Pakistan’s economy is expected to stabilise. Is growth next? – Prism

At this time, almost everyone recognizes that the consumption-driven growth model that Pakistan has come to rely on to achieve high growth rates is unsustainable. Most commentators also agree that Pakistan must shift to exports as the key driver of growth.

This narrative has given significant space to the current Tehreek-i-Insaf government of Pakistan to implement the necessary stabilization measures aimed at containing consumption and, at the same time, providing incentives to export industries.

However, these and other similar policy proposals of most commentators (including me) seem to have led to a fallacy that the implementation of stabilization policies only to address macroeconomic imbalances will somehow lead to a path of high growth that does not lead to the International Monetary Fund. This is incorrect.

Stabilization policies, which include fiscal and monetary policies, remain what they are: they stabilize the economy around their underlying productivity growth rate. Another way of looking at it is that, whenever the real gross domestic product grows more than the growth rate of the underlying productivity, macroeconomic imbalances begin to emerge, which requires policy makers to respond with stabilization policies.

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Appreciating this can only help policymakers reorient their approach away from macroeconomic stabilization as the ultimate goal of the policy to improve the productivity of the economy. The need for this change cannot be overstated. As Paul Krugman, an economist at Noble Laureate says, "productivity is not everything, but in the long run it is almost everything."

Appreciating the importance of improving productivity will help break another related fallacy often pointed out by economists: that the government has its hands tied with reference to the implementation of policies favorable to growth when it is under an IMF program.

A quick look at the data presents a depressing perspective that demands an immediate political response. Whenever the growth rate exceeds 4{7be40b84a6a43fc4fae13304fce9a2695859798abfc41afd127b9f8b21c5f9c5} for a few years, macroeconomic imbalances begin to emerge. For example, between fiscal years 2014 and 2018, real GDP grew to more than 4{7be40b84a6a43fc4fae13304fce9a2695859798abfc41afd127b9f8b21c5f9c5}. However, the current account worsened from -1.49pc of GDP to -6.14pc.

The growth episode during the 2000s also presents a similar image. While the economy grew to more than 5pc between FY04 and FY08, the current account deficit worsened from -0.8pc to -9.2pc of GDP. Both episodes culminated in large fiscal deficits due mainly to the increase in debt service costs and the desire of governments to delay the necessary adjustments.

This leads to an obvious conclusion that any attempt to increase the GDP growth rate beyond 4-5pc must come from increasing the productivity of the economy instead of implementing expansive fiscal and monetary policies.

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The importance of changing our approach to productivity improvement can be further appreciated by recognizing the fundamental role it plays in the performance of a country's exports. In a 2002 article published in the International Economics Magazine, researchers use data on Spanish manufacturing companies to show that it is essentially the most productive companies that are most likely to enter the export market.

In a 2005 article published in the World Economy Review, researchers from Bocconi University and the European Economic Research Center found similar results for German manufacturing companies. A 2008 article published in the American Economic Review It shows the same for Taiwanese electronics producers.

The precise factors that determine the productivity of an economy have been the subject of much debate that remains unsolved. But what can be said with relative certainty is that the rate of productivity growth depends on the efficiency with which a country's economic resources can be united for production purposes.

To be sure, policy makers should not restrict their attention only to the quality of resources. Instead, and as Robert Solow (another Nobel Prize economist) emphasized, social norms and institutions can also be important enabling or limiting factors in the search for a country to improve its productivity.

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Considering this, any policy that facilitates the interaction between the resources of a country – land, labor and capital – or improves the quality of these resources will contribute to raising the productivity of the economy.

In many cases, a large number of archaic and poorly researched rules and regulations present a key obstacle in the union of economic resources. In other cases, the lack of adequate laws is what is hampering the development of markets.

Similarly, addressing critical infrastructure and diplomatic bottlenecks with the aim of developing trade links with the regional economies of Central and South Asia can greatly contribute to improving the productive potential of the economy. The reform of technical and vocational training programs is another area that has not received the necessary attention.

Now that the government has already implemented most of the stabilization measures, the approach must shift to reforms that improve productivity. The economy is expected to begin to stabilize in a year. However, all this means that it is growing at a meager rate of around 4pc.

If the government does not initiate these reforms now, the political considerations closest to the elections will again force the government to rely on expansive macroeconomic policies to fulfill the pre-election promises. This will be a disaster or a repetition of it.

Are you looking at economic reforms? Share your ideas with us at prism@dawn.com