Daily Times

Pakistan’s economic landscape in October 2024 stands at a complex intersection, where stabilization efforts collide with deeply embedded structural deficiencies. As a financial expert assessing the trajectory, the recent 37-month, $7 billion Extended Fund Facility (EFF) agreement with the International Monetary Fund (IMF), approved in late September 2024, represents a critical juncture for both macroeconomic stability and long-term fiscal health. While the IMF’s intervention has historically played a stabilizing role in averting crises, the broader question remains whether such programs provide a genuine path to sustainable growth or merely serve as stopgap measures to temporarily mitigate fiscal crises.

In evaluating the efficacy of this latest IMF package, one must begin with the macroeconomic indicators. Inflation, which skyrocketed in mid-2023 to levels as high as 29.4 percent, has since dramatically decreased, stabilizing within single digits at approximately 8-9 percent as of September 2024. This downward trend in inflation is, in part, a reflection of the contractionary monetary policies pursued by the State Bank of Pakistan (SBP), which, through a series of rate hikes culminating in an extraordinary 22 percent policy rate, succeeded in curbing inflationary pressures. However, recent policy adjustments reflect a shift in direction. Since June 2024, the SBP has reduced the policy rate by 450 basis points, a move aimed at encouraging business investment and economic activity following the decline in inflation. While easing inflation is a positive signal, the policy rate reductions may prove to be a delicate balancing act, as too much loosening could risk reigniting inflation, especially considering the persistent structural weaknesses in the economy.

In the context of Pakistan’s external debt burden, which now exceeds $126 billion, the question of debt sustainability is of paramount importance. Debt servicing, projected to consume over $25 billion for the fiscal year 2024-2025, continues to strain the government’s capacity to invest in critical sectors such as education, healthcare, and infrastructure. This debt burden is particularly concerning when considered alongside the country’s narrow tax base. Despite repeated reform efforts, Pakistan’s tax-to-GDP ratio remains stubbornly low, hovering around 9 percent, far below the 15 percent threshold deemed necessary for fiscal sustainability by global financial institutions. The IMF’s EFF agreement has renewed calls for broadening the tax base by targeting previously untaxed sectors, such as large-scale agriculture and real estate developers, which have traditionally escaped the tax net due to political economy constraints.

Despite repeated reform efforts, Pakistan’s tax-to-GDP ratio remains stubbornly low, hovering around nine percent.

A significant area of focus in the 2024 IMF agreement is the structural reform of state-owned enterprises (SOEs), which continue to drain fiscal resources through inefficiencies and chronic mismanagement. SOEs, particularly in the energy sector, have long been plagued by high levels of debt and operational inefficiencies, contributing to the buildup of the notorious circular debt. As of September 2024, circular debt in the energy sector has exceeded $15 billion, a figure that continues to jeopardize both fiscal stability and the viability of Pakistan’s energy infrastructure. The IMF’s prescription of cost-side energy reforms, including timely tariff adjustments and the phasing out of unsustainable subsidies, is crucial for addressing these issues. Yet, these reforms come with political costs, as higher energy tariffs disproportionately impact lower-income households, exacerbating income inequality and fueling public discontent.

From a global perspective, Pakistan’s experience with IMF programs highlights the broader challenges faced by emerging markets that rely heavily on external debt to bridge fiscal deficits. The “IMF trap,” a term coined to describe countries that repeatedly return to the IMF for bailouts without addressing underlying structural issues, is particularly relevant in Pakistan’s case. Since 1958, Pakistan has entered into 24 arrangements with the IMF, yet fundamental issues-such as a persistently narrow tax base, a bloated public sector, and weak governance-remain largely unresolved. This latest program, while temporarily stabilizing the economy, risks becoming yet another short-term fix unless accompanied by a concerted effort to implement deep structural reforms.

The policy environment in 2024 is also shaped by the global economic context. Amidst tightening global liquidity, rising global interest rates, and the slowdown in major economies like China, Pakistan’s ability to attract foreign investment has been constrained. Foreign direct investment (FDI) into Pakistan remains critically low, at less than one percent of GDP in 2023-2024, reflecting investor concerns over political instability, poor governance, and security risks. The IMF program, while aimed at restoring macroeconomic stability, must also be accompanied by efforts to improve the overall business environment. Reforms focused on enhancing transparency, reducing bureaucratic red tape, and improving the rule of law are essential for restoring investor confidence and attracting much-needed capital inflows.

