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Falling external balances, high fiscal deficit main concern: SBP report


LAHORE: Deteriorating external balances and high fiscal deficit remains a major source of concern, State Bank of Pakistan third quarterly FY18 report highlighted.
Maintaining its upward trajectory, the real GDP growth is estimated at a 13-year high of 5.8 percent in FY18, along with a benign inflationary environment. However, deterioration in external balances and high fiscal deficit remains a major source of concern, the report said.
The estimates for FY18 also suggest that compared to FY17 all the three sectors remained vibrant. Agriculture sector on the back of improved cotton crop and record sugarcane is expected to comfortably surpass its growth target for FY18, the report stated.
Industrial sector, reflecting a robust domestic demand, is set to achieve a 10- year high growth, it said adding that the services sector is estimated to maintain almost its last year growth based on spillover impact of healthy performance by commodity producing sector.
In the same encouraging vein, inflation remained within manageable and supportive levels, largely owing to decline in its food component, the report further added, the combination of robust economic activity and low inflation had two important implications.
First, it boosted confidence in the economy, which along with affordable cost of financing induced firms to borrow substantially, the report said. In particular, energy, textiles, and cement sectors focused more on capacity expansion to gear up for growing domestic demand, the report said adding that a healthy rise was also observed in working capital requirements; while the consumer finance posted the highest Jul-Mar flow during the last 12-years, driven mainly by a surge in auto and housing finance, it added. Ample liquidity in the wake of maturity of government securities also supported this credit off-take. The second impact relates to increased consumption, which along with recovering oil prices, further inflated the import payments. Higher import bill, despite 10 consecutive months of exports growth and rising workers’ remittances, resulted in record widening of current account deficit, even higher financial inflows from IFIs, bilateral sources, and issuance of sovereign bonds remained insufficient, the report said.
Thus, the remaining payment gap fell on the country’s FX reserves, which fell to only two months of import cover by end-March, 2018, it added.
The foreign exchange market also remained volatile and PKR depreciated by 9.2 percent against the dollar during Jul-Mar period of FY18, it highlighted.
These external sector developments started to impact inflation as well. The pass through of rising global oil prices to domestic fuel prices pushed up the energy component of inflation, as the government passed on its impact to consumers, the report said.
Similarly, the impact of PKR depreciation started to translate into costly imports and shoring up of inflationary expectations, it said.
On the fiscal side, the healthy growth in revenue could not keep up pace with a sharp rise in fiscal expenditure in the Q3-FY18.
Particularly, the development expenditure related to infrastructure and power projects increased sharply, with major contribution coming from provinces. As a result, the fiscal deficit in Q3- FY18 stood higher than corresponding period last year, the report said.
To finance the fiscal gap, the government had to rely both on SBP’s
borrowing and external sources, the reporter said adding that in particular, the government borrowings from SBP stood at Rs2.2 trillion in Q3-FY18 – the highest level in a quarter. External debt, owing both to higher commercial loans and revaluation impact of the PKR depreciation, also rose considerably.
In short, ensuring the continuity of expansion in economic activities and low inflation would depend on containing of current account and fiscal deficits. As these vulnerabilities are posing challenges to Pakistan’s current growth cycle, implementation of both short-term and medium term policies would be crucial in this regard.
In short-term, concerted efforts could be made to rationalise fiscal expenditures given the tax relief measures approved in budget FY19. In the medium term, reforms would be needed to expand tax base besides enhancing efficiency of the existing system. Simultaneously, there is a need to arrange external financing in the short term, the report said, adding that also, more policy measures are required to contain the widening trade deficit.
For this purpose, it is also crucial to resolve structural issues affecting exports competitiveness.


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