Management of the Pakistan Economy - Books

Book: Policy Challenges for Macroeconomic Management and Growth in Pakistan

Editor’s Note

Chapter No. 01

State of the Pakistan Economy Growth, Inflation, Welfare and the Budget : Financial Year 2024
Moazam Mahmood, Azam Chaudhry, Seemab Sajid, Amna Noor Fatima and Sara Qasim5

The Lahore School of Economics macro model estimates that Pakistan's GDP growth for FY 2023-2024 is projected at 1.68%, reflecting ongoing weaknesses in sectoral performance, particularly in large-scale manufacturing, which barely broke even after a contraction of -2.9% in FY 2022-2023. In contrast, GDP growth is expected to rise to 3.3% for FY 2024-2025. This low growth trajectory has been corroborated by various institutions, with the GOP estimating 2.4% and the IMF at 2.0%. The report explores the structural hypothesis that Pakistan's GDP growth is constrained by external imbalances, leading to periodic crises and necessitating IMF bailouts. Inflation for FY 2023-2024 is estimated at 18.9%, down from a peak of 33% in FY 2022-2023, primarily driven by a significant depreciation of the exchange rate and a fiscal deficit of 7.4%. The budget for FY 2024-2025 is highly aspirational, increasing from PKR 14.5 trillion to PKR 18.9 trillion, with tax revenues projected to rise from PKR 9.4 trillion to PKR 12.9 trillion. However, reliance on borrowing remains high, comprising over half of the total budget, raising concerns about sustainability. The report emphasizes the necessity for reducing borrowing costs and generating growth while addressing rising poverty levels, which have escalated from 5% in FY 2019-20 to an estimated 18% in FY 2022-23 due to inflationary pressures.

Chapter No. 02

The Role of Monetary Policy in the Current Environment: Myths and Reflections
Naved Hamid and Murtaza Syed

In 2023, Pakistan experienced arguably its worst-ever period of stagflation, with growth plummeting and inflation close to all-time highs. In response, monetary policy was tightened considerably, with the policy rate raised to 22 percent and held at that level for one year. This policy was criticized by many in the media. This paper attempts to draw lessons from this episode. It reviews the literature and international experience to evaluate the underlying basis of the criticism. It finds that much of the criticism is based on myths that either reflect outdated thinking or have no empirical basis. Nevertheless, some of the criticism is worth engaging with. Together with the findings of the review, these more informed critiques provide useful guidance for appropriate monetary policy settings under different economic environments. The paper concludes with a discussion of what this guidance could imply for monetary policy settings as the economy stabilizes and inflation comes down.

Chapter No. 03

Understanding the Nature of Pakistan’s trade policies and testing their impact on Pakistan’s trade performance
Azam Chaudhry, Gul Andaman and Aymen Junaid

In recent years, the debate surrounding free trade versus protectionism has intensified, particularly as industrialized countries face increasing competition from emerging economies. This argument is of particular importance to Pakistan which faces sluggish exports growth alongside a high level of imports, resulting in multiple balance of payments crises. This study quantifies the types of trade-restricting and trade-promoting policies while assessing the depth of these policies. Both the methodology and the results will be shared with policymakers and other stakeholders to contribute to the ongoing discourse regarding the effectiveness of policies aimed at improving Pakistan’s trade performance.
This study analyzed Pakistan’s trade policies from 2008 to 2022 using the Global Trade Alert (GTA) database, recognized for its comprehensive coverage of crisis-era trade policies. The research evaluated the nature and extent of trade-promoting and traderestricting policies in Pakistan and empirically tested their impact on the country’s export and import performance. The findings reveal that Pakistan employs a diverse range of trade-related industrial policies. For exports, the focus is on tax incentives and tariff reductions, while import policies focus on tariffs and internal taxation. However, the study found that only certain policies significantly affect trade volumes. Import tariffs, for instance, have a notable impact on export growth while internal taxation influences import growth. Interestingly, traditional export financing mechanisms remain largely unchanged over the study period. To improve policy effectiveness, Pakistan should prioritize less administrative measures such as tariff reductions which have shown positive results.

