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Emotion and economic policy

IT is never a good thing when the economic management of the country comes to be engulfed in turbocharged emotion. Policymakers become distracted and their political opponents magnify the challenges and cast them in a way to assign blame rather than seek a path forward.

Having seen Pakistan go through two different periods of economic adjustment in the past 10 years (this being the third), I can say that these episodes always unleash angry energies in a way nothing else can (except perhaps the approach of war).

To some extent, this stands to reason. It is during these periods of adjustment that the populace is called upon to make large sacrifices because of higher inflation and falling opportunities. The middles classes have to curb consumption and businesses find their balance sheets contracting rapidly. Those unfortunate enough to have new investment coming online precisely at the time when the adjustment begins find themselves faced with collapsing sales and rising debt-service costs, as disposable incomes dries up and interest rates rise.

It is during periods of adjustment that the populace is called upon to make large sacrifices because of higher inflation and falling opportunities.

Consumption, investment, employment, purchasing power all collapse during these times. And all governments face this quagmire in their opening months, sometimes dragging on for years. Remember the first speech of Pervez Musharraf? “We have hit rock bottom,” he declared at the time.

For three years, his government struggled with some of the toughest conditions ever attached to an IMF programme, a short six-month standby that they had to implement before qualifying for the coveted Poverty Reduction and Growth Facility in 2002.

Things picked up rapidly after that for his government, helping him get past the 2004 deadline he had set for himself to shed the uniform, without honouring that promise. The inflows that kicked in after 9/11 and Pakistan acquiescing in being part of America’s war on terror played a critical role in jumpstarting growth, otherwise Musharraf may well have had to honour his promise to shed the uniform by 2004.

But even those circumstances back in 1999 were nothing compared to what he left behind once he relinquished power and fled the country 10 years later. The year 2008 saw one of the biggest financial crises of Pakistan’s history. Consider for example, that this was the first time that the stock market had to be frozen altogether since the magnitude of the plunge it was seeing day after day was so large it could have wiped out the diminishing foreign exchange reserves of the country. Asset management funds were frozen and a run on the banks had actually begun, one of our economy’s big untold stories.

On top of that, the newly elected government had to eliminate fuel subsidies in one go, causing a massive spike in the price of fuel, and to jack-up power tariffs steeply. It had to undertake a sharp devaluation of the rupee, and watch GDP growth rate crash to 1.7 per cent as public spending all but dried up. A massive circular debt overhang, coupled with almost Rs700bn of borrowing from the State Bank that had to be retired (remember, the economy was less than half the size back then compared to today, so Rs700bn was a lot more money than it is today), and oil prices shot up to $147 per barrel at the peak of history’s biggest oil price bubble.

The PPP paid a very heavy price for owning that stabilisation effort, and the scale of the hate and invective levelled against that government was like nothing I have seen before. Anchors would launch into an hour-long tirade against them on prime time, and it was considered perfectly normal. Granted there was misgovernance, but much of the raw emotion also owed itself to the scale of the adjustment they had to undertake.

The net result was paralysis, coupled with high-handed interventions from then chief justice Iftikhar Chaudhry, who worked overtime to nullify almost every decision the government made regarding the economy (at one point, he actually summoned them to court to demand why gas was not being subsidised).

The PML-N government faced a comparatively better situation, but nevertheless, it was rough riding in the initial year and a half. At the outset, they had to deal with a power system crippled by debt and largely lying idle. Then came the erosion of the reserves and the approach to the IMF.

Growth dropped to 4.7pc in their first fiscal year on the back of sharp drops in public spending, but some cushion was provided with help from the Kingdom of Saudi Arabia that granted the country a $1.5bn deposit to tide things over. They got some help from sharply falling oil prices, and then came CPEC, so the scale of the adjustment they had to undertake did not have to get as large as it was back in 2008.

The present government is walking in the same footsteps. A large adjustment — that the government says has largely been made, but some reasons exist to suggest that far more is to come — has been undertaken as reserves hit around two months of import cover by the time the government decided to go to the IMF back in October last year. Since then, something like $6bn has poured in from Saudi Arabia, the UAE and China, and the current account deficit has dropped from $2bn per month to $1bn.

All this is fine, and containing the external sector deficits had to be undertaken, there is no doubt about that. But now, the government appears to have embarked upon a new reform measure about which we know very little except for the fact that it is being taken seriously. This reform measure involves unhinging the exchange rate from state control significantly, which will be the most important step taken thus far by the new government — it can be brought about.

Other than that, the reform path forward is a well-trodden one, and experience tells us it is rarely an easy one to walk.

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