0 PRESENTATION ON Debt, Growth and Poverty Reduction: A Case of Pakistan By Dr. Ashfaque H. Khan Principal & Dean School of Social Sciences & Humanities (S 3 H) National University of Sciences & Technology, Islamabad Oct 12, 2013 At:Centre for Policy Studies (CPS), CIIT COMSATS, Islamabad

1  Economic growth is the single most important factor influencing poverty  A stable macroeconomic environment is essential for a sustained high economic growth  Empirical evidence suggests that macroeconomics instability has generally been associated with poor growth performance and the associated rise in poverty  The persistence of large fiscal and current account deficits and the attendant rise in public and external debt have been the major source of microeconomic instability in many developing countries.

2 Summary Persistence of Large Fiscal and CAD Rise in Public and External Debt Major Source of Macro Instability Poor Growth Performance Rise in Poverty

3  Existing Empirical Evidence  Rising public debt and economic growth exhibit negative relationship  Reinhart and Rogoff (2012) found weak relationship between government debt and long term economic growth under 90% of debt/GDP ratio. Negative relationship becomes stronger beyond 90% of debt/GDP ratio.  Balassone et al. (2011) found a negative and non-linear relationship between public debt and growth, with growth declining substantially when the debt to GDP ratio exceeds 100 percent.

4  Summary  Overwhelming empirical evidence suggests four things ­ Relationship between public debt and economic growth is negative ­ Relationship is non-linear ­ There exists bi-directional causality between these two variables ­ Higher public debt affects growth negatively through investment

5 IS DEBT CREATION BAD FOR THE ECONOMY?  Borrowing domestically or abroad is a normal part of economic activity.  As long as the borrowers can earn a higher economic/social rate of return than the cost of invested funds, creation of debt is not a burden.  Debt-servicing problems arise when the debt carrying capacity of the country does not increase commensurate with the increase in its debt servicing liabilities. (The debt carrying capacity is defined as the ability of a country to service its external liabilities within an orderly and stable macroeconomic framework) (Continue…)

6 IS DEBT CREATION BAD FOR THE ECONOMY?  Short-term borrowing for longer-term projects can lead to serious cash flow problems.  Countries most often run into difficulties because the borrowed funds are directed toward wasteful or low economic return projects.

7 Pakistan sustained a very large budget deficit in the 1990s and During Overall fiscal deficit (% of GDP) Source: Ministry of Finance * Including earthquake related expenditure

8 Current Account Deficit remained high in the 1990s despite low economic growth. Current Account Deficit widened recently on account of strong economic activity and rising oil and commodity prices. The same has improved in on account of collapse in oil and commodity prices. Current Account Deficit (% of GDP) Source: SBP

9 TRENDS IN PUBLIC DEBT (Rs. Billion) a) Debt Payable (Rs) Debt payable ($) Exc. Rate (E.O.P) b) Foreign Debt (Rs) c) Total Debt (a + b) GDP (mp) Total Revenue Total Debt as % of: - GDP Revenue Total stock of public debt in 60 years ( ) stood at Rs billion but we added Rs billion in just six years ( ) Source: Ministry of Finance

10 TRENDS IN EXTERNAL DEBT AND LIABILITIES External Debt and Foreign Exchange Liabilities (Billion $) We added $1.6 billion in external debt in 8 years ( ) but added $19.6 billion in just 4 years ( ) Source: Ministry of Finance

11 MACROECONOMIC CONSEQUENCES OF UNSUSTAINABLE DEBT OF UNSUSTAINABLE DEBT

12  Serious threat to development  Major source of Macroeconomic instability  Lower Economic Growth  Rise in Unemployment  Rise In Poverty  Raises the Risks of a Fiscal Crises  Keeps Borrowing Cost High  Discourages Private Sector Investment  Major source of discouragement for foreign investment  Keeps pressure on exchange rate  Major constraints for the government to undertake counter cyclical policies to revive economic growth WHY SHOULD WE WORRY ABOUT RISING DEBT BURDEN

13 LOSS OF FINANCIAL SOVEREIGNITY  Pakistan became the prolonged user of IMF resources.  Economic Policy making circles around IMF/IFIs Programs.  Influence of IMF and IFIs in policy making increase substantially.  We went to the IMF in November 2008; IMF Program remained suspended since May 2010 and until the completion of the program in September  Pakistan Entered in a new program with the IMF in early Sep 2013

14 Barring two years the real GDP grew at an average rate of 3.8% p.a in the 1990s Source: Various Issues of Economic Survey Growth recovered during to an average of 6.8% p.a.

15 Significant Reduction in Unemployment Unemployment declined … 13.5 million jobs created in seven years Source: Economic Survey Source: Labour Force Survey, FBS Labour Force Survey Employment (in millions) Number of New Employment (in millions) FY FY FY FY FY FY FY FY FY FY We need to create million jobs per year in the next 10 years for new entrants

16 Percent of people living below the poverty line reduced Area Overall Rural Urban Source: Center for Research on Poverty Reduction and Income Distribution (CRPRID)

17 Percent of people living below the poverty line reduced

18 Progress is reflected in the ratings momentum on Pakistan Moody’s S&P B+ B- CC CCC CCC- SD B- B Outlook: stable Outlook: Negative B+ B2 B3 Caa1 B3 B2 Aug, B1 CCC CCC+ B B2 B3 B-

19 Ratings Scale STANDARD &POOR’S Moody’s Investors Services Investment grade Non Investment grade Aaa Aa1 Aa2 Aa3 A1 A2 A3 Baa1 Baa2 Baa3 ( Long-Term ) AAA AA+ AA AA- A+ A A- BBB+ BBB BBB- Ba1 Ba2 Ba3 B1 B2 B3 Caa1 Caa2 Caa3 Ca BB+ BB BB- B+ B B- CCC+ CCC CCC- Pakistan’s Ratings in 2007 Current Ratings

20  What Needs to be Done? –Newly Elected Government must bring a strong economic team –Political Leadership must provide full support to the team –No Room for Business-as-usual Policy –Extraordinary situation Demand Extraordinary Measures –Financial Discipline is the key to success –Strike a balance between stabilization and Growth

21  Undertake wide-ranging structural reforms –Taxation side –Expenditure side –Accelerating Privatization –Power Sector Reform –Circular Debt Issues –Correcting the Manufacturing defects of the NFC –Strengthening of Infrastructure –Strong Linkages with Private Sector  Challenging Time Ahead but Surmountable

22 THANK YOU