Chapter No. 04

Firms, International Trade, and the Environment in Pakistan
Theresa Thompson Chaudhry and Nida Jamil

According to the World Trade Organization (WTO, 2021), international trade—including the production and transportation of manufactured goods—accounts for 20 to 30 percent of global greenhouse gas (GHG) emissions. This study examines the relationship between firms, international trade, and the environment, focusing specifically on Pakistan. Beyond transportation, international trade influences emissions through production via various channels, such as scale, technique, and composition effects. Although some of these channels have the potential to reduce emissions, the overall effect has often resulted in a net increase. Using firm-level data from Punjab, we investigate the impact of two significant trade policy changes on emissions from production in Pakistan’s textile sector: the termination of the Multi-fibre Arrangement (MFA) in 2005 and the Pakistan-China Free Trade Agreement (FTA) in 2006. Emission levels and intensity were higher in the post-2005 period, particularly for the spinning sector. However, emission levels and intensity were lower for exporters to destinations other than China during the same period. Notably, emission levels and intensity peaked in 2005 compared to 2000 and 2010. While Pakistan’s reliance on fossil fuels has been reduced due to hydroelectric power generation, the country still faces electricity shortages. Payments to power plants and petroleum imports to fuel them have strained government budgets and foreign exchange reserves. Renewable energy sources, such as solar power, offer significant potential to reduce the environmental footprint of Pakistan's exports. In an upcoming randomized controlled trial (RCT), we aim to explore the role of information provision in incentivizing small and medium firms in the textile and food & beverage processing sectors to adopt solar energy.

Chapter No. 05

Product Space: Exploring potential for higher exports in Pakistan
Azam Chaudhry, Gul Andaman and Aymen Junaid

Pakistan has long struggled with a persistent balance of payments deficit, primarily due to merchandise exports being significantly lower than imports. This issue is exacerbated by the country’s inability to move up the quality ladder leaving its exports concentrated in low value-added products exacerbating the balance of payment deficit problem. Recognizing the critical need to expand and diversify its export base, this study utilizes the product space network and connectedness framework from the Atlas of Economic Complexity (AEC) to identify potential high value-added products for export growth. The analysis suggests adding products like coke from coal (HS 2704), railway freight cars (HS 8606), Malt (HS 1107), chemical wood pulp (HS 4703), unwrought nickel (HS 7502) to Pakistan’s export basket. Expanding exports of existing products such as original sculptures (HS 9703), fishing rods, decoy birds (HS 9507), footwear (HS 6404), stranded wire, cables (HS 7413)’ is also recommended. We also estimated the potential gain in the export revenues if Pakistan starts exporting a subset of the products identified. Our estimates indicate that exporting new primary connections could increase merchandise export revenue by 5.54%, while expanding high value-added products could boost revenues by nearly 27.7 % to US$ 37 billion. Policymakers should focus on these products for an export-oriented industrial strategy. Trade officers and negotiators should link potential foreign buyers with Pakistani producers to capitalize on these opportunities. Prioritizing these products in trade agreements and tariff discussions can also support export growth, helping to address Pakistan's balance of payments deficit and foster sustainable economic development.

Chapter No. 06

Does Innovation Benefit Exporters in Pakistan more than Non- Exporters? An Analysis of Firms from the Textile, Light Engineering and Automotive Sectors
Rabia Arif and Azam Chaudhry

