit with and without earthquake-related spending to keep track of its underlying deficit.
Total revenues are estimated at Rs 1095.6 billion in 2005-06 compared with Rs 900 billion in 2004-05, thereby showing an increase of 21.7 percent. Tax revenue is provisionally estimated to have risen by 22.2 percent while non- tax revenue is estimated to rise by 16.9 percent. The Central Board of Revenue (CBR) was targeted to collect Rs 690 billion but it is likely to collect Rs 710 billion - Rs 20 billion more than the target and over 20 percent more than last year.
Total expenditure without earthquake-related spending on the other hand is estimated to grow by 21.5 percent. The higher growth in expenditure was mainly on account of a 43.4 percent increase in development spending which simply points toward the fact that the fiscal policy stance adopted by the government was growth-oriented.
The government has provided almost Rs 66 billion for earthquake - related spending this year and will continue to provide adequate resources for the rehabilitation of the affected people and for the reconstruction of the affected areas.
Public debt burden continues to decline rather sharply for the sixth year in a row on account of prudent fiscal management. Public debt was 85 percent of GDP in 1999-2000 but has declined sharply to 54.7 percent in 2005-06 - a decline of over 30.0 percentage points in just six years is one of the significant achievements of the government.
During the year, public debt as percentage of GDP declined from 61.4 percent to 54.7 percent - a 6.7 percentage points decline in one year in the midst of earthquake-related spending is other stellar occurrences of the current fiscal year. Since public debt is a charge on the budget, its burden must be viewed in relation to government revenue.
Public debt was 448.9 percent of total revenue last year but declined to 384.9 percent this year - a decline of 64 percentage points in one year is not a mean achievement.
External Sector Pakistan's external sector is being affected both by structural and cyclical factors. On the domestic side, four years of strong economic growth strengthening domestic demand and triggering a consequent pick up in investment spending, has led to a massive surge in imports.
On the external side, the global economy continues its strong and broad - based expansion with growth reaching close to 5 percent in 2006 with similar expansion projected for the next year - which will be the fifth successive year that the world economy has grown by more than 4.0 percent.
A strong and geographically broad - based growth has helped world trade to expand strongly and at the same time the rapid expansion of global trade has been a key driving force for growth in almost every part of the world. Like many other developing countries, Pakistan has also benefited from a strong and sustained growth in world economy. Notwithstanding global economic expansion, the sound macroeconomic policies that Pakistan pursued coupled with wide - ranging structural reforms, particularly in the areas of trade and tariff that it implemented over the last six or seven years have helped Pakistan doubled its exports in seven years.
EXPORTS: Exports were targeted at $17 billion or 18.1 percent higher than last year. Exports during the first nine months (July-March) of the current fiscal year are up by 18.6 percent - rising from $10.18 billion to $12.07 billion in the same period last year. The exports of primary commodities were up by 22 percent; prominent among those are exports of rice (33.6 percent), fish and fish preparation (30.2 percent) and fruits (20.6 percent).
Exports of textile manufactures grew by 19.2 percent; prominent among those are exports of bedwear (58.4 percent), readymade garments (31.0 percent), cotton yarn (29.4 percent), cotton cloth (16.5 percent) and towels (12.0 percent). Exports of other manufactures also registered a high double digit growth of 19.2 percent.
Within this category, exports of petroleum products grew by 80.8 percent and leather manufactures were up by 44.0 percent. In recent years, Pakistan has also entered in the exports of engineering goods. Though relatively small in numbers, exports of engineering goods were up by 10.3 percent.
The overall exports posted an increase of $1890.2 million, in absolute term in the first nine months, of the current fiscal year over the same period of last year. Of this increase, 61.4 percent or $1160.5 million has come alone from textile manufactures followed by other manufactures (20.9 percent or $395.7 million), primary commodities (11.1 percent or $209.6 million) and other exports (6.5 percent or $124.5 million). In other words, over 82 percent incremental exports in the first nine months (July-March) of the current fiscal year owe to textile and other manufactures and the remaining 18 percent to primary and non-traditional exports.
It is encouraging to note that exports this year have been largely quantity driven and with firming up of the price of exportable, Pakistan's exports may rise substantially in the medium- terms. During the first nine months (July-March) of the current fiscal year, over 88 percent increases in exports are driven by quantity (quantity effect) and the remaining 12 percent are due to the increase in unit values of exports (price effect).
Pakistan's exports are highly concentrated in few items namely, cotton, leather, rice, synthetic textiles and sports goods. These five categories of exports account for 74.5 percent of total exports during the first nine months of the year with Cotton manufacturers alone contributing 58.4 percent, followed by leather (6.1 percent), rice (6.9 percent) and synthetic textiles (1.2 percent). Pakistan's exports are also highly concentrated in few countries.
The seven countries, namely USA, Germany, Japan, UK, Hong Kong, Dubai and Saudi Arabia account for 50 percent of its exports. The United States is the single largest export market for Pakistan, accounting for 27 percent of its exports followed by the United Kingdom, Dubai, Germany and Hong Kong. Japan as Pakistan's export destination is fast loosing its significance less than one percent of its exports entering Japan. Pakistan needs to diversify its exports not only in terms of commodities but also in terms of markets. Heavy concentration of exports in few commodities and few markets could cause serious export instability.
Imports Pakistan's imports continue to be pushed higher by unprecedented rise in oil prices and continued strength of non-oil imports owing to buoyant domestic demand. Imports were targeted to grow by 4.25 percent for the fiscal year 2005-06 - rising from $14.4 billion to $20.7 billion.
