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The state of the economy in 1991-92.

- The State Bank of Pakistan has issued the following overview of the economy in fiscal 1991-92

INTRODUCTION

"The Pakistan economy showed a mixed performance with disparate developments in the various macro economic indicators. The most significant achievements during the year were an acceleration in the rate of economic growth and a reduction in the rate of inflation. The growth rate of GDP was estimated at 6.4 per cent during the year as compared with 5.6 per cent a year earlier. Both the commodity producing and services sectors contributed to the growth rate of GDP. The price pressures which had accentuated in 1990-91 eased during 1991-92. The 12-month average of the consumer price index (1980-81 = 100)increased at a slower rate of 9.6 per cent during 1991-92 as compared to an increase of 12.7 per cent in 1990-91. Viewed in the backdrop of world economic recession and compared to non-fuel exporting countries both the growth and price performance appeared to be impressive. The country's foreign exchange reserve position also improved significantly and reserves held by the State Bank increased from $582.9 million at the end of 1990-91 to $1011.5 million at the end of 1991-92.

The fiscal position of the Government continued to remain weak, necessitating substantial borrowing from the banking system which in turn contributed to excessive rate of monetary expansion. Budgetary deficit at 7.8 per cent of GDP in 1991-92 although lower than in 1990-91, remained at a high level and led to net borrowing of Rs. 72.5 billion for budgetary support as compared with Rs. 43.2 billion last year. This in combination with increase in credit to Private Sector led to an expansion in net domestic assets by 24.9 per cent and monetary assets (M2) by 20.6 per cent compared with 17.8 per cent and 17.9 per cent respectively in the preceding year.

The country's reserve position improved substantially largely as a sequel to a rise in the level of foreign currency accounts. Despite 12.5 per cent expansion in exports and a significant improvement in terms of trade the current account balance deteriorated from $1.6 billion to $2.1 billion in 1991-92. This was mainly on services account and particularly due to a marked reduction in the flow of workers' remittances, part of which switched over to foreign currency accounts. To the extent of this switch over the deficit was more a statistical than an effective change. The imbalance between savings and investment worsened significantly. While total investment in the economy grew almost at the same rate as last year with a considerably enhanced share of private sector, a visible deceleration in the growth rate of national savings led to a considerably enhanced inflow of external resources.

Growth and Production

While aggregate domestic demand expanded considerably as reflected in the size of fiscal deficit, rate of monetary expansion and high level of consumption, the supply response of the economy was quite favourable. A 6.8 per cent growth in commodity producing sectors and 5.9 per cent growth in services sectors contributed to a 6.4 per cent growth in GDP. Although aggregate consumption rose sharply, a great bulk of it was met from domestic production as imports of consumer goods marginally declined and those of raw materials for consumer goods increased only by 5 per cent during the year. The brunt of meeting the demand for capital goods was largely borne by the foreign sector.

Sectorwise, growth in agriculture, though not broad-based, was 6.4 per cent and was almost exclusively due to a 33.6 per cent increase in the production of cotton including in particular 25.5 per cent increase in yield per hectare. This contributed to 22.3 per cent increase in the export of cotton and, with enhanced production, 11.3 per cent increase in export of cotton products, this was accomplished notwithstanding decline in export unit values with the exception of fabrics. Among other major crops wheat recorded only a marginal increase and the imports of wheat during the year more than doubled to 2.02 million tonnes. Production of most of minor crops either declined or remained unchanged compared to their production level in 1990-91. In terms of constant prices gross fixed investment in the sector decreased by 5 per cent. Public sector investment in the sector particularly declined substantially. This has implication for future production. In addition, relatively low yield of agricultural crops, with the exception of cotton, continued to be a matter of serious concern needing priority attention of the authorities.

The manufacturing sector grew at 7.7 per cent compared with 6.3 per cent a year earlier. The growth in large scale manufacturing at 7.4 per cent during the year compared with 5.5 per cent a year earlier was attributable to an upsurge in investment in the sector in recent years including 36 per cent increase in 1991-92, as well as to improvement in the policy environment following liberalization of the economy. Principal items registering growth in production were cotton yarn and cloth, refined sugar, cement, chemicals and bicycles. Production of fertilizers, cigarettes, paper board and chipboard and motor tyres and tubes declined during the year. The sector recovered from a sluggish growth rate that averaged 4.2 per cent during the preceding three years when there was the problem of law and order in some parts of the country. Even at 7.4 per cent the growth rate of the sector has not recovered to its level before 1988-89.

