Dodging the default

As of August 2023, Pakistan’s economy, although still limping, has managed to make it out of a potential default. Last year around this time there was widespread speculation about the country being on the verge of a default. News channels, newspaper articles as well as national think tanks sketched a surreal picture of the economic future of the country. So much so, the Indian media was convinced that India had virtually lost its Western neighbor to an economic default.
But despite the economic turmoil, Pakistan’s economy has shown to circumvent the default and make a considerable recovery in some areas. For example, the current account balance appreciated multifold from March to May this year, standing at a current account surplus of $255 million in May. According to the State Bank, the surplus has soared from $78 million in April to more than 3 times the amount, in May. Last year in May, Pakistan had a current account deficit of $1.5 billion. All thanks are due to the import ban policy of the government which has catapulted the country from a current account deficit to a current account surplus.
The issue of inflation, however, never seemed to get better, as suggested by the numbers. As of May 2023, the country’s inflation rate has been 37.97%. This was an all-time high for the second consecutive month. Furthermore, according to the Bureau of Statistics, the Consumer Price Index (CPI) rose to as much as 36.5% in April - setting a record high in the country and the entire South Asian region.
Understanding the never-ending inflation surge in Pakistan requires an analysis of the past 2-3-year economic and political trajectory of the country as well as the world. The pandemic-induced adverse supply shock and the global lockdown seriously dented the world economy, including that of Pakistan. The hampered transportation of goods due to the lockdown delayed the supply of raw materials which eventually resulted in a decreased output. Lest we forget, this phenomenon affected many major economies like the U. S’s, more negatively than Pakistan’s economy.
Add to this the devastating floods of 2022, that caused an aggregate economic damage of over 30 billion dollars, to an already crippling economy. These floods hit at a time when the country’s economy was faced with a rising current account deficit as well as a soaring inflation rate.
The Russian invasion of Ukraine proved to be the last nail in the coffin. Pakistan is a net importer of oil, LNG, and wheat. With international sanctions placed on Russia and the ongoing war in Ukraine, the global supply of these products has been severely disrupted and Pakistan too has suffered the brunt of it, hence the present energy crisis. The aforementioned reasons had ferociously jolted the economy of Pakistan. Furthermore, the political unrest in the country following the ousting of Khan’s government by PDM and the consequential nationwide protests stifled the chances of any foreign investment.
The government has resorted to corrective measures like tightening monetary policy and imposing import bans to help inflation and reduce the current account deficit, respectively. The latter objective has been achieved but the former one has not, and there is a good logic behind it. The process of monetary policy is usually carefully managed and hence slow-paced so that the economy doesn’t spiral into a recession. In layman’s language, inflation is affected by the total money supply. When the government raises interest rates under tight monetary policy, the aim is to reduce inflation using reducing the money supply. This way when the interest rates rise, the borrowing of money by people and commercial banks is reduced which in turn reduces the money supply in the economy, thus driving down the prices.
However, this process could go wrong whereby the money supply is reduced to such an extent that could potentially put the country in a situation of a full-blown recession. This is why monetary policy is known to take time before it sets the economy incorrect motion. According to the Bank of England, it can take around 2 years for the policy to take full effect and Pakistan is not yet, anywhere near that marker. On the positive side, the inflation crisis will get better in due time but it is important to note that the pre-Covid price levels will still not be achieved owing to a general rise in price levels globally. In addition, foreign credit ratings like Moody’s and Fitch are also improving owing to a reduced probability of economic default. For example, as of February 2023, Fitch downgraded Pakistan’s default currency rating to CCC- whereas in July it upgraded the rating to CCC.
Currently, the current account stands at a surplus and the country has reached a deal with IMF which would soon set in motion, the pending economic corrections. These developments coupled with the starting of the second phase of CPEC, give tidings of a better economic future for Pakistan.

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