Imports are up by 43.2 percent in the first nine months (July- March) of the current fiscal year - rising from $14.45 billion to $20.69 billion in the same period last year. Desegregation of total imports suggests that food imports grew by 35.9 percent - up from $990.7 million to $1346.7 million. Major contributors to the substantial rise in food imports include wheat, sugar and pulses; they together contributed 93 percent to the rise in food imports.
Imports of petroleum group have played a key role in taking Pakistan's import to a new height.
Emerging as a single largest item in country's import bill, Petroleum group import amounted to $4.6 billion during the first nine months (July-March) of the current fiscal year as against $2.8 billion in the same period last year, thus registering an increase of 64.5 percent.
Although the quantity of imports of crude as well as petroleum products are down by 2.3 percent and 5.8 percent, respectively, the prices of these two items were up by 76.6 percent and 62.9 percent compared with last year, causing import of these two items to rise by 64.5 percent in value terms. Despite reduction in quantity, Pakistan was forced to pay $1.9 billion more to import crude and petroleum products - a very heavy price for a developing country like Pakistan.
Overall imports during the first nine months (July-March) of the current fiscal year grew by 43.2 percent. In other words, imports in absolute terms have increased by $6.25 billion.
Major contributions to this year's incremental imports have come from petroleum group, raw materials and machinery. Almost 35 percent contribution came from machinery and raw materials, and 29 percent from petroleum group.
Therefore, these three items alone are responsible for 64 percent additional import and 27.6 percentage points to the 43.2 percent growth in total import this year. Consumer durables including cars, have contributed only 6.4 percent to the additional increase in total imports and 2.8 percentage points to the 43.2 percent growth in total import this year. Within this category of imports, electrical machinery and appliances contributed merely 1.7 percent while the contribution of cars has been 4.7 percent only.
More importantly, had the price of oil in international market remained at last year's level, the growth in overall imports would have been 30.7 percent, that is, 12.5 percentage points less than what is currently estimated.
On the contrary, had the total value of import of car would have been at last year's level or had there been no growth in import of cars in value term, the growth in total imports would have been 40.4 percent instead of 43.2 percent. Car has merely contributed 2.8 percentage points to the overall growth in imports.
Like exports, Pakistan's imports are also highly concentrated in few items namely, machinery, petroleum & petroleum products, chemicals, transport equipments, edible oil, iron & steel, fertiliser and tea. These eight categories of imports accounted for 72.5 percent of total imports during 2005-06. Among these categories machinery, petroleum & petroleum products and chemicals accounted for 53.4 percent of total imports.
Concentration of imports remained, by and large, unchanged over the last one decade with the exception of 2000-01. Pakistan's imports are highly concentrated in few countries. Over 40 percent of them continue to originate from just seven countries namely, the USA, Japan, Kuwait, Saudi Arabia, Germany, the UK and Malaysia. Saudi Arabia is emerging as major suppliers to Pakistan followed by the USA and Japan.
Trade Balance Despite sizable export gains, the merchandise trade deficit continues to widen, on the back of Pakistan's strong domestic demand fuelling non-oil imports. High global price of oil also inflated the oil import bill owing to its increasing dependence of imported crude oil.
The merchandise trade deficit stood at $8.62 billion by the end of the third quarter (July-March) of the current fiscal year as against $4.3 billion in the same period last year, thereby showing a deterioration of over 100.0 percent. Once again, the major contributors to further widening of trade deficit have been the petroleum group, machinery and iron & steel and scrap.
These three items alone accounted for 75 percent to the further rise in trade deficit.
Contrary to the general perception, the contribution of consumer durables has been 9.2 percent in the increase in trade deficit. Going forward, no one is expecting another 65 percent increase in oil prices in 2006-07 therefore, import growth is likely to decelerate in 2006-07. The sign of deceleration is already visible as import growth has slowed substantially in recent months.
Current Account Balance: Pakistan's current account balance that slipped into red in 2004-05 after posting surpluses for three consecutive years remained in deficit in 2005-06 with gap continued to widen owing to higher oil import bill on the back of high global crude oil prices and hefty rise in non-oil imports fuelled by strong demand.
Apart from further widening of trade deficit, higher freight charges by international shipping lines as a result of sharp increase in global trade and higher fuel cost, and growth in personal travel due to the rising level of income of middle and high income groups have also contributed to the widening of current account gap. Deceleration in the growth of net transfers is also responsible for widening of the current account deficit.
The current account deficit, excluding official transfers, stood at $4.7 billion in the first nine months (July-March) of the current fiscal year, compared to $1.18 billion in the same period last year.
As percentage of projected GDP for the year the current account deficit stood at 3.7 percent as against 1.1 percent in the same period last year. Although trade deficit almost doubled over the last year and services balance deteriorated by 27.5 percent, the strong inflows under private transfers fuelled by rising workers' remittances offset some of the negatives with current account deficit standing at $4.7 billion.
WORKERS' REMITTANCES: Workers' remittances, the second largest source of foreign exchange inflow after exports, continue to maintain its rising trend. Workers' remittances totalled $3.63 billion during the first ten months (July - April) of the current fiscal year, as against $3.45 billion in the same period last year, depicting an increase of 5.2 percent. The United States continues to be the single largest source of cash workers' remittances accounting for 27.4 percent or $995 million, followed by Saudi Arabia ($585 million or 16.1 percent), UAE ($556 million or 15.3 percent), UK ($346 million or 9.5 percent) and other GCC countries ($426 million or 13.2 percent). Given the trend so far, it is likely that workers remittances may touch $4.4 billion in 2005-06. Remittances have so far proved remarkably resilient and have hovered around $4.0 billion since 2002-03.