The experience in provinces indicates that small scale industries and business, if provided with adequate credit and other facilities can contribute substantially to both production and employment. In particular, the level of recoveries is highly encouraging reflecting the productive end-use of credit. In the years ahead, the scope of these sectors would need to be expanded with additional credit facilities particularly for investment.

Other sectors of the economy registered growth rates of varying percentages. Growth rates of mining and quarrying and electricity and gas distribution declined whereas construction registered a marginal increase in growth rate. Net factor income from abroad further declined by 25 per cent compared to a decline of 29 per cent a year earlier, with the share of net factor income from abroad in GNP declining from 2.7 per cent to 1.9 per cent. This was largely due to diversion of home remittances to foreign currency accounts.

Employment

An impressive growth rate of GDP, such as recorded by Pakistan economy in the past several years, has not made a proportionate dent on unemployment, due to a high rate of increase in labour force. The problem of disguised unemployment is also acute because of rapid population growth. Recently announced self-employment programme and reshaped rural industrialisation programme may address the employment issue in selected segments of the population. However, the problem is acute in the case of unorganised labour and need a broad-based policy change.

Savings and Investments

During 1991-92 gross fixed investment as a percentage of GDP recorded a marginal increase to 17.2 per cent from 17.1 per cent a year earlier. The main feature of investment during the year has been a 24.9 per cent increase in the private sector investment, its share in the gross fixed investment rising to 55.1 per cent from 52 per cent a year earlier. In terms of composition of this investment large scale industry claimed a significantly larger share at the expense of agriculture and financial institutions. This indicated a positive response to deregulation, simplification of investment sanctioning and liberalisation of the external sector the benefits of which at best initially have largely gone to industrial investment. The growth rate of public sector investment declined from 17.7 per cent to 10.1 per cent.

Growth and composition of national savings as well as financing of investment was somewhat different from the past trends. In nominal terms growth rate of national savings was lower than the last year as well as smaller than the growth rate in GDP, thus implying a decline in the marginal rate of savings. Ratio of national savings to GNP declined from 13.5 in 1990-91 to 13.2 in 1991-92.

Prices

Price pressures which had accentuated during 1990-91 eased somewhat during the year as the rate of price increase declined by 3.1 percentage points over the last year. A relatively comfortable position of domestic production and imports contributed to containment of price pressures.

Balance of Payments

The deficit on current account (including official unrequited transfers) stood at $2.152 billion (5.0 per cent of GNP) compared with $1.567 billion a year earlier (3.7 per cent of GNP). The deterioration was on services account and because of decline in unrequited transfers. To the extend that home remittances were switched over to foreign currency accounts the deterioration in current account is statistical in nature. However, even assuming no decline in home remittances from 1990-91 level, the level of current account deficit is not sustainable.

Deficit on current account was fully matched by doubling of the new inflow of long-term capital from $1.03 billion to $2.06 billion during 1991-92. However, within the net capital inflow, foreign private investment, a non-debt creating source of financing, more than doubled to $562 million during 1991-92. Largely as a result of a rise in the level of foreign currency accounts the reserves position, which had earlier remained under pressure, improved substantially. As of 30th June, 1992 gold and foreign exchange reserves stood at $1.76 billion compared with $1.39 billion a year earlier.

Exports increased by 12.1 per cent to $ 6.9 billion despite a slump in the major international markets. In particular, exports of cotton and cotton based products recorded a much slower growth rate than last year. Imports rose by 21.3 per cent to a record level of $9.3 billion. The adoption of liberal import policy together with reduction in tariff rates and marked improvement in investment climate contributed to expansion in imports. Capital goods registered an increase of about 55 per cent and constituted 42 per cent of the total imports. Raw materials for capital goods also registered substantial increase. Principal features were declines in the imports of petroleum and petroleum products, soyabean oil, chemical fertilizers and sugar, whereas imports of wheat, palm oil and tea increased. Foreign sector operated without any indication of shortage of foreign exchange. It also needs to be underlined that although total imports increased substantially imports against cash remained almost unchanged.

