Pakistan’s external sector is facing increased pressure as its trade deficit has alarmingly widened 28.7% to $17.4 billion during the first seven months of the ongoing fiscal year due to a continuous decline in exports and double-digit growth in imports. The latest trade figures released in February by the Pakistan Bureau of Statistics revealed that the country has breached its trade deficit limit and has already booked a deficit equivalent to 85% of its annual target for 2016-17. Exports in the seven-month period were less than half of the annual target, while imports were about two-thirds of the annual projections, suggesting that the country will end up exceeding the CAD (current account deficit) target it set for itself by at least $5 billion. February ’16 on February ’17 figures released this month paint an even bleaker picture, as textiles alone (the largest sector in Pakistan’s economy) posted a decrease in overall exports of 8.30% and an increase in overall imports of 34.71%. Dissect it further and one sees that while made-ups exports are staging a double-digit decline, raw cotton exports instead posted an increase of 5.45% - No rocket science required to ascertain that factories are closing down and precious industrial jobs are being lost.

Alarmingly as this may sound the government does not seem to be unduly worried. The question is why? A simple answer may be that it is incompetent and has a flawed economic management strategy, but then the other argument could be that it truly believes in the classic lasses-faire model where size of the trade is not what matters; meaning, what really matters is not whether trade deficit is rising or falling, but why. The real argument being that the challenge for any government is not about the trade equation but instead about the affect of trade on the standard of living of its people. For example, trade deficits could fall unusually in times of recession, however, no one in such a case would argue that it made the people better off. Read the Freidman doctrine and the advice that comes from it is that you export what you make more efficiently and import what others make more efficiently and this rule applies to intra-sector transactions as well. According to Friedman academics, follow this principle judiciously and the ultimate benefit gets passed on to the people or the consumers.

And in our case, naturally once the Pakistani consumers/people have rising incomes their standard of living will improve automatically - the ultimate goal in any case of all government. Moreover, specifically in our case, the government perhaps also feels that in order to address the underlying issue of manufacturing competitiveness in the short-term they will have to significantly devalue the Pak Rupee- An option, which it is simply not comfortable to exercise in wake of a visibly high cum expensive foreign debt portfolio that it has acquired in recent years and given its plans to acquire more to complete CPEC and its other announced grandiose projects. Further, the Finance Ministry opines that the pain of devaluation by far outweighs any resultant or immediate gains and that a stable currency always carries its own inherent economic advantages – and these arguments by the way are not entirely untrue!

The trouble is that regardless of the rationale behind the current governmental thinking, it will not be able to sustain such policies for long. Primarily because the latest trends show that sectors where Pakistan traditionally enjoyed a competitive edge now seem to be losing ground: foreign remittances that perhaps represent our highest export surplus are now showing a declining trend after being on an upward trajectory for more than two decades; with domestic competitiveness diminished not only FDI (foreign direct investment) is at an all time low, but the outflows in terms of dividends, fees and royalties are now beginning to rise quite rapidly; and last but not least, financial history is witness that currency levels cannot be held artificial for too long and as and when a rapid correction takes place the damages can be disastrous for an economy – Pakistan witnessed this moment as recently as in 2008 when Zardari’s PPP took over from the then interim government.

So what should the government be doing?

Recommendations:

A) To boost exports the Pak Rupee should be devalued by about 5%, which will only barely cover the differential by which other competitors have already devalued their respective currencies over the last 2 years (Chine more than 8.50% over the Pak Rupee, India about 5% and Vietnam about 3%); stuck-up refunds should be processed quickly; promised rebates should be disbursed without delay; and re-negotiate free trade agreements that hurt Pakistan’s export potential.

B) To bridge the competitiveness gap corporate tax rate should be reduced by 7% to make it 25% (regional average), VAT to be reduced by 5% to 12% (again the regional average), unnecessary witch hunting of the existing tax payers by the FBR should immediately stop, and harmonise inter-provincial and federal/provincial taxation.

C) Encourage imports that tend to be better and cheaper substitutes or help in promoting value-added exports while discouraging all types of luxury cum non-productive imports – Pakistan’s only converts 10% of its imports into value added exports as compared to nearly 40% by Malaysia, Vietnam, Thailand and Bangladesh and effectively clamp down on smuggling and under-invoicing.

D) Finally, enter into maximum currency swap agreements with China to nullify the foreign currency risk of future envisaged ROI outflows and the contingent liability risk.