According to the World Economic Outlook, April 2005 published by the IMF, remittances can help improve the country's development prospects, maintain macroeconomic stability, mitigate the impact of adverse shock and reduce poverty. The Outlook further states that remittances allow families to maintain or increase expenditure on basic consumption, housing, education, and small-businesses formation.
To the extent, the poorer section of the society depend on remittances for their basic consumption needs, increase remittances could be associated with reduction in poverty and possibly inequality.
The Outlook also finds strong empirical evidence that suggest that construction activity is highly correlated with remittances inflow. Pakistan has been receiving, on average, over $4.0 billion per annum during the last four years. Such a massive inflow of remittances has helped Pakistan builds its foreign exchange reserves which, in turn, have provided stability in exchange rate. For the families, the massive flow of remittances has helped increase their consumption spending, helped improve their housing facility and improve their overall living conditions. It has also played an important role in reducing poverty in Pakistan.
FOREIGN DIRECT INVESTMENT: Foreign Direct Investment (FDI) has become an important source of private external finance for developing countries. It is different from other major types of external private capital flows in that it is motivated largely by the investors' long-term prospects for making profits in production activities in the host countries.
FDI in the first ten months (July-April) of the current fiscal year has reached $3.02 billion - the highest ever in the country's history, as against $0.89 billion in the same period last year, thus registering an increase of 238.7 percent. By the end of the current fiscal year, FDI is expected to reach $3.5 billion or 2.7 percent of GDP.
Almost 75.0 percent of FDI has come from six countries, namely, the UAE, US, Saudi Arabia, Switzerland, UK and Netherlands. The UAE with 42.5 percent ($1284.6 million) has topped the list of foreign investors followed by the US (13.9 percent or $419.1 million), Saudi Arabia (9.06 percent or $273.7 million), Switzerland (5.34 percent or $161.5 million), UK (5.0 percent or $151.4 million) and Netherlands (2.9 percent or $87.1 million).
Telecom, energy (oil, gas and power), financial services, trade, construction, chemicals, food and personal services have been the major recipient of FDI, accounting for almost 94 percent or $2.082 billion.
Telecom sector has been the single largest recipient of FDI with $1.0 billion followed by the energy sector ($304 million), financial services ($265.5 million), trade ($81.9 million), construction ($54.4 million), food ($52.7 million), personal services ($45.2 million) and cement ($33.6 million).
FOREIGN EXCHANGE RESERVES: Pakistan's total liquid foreign exchange reserves stood at $13.0 billion at the end of April, 2006. Of which, reserves held by the State Bank of Pakistan amounted to $10.6 billion and by banks stood at $2.4 billion.
Since end-July 2005 ($12.6 billion) and until end-April 2006 ($13.0 billion), Pakistan has added $407.0 million in its foreign exchange reserves. Many factors contributed towards this comfortable position of reserves. The most prominent among those are: private transfers that include remittances, higher export proceeds, floatation of bonds, higher FDI flows and privatisation proceeds. With this build up in reserves, Pakistan is in a position to meet any abnormal external shock.
Privatisation: A wide-ranging structural reform introduced during the last six year coupled with macroeconomic stability and rapid, strong and sustained economic recovery has transformed Pakistan into one of the ideal locations for foreign investment. Foreign investors are not only entering into the greenfield projects but are also actively participating in Pakistan's privatisation program.
This is also the reflection of the confidence of the global investors on the transparent privatisation program that has been followed in the past several years. Since January 1991 and until April 18, 2006, Pakistan has completed 160 transactions with gross proceeds of Rs 395.2 billion. Of which, 57 transactions worth Rs 338 billion were completed during October 1999 to April 2006. During the first ten months (July - April) of the current fiscal year, 11 transactions worth Rs 217.9 billion have been completed.
The major milestones achieved under the privatisation program for the year include the strategic sale of the entities like KESC, Pak-Arab Fertilisers, PTCL, Pakistan Steel Mill, Pak-American Fertiliser, Mustehkam Cement, Javedan Cement and CTI. The upfront payment of $1.4 billion by Etisalat and transfer of management control of PTCL has been one of the major achievements of privatisation program for the year.
The major privatisation initiatives which are under process and are likely to be complete soon include: Pakistan State Oil (PSO), Pakistan Petroleum Limited (PRL), Oil and Gas Development Company Limited (OGDCL), Faisalabad Electric Supply Company (FESCO), GENCO-1 Jamshoro, National Investment Trust (NIT) and other industrial units.
EXTERNAL DEBT: Until a few years ago, Pakistan was facing serious difficulties in meeting its external debt obligations. Not only was the stock of external debt and foreign exchange liabilities growing at an average rate of 7.4 percent per annum during 1990-99, but the debt carrying capacity of the country was weakening at a similar pace.
Consequently, the debt burden (external debt and foreign exchange liabilities as percentage of foreign exchange earnings) reached an unsustainable level of 335 percent by 1998-99. Following a credible strategy of debt reduction, over the last six years, Pakistan has succeeded in not only slowing the pace of debt accumulation but also succeeded in reducing the country's debt burden in a substantial manner.
