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Pakistan: Badly in need of foreign assistance

Mon, Oct 13 2008, 13:12 GMT
by Flemming J. Nielsen

Danske Bank A/S

The Pakistani economy has deteriorated sharply since late 2007 on the back of a poisonous cocktail of higher energy and food prices and political uncertainty. The current account deficit is approaching 10% of GDP and because of exploding expenditure on food and energy subsidies, the government budget deficit will most likely exceed 6% of GDP in 2008. Political uncertainty and a weak government have prevented the necessary adjustment in economic policy, thus contributing to the recent deterioration in the economy.

The official FX reserves have more than halved since late 2007, and we estimate that the real FX reserves currently amount to less than USD 5bn. This is dangerously low in light of the monthly trade deficit currently being close to USD 2bn and the need to repay close to USD 1bn of foreign debt in early 2009. The risk of Pakistan defaulting on its foreign debt payments can no longer be ignored.

Pakistan will need foreign assistance to avoid a default in its foreign debt and a sharp slow down in the economy. Because of Pakistan’s importance in the war on terror, foreign assistance will probably be available. We see two possible solutions. First, Pakistan can ask the IMF for assistance. Access to IMF liquidity will most likely be conditional on some tightening of fiscal policy and include some restructuring on foreign debt payments. Second. Pakistan can be “bailed out” by Saudia Arabia and other Middle Eastern countries. This will probably include deferred payments for crude oil imports and some commitments on direct foreign investments in Pakistan.

More political stability is a necessary condition for a sustainable development in Pakistan. This includes the formation of a majority government able to implement necessary adjustments in economic policy. Though Muslim fundamentalism might continue to be a destabilising force as a political force, it is becoming increasingly marginalised.

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Published on  Mon, Oct 13 2008, 13:15 GMT