Syed Mohammad Ali

Before becoming overly complacent, lulled by projections made by entities whose own existence is assured by lending money to poor and developing countries, it should be noted that IMF estimates would change drastically if underlying assumptions for economic growth, interest rate and external trade are not fulfilled

While external debt is a common
phenomenon across the world, when such debt begins to grow large enough to begin dominating the major proportion of a nation’s income, it becomes a telling sign of what is termed as an unsustainable debt burden.

Pakistan’s total external debt, which is more than twice its internal debt, is currently estimated to grow by more than 43 percent over the next five years. According to the International Monetary Fund (IMF), our external debt will increase by another $ 2 billion in 2011-12 and exceed $ 72 billion by 2015-16.

It is interesting to note that the IMF still believes that Pakistan’s external debt is sustainable. It claims this on the basis of confident projections regarding the size of Pakistan’s economy, on the basis of which our external debt servicing could remain manageable. This assessment is based on a forecast whereby the external debt alone stands at 27 percent of the GDP, and this would peak at 34.3 percent in 2011-12, before it starts subsiding to reach 31 percent of the GDP in 2015-16, when the growth rate of the country is supposed to reach 5.5 percent. Even if one were to concede these estimates, there is no denying the fact that in the medium term at least, increasingly higher debt-servicing costs will severely restrict our government’s ability to improve the dismal condition of the nation’s masses.

Also, before becoming overly complacent, lulled by projections made by entities whose own existence is assured by lending money to poor and developing countries, it should be noted that IMF estimates would change drastically if underlying assumptions for economic growth, interest rate and external trade are not fulfilled. Given our dismal security environment, the poor quality of governance, and the lax expenditure environment in the provinces, it does seem a bit foolhardy to expect much financial and policy discipline from our decision makers.

A range of factors have contributed to the recent surge in debt. These include the persistence of large fiscal and current account deficits, sharp depreciation in the exchange rate and unrestrained borrowing. These factors have combined to lead to a surge in external borrowings, and led our overall debt servicing ratio to again reach unhealthy proportions. In 1999-2000, a major proportion of the national revenue was being consumed by debt servicing alone. This ratio was almost halved by 2006-07, which created some fiscal space for improving the lagging physical and human infrastructure across the country, and trying to reduce poverty. In the last two years, this debt servicing ratio has again risen sharply, leaving little room for public spending, given the other enormous budgetary drain of defence expenditure.

Moreover, despite its assurances, the IMF itself is also concerned about the growing risks to its own fund since Pakistan has again become its fourth-largest borrower. A debt sustainability analysis conducted by the IMF and the government shows that Pakistan’s external debt portfolio is highly vulnerable to shocks that might lead to a deterioration of the balance-of-payments position. This could include another spike in international commodity prices, a decline in exports and a slowdown in foreign exchange inflows into Pakistan. There is a real risk that such shocks are imminent given the lukewarm external demand and the rapid slowdown of financial inflows into emerging economies.

While politicians conveniently deflect blame by saying that it is faulty decisions of the incumbents that have led the nation to go back to the IMF, at least our prominent economic analysts and decision makers who remain entrenched in positions of authority must give more serious thought to why our nation required such large resources from the IMF so soon after stating that we had been freed from the stringent conditionalities of IMF lending. Further thought is required concerning the adoption of an expansionary fiscal policy when there was a resource crunch. There is also need to reconsider why we allowed our exchange rate to depreciate to an extent where we added nearly a trillion rupees to public debt, without increasing a single dollar in our exports. Moreover, why is it that despite have accumulated such an enormous debt burden, our government does not have a comprehensive borrowing policy even though there is a separate Debt Office located within the Finance Division since almost a decade?

Ordinarily, external borrowing is sought to accelerate economic growth, especially when domestic financial resources are inadequate and need to be supplemented with funds from abroad. Theoretically, reasonable levels of borrowing promote economic growth through factor accumulation and productivity growth. If borrowing countries channel the borrowed funds into productive investments, they can achieve macroeconomic stability and accelerate their economic growth to easily settle debt obligations. But foreign debt does not remain so easy to retire after it gets accumulated beyond a certain limit. Too much debt can begin to dampen growth when greater percentages of reserves are consumed in meeting debt service, causing creditworthiness to erode. Because of an injudicious utilisation of foreign loans, Pakistan’s capacity to pay back its debts has weakened considerably. Yet, the present government seems to continue raising debt to pay debt and the relief impact of the expected foreign loans remains difficult to see.

Due to overall global economic pressures, and the increasing cost of borrowing money, the recently signed agreements by our government for foreign loans from multilaterals are also becoming more stringent. According to the analysis of loan agreements signed by the Economic Affairs Division with the World Bank, there is a visibly decreased maturity period (from over 30 years back in 1970 to under 20 years currently, while declining grace periods from over ten years to just over five years). The interest rates paid on these loans are also said to have doubled, which is about 6 percent at present. Moreover, the extent of grants being received has estimated to have decreased from nearly 60 percent to less than 30 percent. In other words, Pakistan is now taking more loans from the World Bank at greater interest rates, and has to pay this money back much faster than it used to.

With total population estimated conservatively to be about 165 million, each Pakistani at end March 2009 was calculated to owe about $ 591 in public debt (domestic and external). This situation will certainly not improve if our foreign debt rises by the estimated projections over the next few years. Unless some serious steps are taken to rectify this situation, our future generations will have to increasingly suffer the effects of a coerced belt-tightening induced by international lenders to pay back their loans, the benefits of which are being squandered away without producing any significant results on the ground.

The writer is a researcher. He can be contacted at ali@policy.hu