Pakistan's external debt and liabilities have declined by $2.4 billion in seven years - down from $38.9 billion at the end of the 1990s to $36.5 billion by end-March, 2006. The other indicators of debt burden which are widely monitored by the international financial institutions, rating agencies, and participants of the international debt capital markets, have shown sharp reduction.
For example, the external debt and liabilities as percentage of GDP which stood at around 52 percent in end-June 2000, declined to 28.3 percent in end-March 2006. Similarly, the external debt and liabilities as percentage of foreign exchange earnings was reduced from 335.4 percent in 1998-99 to 127.6 percent by end-March 2006.
It may also be pointed out that Pakistan's external debt and liabilities were 22 times of its foreign exchange reserves in 1998-99 but declined sharply to 3.1 times in just seven years.
These statistics suggest that Pakistan's external debt burden has declined at a much faster pace than anticipated and that it is now on a solid downward footing. It may also be noted that the maturity profile of the debt has also improved during the period. The short-term debt was 3.2 percent of the external debt and liabilities but declined to 0.9 percent in the same period.
PAKISTAN'S LINK WITH INTERNATIONAL CAPITAL MARKET: With the successful implementation of first generation structural reforms and after gaining economic stability, Pakistan decided to give signal to the international capital markets through issuance of debt instruments. On February 12, 2004 Pakistan made a successful return to the international capital markets for the first time in more than five years.
Pakistan issued S$500 million 5-year Regulation-S Eurobond due 2009 lead managed by J. P Morgan, Deutsche Bank and ABN Amro Bank. This transaction attracted strong demand from high quality and diversified international investors resulting in 4 times over subscription and consequent tightest possible pricing of the bond in comparison to similar rated sovereign offering for 5-year new issues.
The success of this transaction reflected a vote of confidence by the international investor community on Pakistan's economic policies and reform agenda. Pakistan's Eurobond was priced at 370bps above US Treasury to yield 6.750 percent which looked very tight when compared with emerging market peers. The Pakistani bond was priced some 50bps inside the Philippines, despite the fact that it was rated three notches lower.
Pakistani paper was tightly priced when it was also compared with the weighted average spread of 435bps for the Emerging Market Bonds at the time of Pakistani deal. Since the issue of Pakistan's Eurobond, due 2009, it has undergone compression by about 201bps as on May 04, 2006. As compared to the issue spread of UST + 370bps, the bond is trading currently at a spread of UST + 169bps, about 54 percent less.
In January 2005, Pakistan issued US $600 million Islamic Sukuk lead managed by Citi Group and HSBC. The 5 year notes, structured to comply with Islamic law ("Shariah") were priced at 6 month US $Libor + 220 bps benchmark. Pakistan's debut Islamic Bond issue saw considerable interest from both conventional as well as Islamic investors across the three regions, Asia, Middle East and Europe.
It attracted orders worth $1.2 billion, with more than 80 accounts participating in the transaction. Pakistan decided to increase the transaction size from the original US $300-500 million to US $600 million to cater for the significant demand and to allocate the bonds to high quality accounts. Pakistan had over 80 accounts with a well-distributed book (Middle East 47 percent, Asia 31 percent and Europe 22 percent).
The Pakistan Sukuk 2010 over the past year have witnessed tightening of spreads over US $ Mid Swaps which is the evidence of continued investor confidence in the Pakistan economy.
EUROBOND OF 2016 AND 2036: On March 23, 2006, Pakistan successfully issued US $500 million new 10-year Notes and US $300 million new 30-year Bonds in the international debt capital markets lead managed by J. P Morgan, Citi Group and Deutsche Bank.
This transaction, which represented the first international 144A bond issued by Pakistan since 1999, raised significant interest amongst US QIBs and international Institutional investors. The 10-year notes were priced with a coupon of 7.125 percent to yield 7.125 percent, framing a spread of 240bps over the relevant 10-year US Treasury benchmark. The 30-year bonds were priced with a coupon of 7.875 percent to yield 7.875 percent, framing a spread of 302bps over the relevant 30-year US Treasury benchmark.
Pakistan was able to achieve spreads on both the new 10 and 30-year bonds that were tighter than its previous 5-year issues. By issuing 10 and 30 year bonds, Pakistan completed its primary objective of establishing a full Pakistani International yield curve in record time. This remarkable achievement was completed against a backdrop of increased volatility in the US Treasury and Asian credit markets. With over 170 accounts participating, books closed with total orders exceeding US $2bn.
The issue was over 2.5 times oversubscribed. Since the issue of the new Pakistan bonds due 2016 and 2036, the EM credit markets have continued to tighten. The Pakistan '2016 and '2036 bonds have performed in line with the markets with the spread over UST undergoing compression by about 24bps and 36bps respectively, within just over a month since issued.
As compared to the issue spread of UST + 240bps, the 2016 bond is trading currently at a spread of UST + 216bps, about 10 percent less. The 2036 bond, as compared to the issue spread of UST + 302bps, is trading currently at a spread of UST + 266bps, about 12 percent less.
It is important to note that this offering was the largest ever funding exercise of the government. The largest deal, prior to this transaction has been the $600 million Sukuk in 2005.
It was the longest ever tenor achieved by Pakistan. Both the new 10 and 30 year offerings are debut offerings for Pakistan and the US dollar yield curve was extended out to 30 years in just 2 years. Most emerging market sovereign issuers have taken longer time to extend their yield curve from 5 to 30 years. It took Philippines 4 years and Brazil and Turkey 3 years to extend their yield curve to 30 years.