Pakistan’s economic ties with global powers such as China, Saudi Arabia, and the United Arab Emirates (UAE) have been instrumental in providing critical financial support over the years. Each of these nations has played a unique role in shaping Pakistan’s economic landscape, offering financial lifelines during periods of crisis and driving long-term infrastructure development.

China, through the China-Pakistan Economic Corridor (CPEC), has arguably had the most profound impact on Pakistan’s economic trajectory in recent years. As part of China’s Belt and Road Initiative (BRI), CPEC has brought billions of dollars in infrastructure investment to Pakistan, primarily in the form of energy projects, transportation networks, and industrial development zones. These investments are designed to address Pakistan’s chronic energy shortages and modernize its transport infrastructure, which could, in theory, lead to higher productivity and economic growth. However, there are growing concerns about the sustainability of Chinese loans, many of which are on commercial terms, further adding to Pakistan’s debt burden. Critics of CPEC argue that while it may deliver short-term gains, the long-term impact on Pakistan’s fiscal stability could be detrimental if the returns on these projects do not materialize as expected.

Saudi Arabia and the UAE, two of Pakistan’s key bilateral partners, have also provided significant financial support, particularly in times of acute crisis. Both countries have extended loans and deferred oil payments, which have been crucial for stabilizing Pakistan’s foreign exchange reserves during periods of balance of payments crises. Most recently, in 2024, Saudi Arabia deposited an additional $2 billion in the State Bank of Pakistan to support the country’s foreign exchange reserves, a move that was essential for unlocking the IMF agreement. These strategic alliances, while beneficial in the short term, highlight Pakistan’s heavy reliance on external actors to manage its financial crises, a dependency that undermines its economic sovereignty and long-term development prospects.

The Gulf Cooperation Council (GCC) countries, particularly Saudi Arabia and the UAE, also represent important export markets for Pakistan. Pakistan’s workforce in these countries plays a significant role in driving remittances, which amounted to over $30 billion in 2023-2024, providing a critical lifeline for the economy. The Pakistani diaspora in the Gulf helps stabilize the current account deficit by sending remittances, offsetting the large trade imbalance. However, this reliance on remittances exposes Pakistan to external shocks, as any economic downturn in the Gulf region could significantly reduce remittance flows.

Pakistan’s economic future is also closely tied to its regional geopolitical environment. Relations with neighboring India have remained tense, particularly over unresolved issues like the Kashmir conflict, limiting the potential for economic cooperation between the two South Asian powers. Trade between Pakistan and India, which had shown signs of improvement in the early 2000s, has effectively come to a halt in recent years due to escalating political tensions. The economic cost of this frozen relationship is significant. A peaceful and cooperative relationship with India could unlock substantial economic benefits for Pakistan, including access to a larger market for its goods and lower transportation costs for trade with Central Asia.

Afghanistan, another critical neighbor, plays a complex role in Pakistan’s economic calculus. Afghanistan’s ongoing instability, exacerbated by the Taliban’s return to power in 2021, continues to pose challenges for regional trade and security. Pakistan has long sought to position itself as a transit hub for trade between Central Asia and the rest of the world, but security concerns along the Afghan border have hindered the realization of this vision. The development of the Trans-Afghan railway, which would connect Pakistan to Central Asia via Afghanistan, has stalled due to the political situation, leaving Pakistan’s ambitions of becoming a regional trade hub largely unfulfilled.

At the same time, Pakistan’s relationship with the United States, while no longer as pivotal as it was during the War on Terror, remains an important factor in its economic and diplomatic strategies. The U.S. continues to provide economic assistance, particularly in the areas of health, education, and governance, and is also a key export market for Pakistani textiles. However, the shift in U.S. foreign policy focus toward the Indo-Pacific region has meant that Pakistan no longer occupies the same strategic importance as it once did, reducing the scope for substantial U.S. economic aid.

Ultimately, Pakistan’s economic future hinges on its ability to navigate both internal and external challenges. The IMF’s 2024 EFF agreement provides a temporary reprieve from financial crisis, but without structural reforms, particularly in the areas of taxation, SOEs, and energy, Pakistan risks returning.

The writer is a financial expert and can be reached at jawadsaleem.1982@gmail.com. He tweets @JawadSaleem1982.