Innovation is an essential catalyst for growth and competitiveness in the global economy. Yet, its specific impacts on firm performance remain inadequately explored, particularly across different sectors in the context of developing countries. This paper examines the effects of innovation on the performance of exporting and non-exporting firms within Pakistan's textile, light engineering, and automobile industries. Utilizing a modified version of the Crépon, Duguet, and Mairessec (1998) innovation model, we investigate the impact of various innovations on firm performance and explore how adopting complementary innovations influences outcomes. Our initial results imply that non-exporting firms benefit more from individual types of innovations and their respective combinations of innovations purely driven by younger firms. However, we get more nuanced results when we divide firms by sector. In the textile sector, dominated by exporters, innovation positively impacts firm outcomes through product and technological advancements, with the benefits focused on more extensive and established firms.
Conversely, in the light engineering sector, individual innovation adoption favors exporters, while adopting complementary innovations benefits non-exporters, especially young firms. In the automotive industry, innovation impacts exporters and non-exporters differently and favors older firms. These results add to our understanding of the innovation-performance nexus in Pakistan's industrial landscape and can provide practical insights for policymakers, industry stakeholders, and academics.

Chapter No. 07

Keynes’s Revenge: An Essay on the Dichotomy between Savings and Investment in Pakistan
Moazam Mahmood, Shamyla Chaudry and Muzzna Maqsood

Pakistan’s economy may have lost its high growth rate of 6%, driven by investment and now plods at 4%, switching to consumption as its driver of growth. The earlier 6% growth was driven by investment, whereas the latter 4% growth has been majorly consumption led. Consequently, the era of investment-led growth appears to be over, possibly irreversibly As a result, consumption-led growth is now necessary. For this to be effective, consumption must be high for the consumption multiplier to work. Despite this,there is a persistent misconception that high investment is required, which necessitates a high savings rate. Pakistan's savings rate—approximately 12% of GDP—is comparable to that of Sub-Saharan Africa, prompting a search for alternative estimates beyond the SBP's reported 12%. Our findings indicate that savings are significantly higher than the 12% estimate; however, these domestic savings are not utilized for domestic investment due to outflows. This phenomenon can be interpreted as Keynes's revenge. Not only are savings a leakage from the aggregate demand within the domestic economy—consistent with the Keynesian model of the paradox of thrift—but also a leakage out of the domestic economy as outflows. As a result, they are lost to both domestic savings and domestic investment. To address this issue, we propose implementing a market mechanism to reduce these outflows of domestic savings.

Chapter No. 08

Can Online Skilling Programs Foster Employment? Evidence from Punjab
Hamna Ahmed, Zunia Tirmazee and Rebecca Wu

In this study, we evaluate the impact of an online digital skills training program offered by the Punjab Skills Development Fund (PSDF) in collaboration with Coursera, aimed at providing international-standard online learning to its beneficiaries. The analysis focuses on four key questions: (i) How does the online training program impact employment and income generation? (ii) Did the program target vulnerable groups? (iii) Which courses were most effective in improving labor market outcomes? (iv) Should the program be continued in the future? The study combines administrative data from PSDF on 13,493 trainees who enrolled in the program with data from a phone survey of 685 trainees to collect detailed information on post-program outcomes. The findings reveal that transitionto-work rates are 10 percentage points higher amongst trainees who completed the course. Additionally, non-pecuniary benefits are observed, as course completion leads to trainees reporting significantly higher confidence levels and positive changes such as finding new or online jobs, receiving pay raise, completing or starting a degree, and enrolling in other training programs. The top five most effective courses for transition-to-work include Python for Everyone, Financial Accounting, Graphic Design, Developing Android Apps with App Inventor, and Digital Image & Video Processing. A cost-benefit indicates that the program is economically feasible, as average monthly income gains by trainees suggest that the program’s cost per completion can be recovered in less than a year.