POVERTY: The fight against poverty represents the greatest challenge of our times. Considerable progress has nevertheless been made in different parts of the world in reducing poverty. The proportion of people living in extreme poverty on global level fell from 28 percent in 1990 to 21 percent in 2001 (on the basis of $1 a day).
In absolute numbers the reduction during the period was 130 million with most of it coming from China. In Sub-Saharan Africa, the absolute number of poor actually increased by 100 million during the period. The Central and Eastern Europe and the CIS also witnessed a dramatic increase in poverty. While incidence of poverty declined in South Asia; Latin America and the Middle East witnessed no change.
The recent trends in global and regional poverty clearly suggest one thing and that is, that rapid economic growth over a prolonged period is essential for poverty reduction. At the macro level, economic growth implies greater availability of public resources to improve the quantity and quality of education, health and other services. At the micro level, economic growth creates employment opportunities, increases the income of the people and therefore reduces poverty.
Many developing countries have succeeded in boosting growth for a short period. But only those that have achieved higher economic growth over a long period have seen a lasting reduction in poverty - East Asia and China are classic examples of lasting reduction in poverty. One thing is also clear from the evidence of East Asia and China that growth does not come automatically. It requires policies that will promote growth.
Macroeconomic stability is therefore, key to a sustained high economic growth. Although extreme poverty on global level has declined, the gap between the rich and poor countries is increasing, even when developing countries are growing at a faster pace than developed ones - perhaps due to the large income gaps at the initial level.
In a world of six billionpeople, one billion have 80 percent of the income and five billion have less than 20 percent. This issue of global imbalance is at the core of the challenge to scale up poverty reduction.
In Pakistan, Poverty Reduction Strategy was launched by the government in 2001 in response to the rising trend in poverty during 1990s.
IT CONSISTED OF THE FOLLOWING FIVE ELEMENTS:- (a) accelerating economic growth and maintaining macroeconomic stability, (b) investing in human capital, (c) augmenting targeted interventions; (d) expanding social safety nets; and (e) improving governance.
The net outcome of interactions among these five elements would be the expected reduction in transitory and chronic poverty on a sustained basis. The reduction in poverty and improvement in social indicators and living conditions of the society are being monitored frequently through large- scale household surveys in order to gauge their progress in meeting the targets set by Pakistan for achieving the seven UN Millennium Development Goals by 2015.
Pakistan's growth performance over the last four years is enviable in many respects. Sound macroeconomic policies and implementation of structural reforms in almost all sectors of the economy have transformed Pakistan into a stable and resurgent economy in recent years. The real GDP has grown at an average rate of over 7.5 percent per annum during the last three years (2003/04 to 2005/06). With population growing at an average rate of 1.9 percent per annum, the real per capita income has grown at an average rate of 5.6 percent per annum.
The strong economic growth is bound to create employment opportunities and therefore reduce unemployment. The evidence provided by the Labour Force Survey 2005 (First two quarters) clearly supports the fact that economic growth has created employment opportunities. Since 2003-04 and until the first half of 2005-06, 5.82 million new jobs have been created as against an average job creation of 1.0 - 1.2 million per annum. Consequently, unemployment rate which stood at 8.3 percent in 2001-02 declined to 7.7 percent in 2003-04 and stood at 6.5 percent during July - December 2005. The rising pace of job creation is bound to increase the income levels of the people.
In recent years the role of remittances in reducing poverty has been widely acknowledged. Remittances allow families to maintain or increase expenditure on basic consumption, housing, education, and small-business formation. Total remittances inflows since 2001-02 and until 2005-06 have amounted over $19 billion or Rs 1129 billion. Such a massive inflow of remittances particularly towards the rural or semi-urban areas of Pakistan must have helped loosen the budget constraints of their recipients, allowing them to increase consumption of both durables and non-durables, on human capital accumulation (through both education and health care), and on real estate. To the extent that the poorer sections of society depend on remittances for their basic consumption needs, increased flow of remittances would be associated with reduction in poverty.
Although, growth is necessary but it is not sufficient to make any significant dent to poverty. Realising this fact the government had launched a directed program under the title of Poverty Related and Social Sector Program some five years ago. Over the last five years the government has spent Rs 1332 billion on poverty-related and social sector program to cater to the needs of poor and vulnerable sections of the society. Such a huge spending on targeted program is bound to make a significant dent to poverty.
THE HOUSEHOLD INTEGRATED ECONOMIC SURVEY (HIES) - a component of Pakistan Social and Living Standards Measurement (PSLM) Survey provides important data on household income, consumption expenditure and consumption patterns at national and provincial level with rural-urban breakdown. The information pertaining to income and expenditure of the households are used to estimate poverty. The HIES is specifically designed to monitor poverty status of population by collecting information on consumption expenditure at the household level. With a representative sample size of 14706 households, it covered 5808 and 8898 households in the urban and rural areas of the country, respectively. The Survey was started in July 2004 and the entire field operations were completed in June 2005.
The poverty line is based on 2350 calories per adult equivalent per day. It is also comparable with poverty line of 2000-01 as it was also based on 2350 calories and calculated from Pakistan Integrated Household Survey (PIHS). The poverty line of 2004-05 is adjusted by the inflation rate during the period 2001-2005.
THE LATEST ESTIMATE OF INFLATION - adjusted poverty Iine is Rs 878.64 per adult equivalent per month - up from Rs 723.40 in 2001. Headcount ratio, ie, percentage of population living below the poverty line has fallen from 34.46 percent in 2001 to 23.9 percent in 2004-05, a decline of 10.6 percentage points. In absolute numbers the count of poor persons has fallen from 49.23 million in 2001 to 36.45 million in 2004-05.