Monetary Policy

The originally targeted rate of 12.1 per cent of monetary expansion in 1991-92 was based on the underlying macro economic assumptions of 6.9 per cent growth of GDP, a target inflation of 8.5 per cent and an estimated increase of Rs. 2.2 billion in net foreign assets of the banking system. In targeting the rate of monetary expansion, provision was made for the absorption of a part of liquidity overhang. During 1991-92 monetary assets expanded by Rs. 77.04 billion (20.6 per cent) and credit expanded by Rs. 101.58 billion (24.9 per cent) compared with the initial targets of Rs. 45.4 billion and Rs. 43.2 billion, respectively. Net foreign assets contracted by Rs. 24.54 billion compared with an estimated expansion of Rs. 2.2 billion. The Government's borrow system for budgetary support amounted to Rs. 72.5 billion which included a replacement of non-bank borrowing with bank borrowing of Rs. 30.1 billion. The budgeted credit to private sector was protected through the operation of credit ceilings together with an increase of Rs. 5 billion in the protected credit for export finance. Total credit to private sector increased from Rs. 25.1 billion last year to Rs. 30.2 billion during 1991-92. Also, as the Government did not borrow from the non-banking sector, this enhanced the supply of funds to the private sector.

The financial sector reform programme continued through 1991-92. One more nationalized bank was privatised. In another privatised bank, the private sector acquired the majority share. Eight out of the ten newly sanctioned banks started functioning. This year was the first full year of government borrowing from the market through auctioning of public debt. The government raised Rs. 76.01 billion through 6-month treasury bills and Rs. 44.97 billion through Federal Investment Bonds (FIBs). At the end of the year the non-banking sector, mostly the institutional investors, was holding FIBs of Rs. 25.4 billion out of a total outstanding stock of Rs. 79.9 billion. Non-banking investors also held treasury bills equivalent to Rs. 0.55 billion. A 3-day report (repurchase option) facility was introduced by the State Bank in place of the earlier rediscounting facility. The government also announced the abolition of the system of credit ceilings with effect from 1992-93. These reforms provided a boost to the deposit mobilization efforts of the banks contributing to a reversal in the disintermediation process of the banking system. During the year deposits with the scheduled banks increased by 26.5 per cent including a 30.3 per cent increase in time deposits Ratio of currency in circulation to monetary assets declined to 33.7 per cent at the end of June, 1992 as against 36.6 per cent a year earlier. The year 1991-92 also witnessed the issuance of prudential regulations for scheduled banks and rules of business for the NBFIs including leasing companies, modarabas and investment banks.

During 1991-92, 10 new scheduled banks - 2 foreign and 8 domestic - started operating raising the number of domestic scheduled banks to 18 and foreign banks to 22. In the non-bank sector the number of financial institutions comprising leasing companies, modarabas and investment banks nearly doubled. As of end June 1992, there were 40 scheduled banks, 13 NBFIs, 10 leasing companies, 34 modarabas companies and 10 investment banks raising the number of financial institutions to be regulated by the State Bank to 107. Growth of financial institutions is a necessary concomitant of economic growth and financial liberalisation. But the expansion in the number of these institutions has been very fast in a relatively short period. It is advisable that further expansion of such institutions is allowed only after the present network is consolidated and their performance in terms of their contribution to resource mobilisation and allocation is assessed.

As an extremely important part of financial reforms, the Government of Pakistan now borrows from the banking system at market-related rates. This is a significant movement towards competition in the financial markets as well as towards regulating monetary policy through indirect, market-related instruments. As a step in this direction, the State Bank has indicated to take a number of measures to control the reserve money and the Net Domestic Assets (NDA) of the State Bank. Among others, refinancing facilities of the State Bank will be reduced and finally eliminated.

In recent years growth of monetary assets has come to be dominated by fiscal deficit. During each of the past two years 71 per cent of the domestic credit expansion was due to budgetary support.

Capital Market

During 1991-92 the capital market remained very active. It responded positively to economic reform measures, particularly to liberalisation of the foreign sector. The number of new financial entitles like modarabas, leasing companies, investment banks and commercial banks in the private sector almost doubled during the year. A couple of new financial instruments viz Mahana Munafa Certificates (Registered) and a 'Profit plus Savings Deposit Scheme were introduced during the year by Industrial Development Bank of Pakistan (IDBP). Three funds aggregating $58 million were set up abroad during the year for investment in equities of various companies in Pakistan, which contributed to buoyancy of stock market and also reflected confidence of foreign investors in the stock market of Pakistan.