Chapter No. 09

Reallocation of Investment from the Public to the Private Sector
Rabia Ikram, Muzzna Maqsood and Moazam Mahmood

Pakistan’s economic growth has experienced a significant decline since the 1990s, with an average GDP growth reduction of 1.84 percentage points, coupled with a 3.11 percentage points decrease in investment growth (Ikram and Mahmood, 2022). A key factor contributing to this downturn is the decline in public investment, particularly in the electricity sector. During the 1990s, structural adjustment policies emphasized privatization, leading to the withdrawal of public investment from the electricity sector.This shift resulted in the establishment of 18 independent power plants (IPPs), based on the premise that private entities would operate more efficiently.
However, this privatization policy, particularly in the energy sector, raises critical questions about its effectiveness in reallocating resources from the public to the private sector. Using comprehensive data from sources such as the Ministry of Energy (MOE),Central Purchase Power Agency (CPPA), State of Industry Reports (SOIR), and Power Statistics, a detailed analysis reveals significant changes in the energy mix. The publicto-private electricity generation ratio shifted from 70:30 to 40:60, while the generationmix transitioned from low-cost hydel to high-cost thermal energy. Consequently, the electricity growth rate halved post- privatization (since 1994), and private sector electricity generation cost nearly doubled those of the public sector by 2023. The growing share of capacity purchase price relative to energy purchase price in total power purchase price implies a potential increase in costs for consumers. These findings challenge the efficiency hypothesis underlying privatization in Pakistan’s energy sector. Policymakers are faced with two potential paths: restructuring the private sector or regaining control over electricity generation to ensure cost-effectiveness and sustainability. Addressing these issues is crucial for revitalizing Pakistan’s energy sector and supporting broader economic recovery.

Chapter No. 10

Pakistan’s “Export or Perish” Challenge – Institutional Dimensions
Jamshed Y. Uppal

The paper analyzes the underlying reasons for the country’s recurrent balance of payment crises using the framework of institutional economics and systems theory. It addresses the institutional challenges in expanding exports in the long term. A systems approach shows how the institutions are embedded in belief systems and mental models (social and cultural values and norms). Some mitigating factors that can weaken the balancing feedback loop are discussed. The analysis indicates that the elites and the belief systems encapsulated in culture and social values play a critical role in institutional change. Therefore, strategies to break out of the vicious cycle, balance of payment crisis-IMF bailouts, need to pivot on these two dimensions. There is a need to develop long-term strategies which would incorporate measures to strengthen economic, political, and social institutions.

Chapter No. 11

Explaining Agricultural Growth in Pakistan
Anum Ellahi

Agriculture sector is the second-largest contributor to Pakistan's GDP, accounting for 24%. This research paper examines agricultural growth in Pakistan from 1990 to 2020. Using the Cobb Douglas production function (Capital and Labor) the paper determines the dominant factors influencing agricultural growth. Agricultural growth has shown consistent growth from 1990 to 2020. The study finds that agriculture credit, fertilizer usage, labor and water availability have a significant and positive impact on agricultural output. These findings are further reinforced by per hectare production analysis, which reveals that agriculture credit per hectare, fertilizer usage per hectare, labor per hectare and water availability per hectare have a positive and statistically significant relationship with agricultural output per hectare. When comparing these results to elasticities, the paper concludes that only agricultural credit and water appear to have a significant and positive relationship with agricultural output.

Chapter No. 12

Poverty Alleviation through Benazir Income Support Programme: An Overview
Ayesha Afzal, Ramsha Noor

TReducing poverty is one of the sustainable development goals of the United Nations (UN).Concerns regarding poverty in Pakistan have intensified following a surge in inflation during the fiscal year 2023-2024, following erratic inflation trends after Covid-19 and the 2022 floods. In this context, the Benazir Income Support Programme (BISP), a large social safety net, has played a significant role in cushioning the economy against poverty. This study analyzes the impact of BISP’s unconditional cash transfer program on poverty alleviation. Literature indicates that these transfers positively affect health, social wellbeing, women empowerment, household wealth and political participation. However, these benefits often diminish time due to several factors discussed herein. A comparison with India’s social safety programs informs recommendations for improvement. This study suggests that BISP could increase its impact by raising stipends and expanding coverage, alongside re-evaluating beneficiary eligibility. Encouraging beneficiaries' participation in formal financial platforms could stimulate savings and broader financial activity.Investments in human capital, particularly through enhanced youth employment programs, could accelerate long-term poverty eradication while BISP is active.