The percentage of population living below the poverty line in rural areas has declined from 39.26 percent to 28.10 percent while those in urban areas, has declined from 22.69 percent 14.9 percent. In other words, rural poverty has declined by 11.16 percentage points and urban poverty is reduced by 7.79 percentage points. Consumption inequality increased marginally during the period. These findings are consistent with the developments on economic scene that have taken place in Pakistan since 2000-01. A strong growth in economy, rise in per capita income, a large inflow of remittances and massive spending on poverty-related and social sector programs were expected to reduce poverty in Pakistan.
It is important to note that the methodology and the estimates of poverty have been endorsed by the development partners such as the World Bank, the Asian Development Bank, the United Nations Development Program (UNDP) and the Department for International Development (DFID), UK. The service of world renowned poverty expert, Professor Nanak Kakwani was hired by the UNDP to independently look into the methodology as well as poverty estimates. He also authenticated both the methodology and estimates. In order to maintain consistency across years, it is essential that we apply the same agreed upon methodology over the years, irrespective of its weaknesses and strengths.
SECOND GENERATION REFORMS: Structural reform is the essence of development. Broadly speaking, structural reforms entail measures that change the institutional framework and constraints governing market behaviour and outcomes.
In general, structural reforms have been associated with the notion of increasing the role of market forces and reducing the extent to which government regulations or ownership of productive capacity affect the decision making of private firms and households. It would, however, be misleading to equate structural reforms with the goal of abandoning regulation altogether. Structural reforms aim at adapting institutional frameworks and regulations for markets to work properly.
But it is well-known that some markets are prone to market failure or inefficiencies, therefore, there is a role of the government to correct the market failure and improve the efficiencies of the markets. Structural reforms, therefore, do not abdicate the government to play its due role.
Pakistan has been implementing wide-ranging structural reforms in almost every sector of the economy to improve supply-side response by removing impediments to private sector development, removing irritants to improve investment climate and improving the allocation of resources. The reforms implemented thus far include: financial sector reforms, capital markets reforms, tax and tariff reforms, reforms in tax administration, fiscal transparency, reforms in privatisation program, governance reform, particularly with respect to devolution and capacity building, agricultural reform, particularly with respect to agriculture pricing, movement of commodities and introducing private sector in wheat operation, and most importantly, the passing of the Fiscal Responsibility and Debt Limitation Act 2005. The last one was very essential to pursue a rule-based fiscal policy to inject financial discipline. Pakistan has benefited immensely from what is known as first generation reforms.
Pakistan's economic recovery has been strong, rapid and sustained. Going forward, Pakistan is targeting a growth rate of 6 to 8 percent per annum in the next five years. However, it is clear that a growth of this magnitude would not be achievable automatically. To sustain a growth momentum of 6 to 8 percent per annum more efforts and more 'growth-critical' reforms would be required.
OVER THE NEXT FIVE YEARS THE GOVERNMENT'S REFORM AGENDA INCLUDE: strengthening institutions, improving the competitiveness of our industry, building a robust financial system in an environment of global financial restructuring, further strengthening of tax administration, promoting transparency in economic policy-making, further reform in capital market and strengthening the country's physical and human infrastructure. While it is not possible to discuss each element of reform, an attempt has been made to provide some flavour of these reforms.
Strengthening of institutions is vital to remove obstacles to higher growth and better social service delivery. As part of institutional strengthening the government has already launched major initiatives, prominent among those include reforms in judiciary, police, civil service, and pension, the restructuring of the Central Directorate of National Savings (CDNS), transforming the existing Monopoly Control Authority (MCA) into a Competition Authority Organisation, and introduction and adoption of E-Government Strategy.
Furthermore, the government has already set-up a Commission to assess existing regulations and procedures affecting the interaction between the administration and the business with a view to eliminating red tape and with it, corruption opportunities.
It is clear that judicial reform is aimed at strengthening the rule of law and enhancing the transparency and accessibility of the legal system by modernising the court system at all levels and strengthening capacity, effectiveness, and accountability of law enforcement agents. This is an on-going and difficult reform program.
Some progress in police reform has also been made. The civil service reform is also an on-going reform and major progress has been made in enhancing the capacity of our civil servants through training within and outside the country. On pension reform, the government is working towards introducing a contributory Provident/ Pension Fund Scheme for the new entrants. The work on converting the existing CDNS into a corporate body is also at a fairly advance stage. The government believes in free-market system but in recent years the rise of 'extra-market forces' have been observed, leading to market failures and creating hardship for ordinary consumers.
It is in this perspective that the government is revamping the existing Monopoly Control Authority by converting it into a Competition Authority with proper powers to deal with extra-market forces. In order to improve the efficiency of various ministries the government is working towards achieving ISO 9001 Certification.
A beginning has already been made with Ministry of Finance working towards achieving this certification. The restructuring of the Federal Bureau of Statistics with a view to converting it into an autonomous institution is also high on the agenda of reform. To implement the second generation reform the government is setting up an Economic Reform Unit in the Ministry of Finance with a view to co-ordinating with other ministries in implementing various reforms. This unit will also serve as Secretariat for the Private Sector Development initiatives.
Improving competitiveness of Pakistan's industries is central to the reform agenda. It deals with improving investment climate by strengthening microeconomic sources of competitiveness. Improving competitiveness requires understanding of various impediments and policy bottlenecks that affects competitiveness of our industry.