Development Finance Institutions (DFIs) continued their resource mobilisation efforts, however deposits mobilised by them during 1991-92 were lower than last year. Sanctions and disbursements of term loans by the DFIs which had declined in 1990-91 increased during the year. Finance provided by commercial banks for the purpose of fixed investment also increased during the year.

During 1991-92, the stock market exhibited bullish sentiments. The State Bank General Index of Share Prices (1989-91 = 100)increased from 393.47 at the end of June, 1991 to 760.24 by the end of June, 1992 denoting a record growth rate of 93.2 per cent during the year as against an increase of 38.2 per cent in 1990-91. The total number of shares traded increased from 360.9 million numbers in 1990-91 to 724.9 million numbers during 1991-92 while the value of shares traded increased from Rs. 27.89 billion to Rs. 85.80 billion over the same period. The aggregate market capitalization of ordinary shares of companies included in the General Index rose from Rs. 69.86 billion during 1990-91 to Rs. 221.38 billion during 1991-92.

The corporate sector offered shares valuing Rs. 6.41 billion which were oversubscribed by Rs. 37.71 billion. The number of floatation of new issues doubled from 49 during 1990-91 to 98 during 1991-92. A salient feature of this was that out of 98 issues 85 issues were substantially oversubscribed, reflecting interest of public in shares business. Out of the total 98 new issues, 20 issues pertained to companies in the financial sector and rest belonged to other sectors. The number of companies listed at the Karachi Stock Exchange (KSE) increased from 497 at the end of June, 1991 to 596 by the end of June, 1992.

Sanctions of term loans by DFIs increased by Rs. 5.06 billion or 18.2 per cent to Rs. 32.84 billion during 1991-92 in contrast to a decline of 19.6 per cent in 1990-91. Disbursement of term loans which had declined by 5.8 per cent last year also increased by 9.5 per cent to Rs. 16.86 billion during 1991-92. The financial assistance extended by commercial banks for the purpose of fixed investment also went up by 20.2 per cent to Rs. 5.1 billion during 1991-92 in contrast to a decline of 14.3 per cent in 1990-91. Total deposits mobilised by selected DFIs during 1991-92 were Rs. 6.2 billion as compared with Rs. 14.7 billion mobilised in 1990-91. The lower mobilisation of deposits during 1991-92 was partly attributed to diversion of funds to stock markets.

Public Finance

For the year 1991-92 the targeted revenue in the consolidated budget was Rs. 229.98 billion including additional resource mobilisation of Rs. 18.02 billion in federal revenue. With a planned expenditure of Rs. 303.45 billion, the fiscal deficit was sought to be reduced to Rs. 59.1 billion or 5 per cent of the GDP. Measures to mobilise additional tax revenue included increase in the rates of excise duty on selected items, introduction of capacity taxation, enlarging the scope of sales tax, extension of tax net to small business, a variety of other measures in the field of income tax and simplification of selected procedures. Post budget measures included enhancement of taxes on selected utility items. The budget deficit of Rs. 59.1 billion was sought to be financed through domestic borrowing of Rs. 36.6 billion including bank borrowing of Rs. 6.5 billion with net foreign borrowing estimated at Rs. 22.5 billion. Actually, the authorities were able to mobilise Rs. 58.76 billion out of an actual increase of Rs. 180.05 billion in GDP or 32.6 per cent. After providing for revenue shortfall in 1990-91 the increase was Rs. 43.22 billion 24.0 per cent of additional GDP.

The consolidated budgetary position showed an overall deficit of Rs. 93.64 billion (On the basis of actual bank borrowing of Rs. 72.46 billion) or 7.8 per cent of GDP in 1991-92 as compared to Rs. 89.19 billion a year earlier (provisional actuals). The deficit reflected a consolidated federal and provincial governments expenditure of Rs. 315.6 billion (revised estimates) and a revenue of Rs. 222.61 billion plus Rs. 14.3 billion as surplus of the autonomous bodies. Current expenditure of Rs. 232.43 billion was 18.8 per cent higher than last year (provisional actuals). Development expenditure at Rs. 83.2 billion registered an increase of 27.4 per cent.

