Daily Times

An increase in trade deficit kills GDP, stunts growth, and makes the country poorer; it is also indicative of a widening gap between national investment and savings — a major concern for developing countries like Pakistan

The recent outcry over Pakistan’s sliding foreign exchange reserve underscores an exceedingly pressing concern in the country. The gradual decline in Pakistan’s foreign reserves — especially in the past months — has stimulated an extensive debate over the cause of this fall. While political turmoil, falling overseas remittances, and debt payment have all contributed to the dip, the addition is only modest compared to trade deficit — the leading cause of this fall.

A good starting point is to ask what trade deficit is and how it is connected to foreign exchange reserves.

Trade deficit is the fiat currency imbalance between the value of imports and exports. Whenever the value of goods and services purchased from other countries exceeds the value of goods and services sold to other countries, it gives rise to trade deficit. When a country exports, it earns foreign reserves and when it imports, it loses foreign reserves. Drawing on this definition, when a country is losing foreign reserves, it is importing more than exporting (among other factors).

Though an abstruse concept, trade deficit is the point where economic theory meets political reality — a point where the blame game sneakily enters the picture. Political and economic actors bemoan trade deficit. When a country runs a chronic trade deficit, economic actors are quick to point fingers.

But why is trade deficit such a growing concern? A country with rising trade deficit is essentially working up a stack of liabilities against inflows. If these liabilities outweigh inflows, they need to be financed by external debt. An increase in trade deficit kills GDP, stunts growth, and makes the country poorer. The increase is also indicative of a widening gap between national investment and savings, which is a major concern for developing countries like Pakistan that have more investment opportunities than they can afford to partake in.

Another reason why excess of imports over exports is demonized is the money exit resulting from higher imports (leakage). A leakage is more often than not viewed in a negative light. Instead of allowing money to stay in the economy in a circular flow, leakage allows consumers to squander money outside the country, hurting local economy in the process.

With so many reasons to hate trade deficit, it is no wonder that the increase in Pakistan’s trade deficit, especially in the first eight months of 2017, caused so much furore. With the State Bank of Pakistan’s website posting a larger gap each successive month, the final figure shows a huge jump from last year. Although Pakistan has a trade surplus with United States and United Kingdom, its overwhelming trade deficit with countries like China eats into these gains. The escalating trend in the export-led country has been dubbed as alarming. And the resulting pressure has forced Pakistan to reconsider its relationship with some of its key trading partners.

But exactly how bad is a trade deficit?

It wouldn’t be wrong to say concerns about trade deficit are somewhat misguided. The desirability of a deficit basically depends on the underlying economic cause,for instance, a reasonable part of the rising trade deficit of Pakistan is attributable to import of heavy-duty machinery.

These heavy-duty power generators help sustain infrastructure developments in the country, which means the dip can conveniently be written off as seasonal quirk.

Obsessing over individual metrics without considering the big picture can lead to myopia. Those who spew hatred for imports are only focusing on the short-term visible impacts of imports. But if you take the longterm view, you will see that trading with other countries helps build ties, gives influence over trading partners, and creates rapport in the international community

Moreover, it is important to remember that a trade deficit is rooted in foreign countries holding more Pakistani Rupees than goods purchased from Pakistan. This money will eventually finds its way back as investment, whichwill in turn will drive growth.

But so far as the deficit reflects surplus of regular imports over exports, it is indicative of a deeper underlying problem: the ability of Pakistan’s business sector to compete internationally. Although the erosion of Pakistan’s export competitiveness can, in part, be set down to show lack of initiative from business sector, the uproar about ineffectual government policies cannot be dismissed.

The competitive position of a nation depends largely on the formulation of favorable policies by government. The correlation between an organization’s strategic choices and the country’s legal framework cannot be denied. And to that extent, it is the failure to frame appropriate policies that is keeping us from emerging as an economic power on world stage.

It is also worth mentioning that imports should not be seen in isolation. Obsessing over individual metrics without considering the big picture can lead to myopia. Those who spew hatred for imports are only focusing on the short term visible impacts of imports. A deficit may not look as healthy as a surplus, but if you take the long view, you see that trading with other countries helps build ties, gives influence over trading partners, and creates rapport in the international community.

A lot of us find trade deficit threatening because we are hard-wired to see commerce through conventional lenses — exchanging goods directly with other goods. By assuming humans have a quid pro quo exchange based mindset, we overlook inter-temporal trade — the idea of running a trade deficit today in order to win surplus tomorrow. We fail to realize that the world is more than just a series of cold-blooded calculations and that importing goods today can help win exports tomorrow.

The writer is an author, blogger, and social activist. He can be reached at synergical@gmail.com and fb.com/talha.afzal.127

Published in Daily Times, September 10^th 2017.