Most important element of improving competitiveness is the strengthening of the country's physical infrastructure, that is, the supply of gas, power, working of ports, roads, rail linkages, telecommunication network, and water availability. Given the resource constraints on the one hand and the role strong infrastructure in enhancing competitiveness on the other, the government has recently set-up Infrastructure Project Development Facility in line with public-private partnership.
Furthermore, to improve the competitiveness of our industries the Government has commissioned a number of studies with the help of development partners to examine microeconomic constraints in improving investment climate and promoting private sector development.
The banking and financial sector of Pakistan is much stronger today than it was some one decade ago or in comparison to other countries in the Asian region. However, further strengthening of the banking system to meet the challenges arising from global financial restructuring is required. Future reforms include: voluntary mergers and consolidation of smaller banks to become effective and strong banks; further strengthening of the legal infrastructure of the banking system; formulation of new Banking Law to deal with current and future challenges; a deposit insurance scheme to protect the small depositors; further liberalisation of financial services in the context of TRIMs; promoting transparency and accountability in banking system; and observance of international standards.
Tax administration reform is the cornerstone of the reform agenda. A major overhaul of the Central Board of Revenue (CBR) is being implemented. It aims at increasing the CBR's effectiveness, reduce corruption opportunities, and raise the buoyancy of the tax system through organisational restructuring, self assessment, elimination of personal contacts between tax-payers and tax authorities, simplified processes, tax-payers facilitation, revised terms and conditions for employment of the CBR officials and improved IT management. A considerable progress in these areas have been made but much more is required to make CBR an efficient tax administration for which many initiatives have been launched and are at various stages of implementation.
Concluding Remarks Economic success brings fresh challenges. Pakistan has witnessed strong, rapid and sustained economic recovery with growth averaging at 7.0 percent per annum during the last four years. This has positioned Pakistan as one of the fastest growing economies in Asia. The economic landscape of Pakistan has changed altogether therefore; its challenges are also different today. How to sustain the on-going growth momentum
in an environment of macroeconomic stability is the biggest challenge going forward. Linked with this are the challenges of job creation, poverty alleviation, improving social indicators and most importantly, strengthening the country's physical infrastructure to support 6-8 percent growth in the medium-term.
An impressive economic recovery from an economic downturn is a good time to enhance the speed of implementation of the second generation reforms. Many economic problems are due to shortcomings in the markets, rather than to resource shortages or an excess or deficiency of overall demand. There is a broad consensus that where there are such problems, structural reforms, that is policy measures that change the institutional and regulatory frameworks governing market behaviour, can lead to a greater efficiency in the allocation of resources.
Notwithstanding extra-ordinary successes in the face of headwinds Pakistan still faces many challenges in fully realising its potential for sustained economic growth, better living standards, and greater resilience to shocks. The moment such as this does not mean that we have time to pause or rest. Although we have made great strides over the last six years, we are fully aware that much remains to be done.
EXECUTIVE SUMMARY:
Pakistan's economy has delivered yet another year of solid economic growth in 2005-06 in the midst of an extra- ordinary surge in oil prices and devastating earthquake of October 8, 2005 causing widespread damages. Pakistani corporates and consumers continue to be the bright spot.
Consumer spending remained buoyant and investors remained upbeat on the strength and sustainability of the current growth momentum, despite higher energy prices and natural calamities. With economic growth at 6.6 percent in 2005-06, Pakistan's economy has grown at an average rate of almost 7.0 percent per annum during the last four years (2002/03 - 2005/06) and over 7.5 percent in the last three years (2003/04 - 2005/06), thus positioning itself as one of the fastest growing economies of the Asian region. The growth momentum that Pakistan sustained for the last four years is underpinned by dynamism in industry, agriculture and services, and the emergence of a new investment cycle supported by strong credit growth.
The pre-requisites for a sustained economic growth appear to have gained firm footing during the last four years.
The outgoing fiscal year (2005-06) has been an extra-ordinary year for the economy of Pakistan. At the very onset of the year the economy faced headwinds from rising oil prices, hovering around $70 - 75 per barrel and putting severe strains on the country's trade balance on the one hand and budget on the other, and massive earthquake of October 8, 2005 causing extensive damage to property, infrastructure, school, hospital etc and loss of over 70,000 human lives. The rescue, relief and reconstruction of earthquake affected areas also put budget under severe stress. Pakistan's economy has proved itself as remarkably resilient in the face of shocks of extra-ordinary proportions. Growth has remained buoyant. Real GDP grew strongly at 6.6 percent in 2005-06 as against the revised estimates of 8.6 percent last year and 7.0 percent growth target for the year.
Key drivers of this year's growth have been service sectors and industry. Large-scale manufacturing grew by 9.0 percent as against 15.6 percent of last year and 14.5 percent target for the year, exhibiting signs of moderation on account of higher capacity utilisation on the one hand and strong base effect along with several other factors on the other hand. The services sector continued to perform strongly at 8.8 percent. Construction too continued to perform strong showing, partly helped by activity in private housing market, spending on physical infrastructure, and reconstruction activities in earthquake affected areas. Consumer spending remained strong and investment spending gained further traction.