The fiscal deficit at 7.8 per cent of GDP is very large by any reckoning, and so is the borrowing of Rs. 72.5 billion from the banking system - including Rs. 26.7 billion from the State Bank - to finance the deficit. The relative size of the deficit will be smaller to the extent of any underestimation of GDP. However, continued deficit of this size will, sooner or later, have impact on prices and balance of payments. Servicing of domestic debt has already shown considerable increase. At the end of 1991-92 the overall domestic public debt stood at 43.22 per cent of GDP. Its servicing, costing Rs. 46.9 billion during the year was 65.29 per cent of net increase in domestic borrowing compared with 50.73 per cent a year earlier. Total debt servicing during the year at Rs. 80.07 billion constituted 40.3 per cent of current expenditure of the Federal Government and compared with 35.3 per cent a year earlier.

Broad areas of public finance where reforms and improvements need to be made are well-known. These pertain to broadening the tax base, improvement in collection, enhancing the elasticity of tax structure, reducing tax revenue's dependence on foreign trade and above all containing the growth of current expenditure. A number of unregulated areas remain outside the tax net. Total revenue as a percentage of GDP has remained around 18 per cent for quite a few years. Immediate target should be to raise it to 20 per cent of GDP, with a medium-term target of 22 per cent.

During 1991-92 excess of current expenditure over total revenue was Rs. 9.8 billion, reduced from Rs. 31.8 billion a year earlier. This is healthy development.

Conclusions

Notwithstanding, a high growth rate and some reduction in inflation rate during 1991-92, the basic imbalances persisted in the economy. A high level of fiscal deficit continues to be the central concern for the managers of Pakistan economy. Failure to reduce fiscal deficit in the years ahead to a more manageable level, could, through various linkages, put further pressures on balance of payments, price expectations as well as on exchange rate, with bearing on capital formation and financial stability. Unusually large expansion in liquidity in recent years has contributed to underlying inflationary potentials. The impact of this excessive expansion in liquidity has not been fully absorbed yet. Therefore to contain future price pressures both the fiscal and monetary policies would need to be strengthened. The fact that during each of past 2 years more than 70 per cent of credit expansion of an unusually large magnitude was attributable to budgetary support indicates the need for strengthening the demand management, in particular fiscal improvement. Expectations of an increasingly larger role of private sector in the economic development is at variance with a situation where the preponderant credit increase during the year goes to the Government.

Growth rate of 6 per cent in the years ahead assumes that development of social and physical infrastructure that has suffered deterioration in the past will receive a relatively higher priority and will promote growth in a longer period. Given Pakistan's resource position, a trade-off between immediate growth and investment in a social and physical infrastructure cannot be avoided.

Level of national savings remained very low and suffered a marginal decline as percentage of GNP. Again, this situation is not sustainable. A failure to improve the level of national savings will put pressure on balance of payments, eventually causing a deterioration in the foreign debt profile.

A 3.1 per cent annual increase in population is by any standard a very serious problem both in short and in the long run. Various problems like widespread unemployment, segmentation of the society in groups, pressures on social and physical infrastructure and finally the problem of law and order are closely linked to population pressures on the economy. Recently, considerable interest has been generated and the Government of Pakistan have taken several measures to address the problem. People's awareness about the problem and the need to contain population growth has increased. However, concrete results will take time to show. It is imperative that regardless of any changes in economic strategy or economic priorities reduction in the rate of population growth should remain a national priority. A number of countries in South Asia have realised a visible success in this field. In Pakistan too a dent can certainly be made on the problem with the direct involvement of opinion-leaders and socially influential groups.

Finally, it is encouraging to know that the Government of Pakistan are taking active interest in the problems relating to the improvement of environment. The Cabinet has approved the National Conservation Strategy (NCS) as Pakistan's Environmental Plan. A Cabinet Implementation Committee, under the chairmanship of Minister of Environment, has been assigned the task of overseeing the implementation on policies of the four thrusts of the NCS:

i) Institutional Development; ii) Communications and Education; iii) Legal and Economic Policy; and iv) Projects.

These objectives of NCS will be integrated into five-year plans. Major public sector projects will be reviewed for their impact on the environment. Consultations with the provinces private sector and NonGovernment Organisation (NGOs) have resulted in a financial plan for implementation of NCS activities over the next five years which will be submitted to a meeting of donor consortium in Islamabad in early 1993. At the provincial level the NCS is being implemented in the form of provincial conservation strategies.

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Publication:Economic Review
Date:Jan 1, 1993
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