Pakistan's economy continues to maintain solid pace of expansion since the fiscal year 2002-03 recovery in the economy has been strong, rapid and sustained. During the fiscal year 2005-06, Pakistan's economic fundamentals have gained further strength. The most important achievements of this year include:
GROWTH AND INVESTMENT:
Pakistan's economy continued to maintain solid pace of expansion for the fourth year in a row in the fiscal year 2005-
06 despite facing headwinds from rising energy prices at $70-75 per barrel and the widespread damage caused by the earthquake of October 8, 2005. The growth momentum that Pakistan sustained for the last four years is underpinned by dynamism in industry, agriculture and services, and the emergence of a new investment cycle supported by strong credit growth.
Real GDP grew by 6.6 percent in 2005-06 as against 8.6 percent last year and fell short of the target (7.0 percent). With economic growth at 6.6 percent in 2005-06, Pakistan's economy has grown at an average rate of almost 7.0 percent per annum during the last four years and over 7.5 percent in the last three years, thus enabling it to join the exclusive club of the fastest growing economies of the Asian region.
Growth of value addition in Commodity Producing Sector (CPS) slowed to 4.3 percent in 2005-06 as against 9.2 percent last year. Both the important components of the commodity producing sector namely, agriculture and manufacturing performed less than their targets. Within the CPS, agriculture and manufacturing grew by 2.5 percent and 8.6 percent, respectively.
Agriculture and particularly its crop sector could not perform up to the expectation especially major crops registered a 3.6 percent contraction in growth. Livestock, a major component of agriculture, exhibited strong showing and pulled the overall growth in agriculture to 2.5 percent as against the target of 4.2 percent. Livestock has been the only saving grace as far as the performance of agriculture is concerned this year.
Overall manufacturing, accounting for 18.2 percent of GDP, registered an impressive growth of 8.6 percent against the target of 12.0 percent and last year's achievement of 12.6 percent.
Large-scale manufacturing grew by 9.0 percent as against 15.6 percent of last year and 14.5 percent target for the year, exhibiting signs of moderation on account of higher capacity utilisation on the one hand and strong base effect along with several other factors on the other hand. Small-scale manufacturing grew at estimated 9.3 percent in 2005-06.
The Construction sector continued its strong showing, partly helped by activity in private housing market, spending on physical infrastructure, and reconstruction activities in earthquake affected areas. The construction sector is estimated to grow by 9.2 percent in 2005-06 as against extraordinary growth of 18.6 percent last year.
The services sector grew by 8.8 percent in 2005-06 as against 8.0 percent of last year. Growth in the services sector in 2005-06 was primarily attributable to strong growth in the finance and insurance sector, better performance of wholesale and retail trade, as well as transport and the communications sector. Finance and insurance sector spearheaded the growth in the services sector and registered stellar growth of 23.0 percent during the current fiscal year 2005-06 which is slightly lower than 29.7 percent of last year. Value added in the wholesale and retail trade sector has increased by 9.9 percent over the previous year, compared to 11.1 percent growth last year. The transport, storage and communications sector grew by 7.1 percent compared to 3.5 percent growth last year.
Major contribution towards growth has come from the services sector which has emerged as a new growth power house for some time. The commodity producing sectors (agriculture and industry) has contributed one-third of the GDP growth and the services sector contributed the remaining two-third to the real GDP growth of 6.6 percent. The CPS contributed 31.7 percent or 2.1 percentage point to this year's growth while the remaining 68 percent or 4.5 percentage points contribution came from services sector. Within the CPS, agriculture contributed 0.55 percentage points or 8.4 percent to overall growth while industry contributed 1.54 percentage points or 23.3 percent. Within services sector wholesale and retail trade has contributed 27.9 percent or 1.84 percentage points to GDP growth.
Pakistan's per capita real GDP has risen at a faster pace during the last three years (5.6 percent per annum on average in rupee terms) leading to a rise in average income of the people. Such increases in real per capita income have led to a sharp increase in consumer spending during the last three years. Per capita income defined as Gross National Product at market price in dollar term divided by the country's population, grew by an average rate of 13.9 percent per annum during the last four years - rising from $579 in 2002-03 to $847 in 2005-06. Per capita income in dollar term registered an increase of 14.1 percent over last year - rising from $742 to $847.
As opposed to an average annual increase of 1.4 percent during 2000-03, real private consumption expenditure grew by 13.1 percent in 2004-05 and further by 8.1 percent in 2005-06.
INVESTMENT:
During the fiscal year 2005-06, gross fixed capital formation or domestic fixed investment grew by 30.7 percent as against a sharp rise of 28.6 percent last year. Private sector investment grew by 31.6 percent this year as against a growth of 29.1 percent last year. Major growth in investment by private sector is witnessed in agriculture (15.3 percent), manufacturing (14.4 percent), mining and quarrying (45.5 percent), construction (9.5 percent), transport and communication (20.2 percent), and wholesale and retail trade (424.5 percent). Public sector investment on the other hand registered massive growth of 46.7 percent as against a hefty 32.9 percent increase last year.
The growth in domestic investment was largely a public sector phenomenon last year but this year, it was mainly public-private sector partnership driven. Total investment increased from 18.1 percent of GDP last year to 20.0 percent of GDP in 2005-06.
Fixed investment as percentage of GDP is estimated at 18.4 percent as against 16.5 percent last year. Both public sector investment and private sector investment as percentage of GDP have increased to 4.8 percent and 13.6 percent respectively, up from 4.4 percent and 12.1 percent last year.
SAVINGS:
National savings as percentage of GDP stood at 16.4 percent in 2005-06 fractionally lower than last year's level of 16.5 percent. Domestic savings stood at 14.4 percent of GDP in 2005-06 slightly lower than 14.5 percent of GDP last year.
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