Teresita C.

Schaffer

Senior Advisor, McLarty Associates

Former U.S. Ambassador to Sri Lanka; Former Deputy Assistant Secretary of State for
South Asian Affairs

Pakistan’s Broken Economy

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March 23, 2011

By Teresita C. Schaffer

Pakistan-watchers tend to focus on political and security issues. But they need to start
thinking as well about the economy, the outlook for which is grim over the next several
years. Some of Pakistan’s problems were spawned by the epic floods of the summer of
2010, but most have resulted from the long-standing failure of the Pakistani government
to invest in its people, or from more mundane mismanagement of vital sectors, such as
energy. Pakistan’s economic problems will weigh especially on the urban population,
adding to the country’s political woes. It is the impact on the towns and cities – 36
percent of Pakistan’s people, but growing at 3.5 percent a year, three times the rate of the
rural areas – that presents the most acute political danger.

Pakistan’s economy grew strongly between 2003 and 2007, with GDP rising between 5.8
percent or more, and reaching 9 percent in 2005. Since then, it has limped along, down to
1.2 percent in 2009 and an estimated 4.1 percent in 2010. Agriculture has had lackluster
growth during most of this time, but has kept pace with the growth in rural population.
Industrial growth, on the other hand, has lagged behind the growth of cities. These
changes along with other factors have set up the squeeze Pakistan is now feeling.

Pakistan’s Finance Ministry estimates that the country’s energy shortfall cost the country
2 percentage points in GDP growth in the past fiscal year. Electricity outages, 8-12 hours
a day in many places, especially urban centers, are infuriating for Pakistanis. When one
adds kerosene shortages, it means that people are often without heat or cooking fuel in
the coldest season. Much of the problem is the result of price controls, which leave
energy providers chronically short of funds as their consumers delay paying bills that in
any case are insufficient to cover costs – the “circular debt problem” one reads about in
economic analyses of Pakistan. Combine this with a weak government, stagnant
generating capacity, and rising international prices, and you have the makings of a
disaster.

Power disruptions are crippling small businesses that are the lifeblood of Pakistan’s
middle-sized towns and smaller cities. Some larger and better funded companies can
partly compensate by buying diesel and gas generators, so they can switch their power
supplies to avoid the different potential shortages. Others adjust their work flow so that
jobs that need power get done whenever the power happens to be available. But others
don’t make it. This situation is a job killer, in a country that has been losing the race
between population growth and jobs.

Moreover, the energy crisis is becoming more acute. International oil prices have crossed
$100 per barrel again. The government backed out of an energy price increase in 2010
when a party threatened to pull out of the coalition in protest. In late February 2011,
desperate to prevent a cash flow crisis, it once again announced a 9 percent price hike;
truckers in Karachi, Pakistan’s economic heartland, threatened a strike.

Additionally, Pakistan’s balance of payments is under pressure, despite booming

remittances that totaled $7.3 billion in the first ten months of the fiscal year, representing
Pakistan’s largest foreign exchange source. Imports are close to double the value of
exports. Pakistan obtained an IMF program in late 2008 to survive that year’s balance of
payments crisis. The program was suspended and the two final tranches of funding were
not disbursed, because of the energy price issue referred to above. The government
backed down and sacrificed IMF funding rather than lose its majority in parliament. It is
now negotiating to reinstate the program, but the problem will not go away.

Pakistan also has a huge burden of internally displaced people; while most of the flood
victims have returned to their home areas, people displaced by internal insurgency are
still without productive employment, and many are likely to find their way into cities.

It’s not all bad news. Last year, agriculture, which employs some 60 percent of the
population, grew 2 percent (this and the other figures for prior years come from the
Finance Ministry’s Pakistan Economic Survey for 2010). But this year, while flood
damage will retard planting in some parts of the country, disrupt irrigation, and lower
crop production, elsewhere expectations are high for a good wheat crop, demonstrating
the truth of the saying that in South Asia too much water can be better than too little.
High international food prices will also be helpful for farmers, but will exacerbate urban-
rural tensions. Rising food prices may help farmers, but consumers in Pakistan’s towns
and cities are reeling from 14 percent food inflation.

Read the full version of this piece, which originally appeared on Foreign Policy‘s AfPak
Channel on March 15.

Asia Foundation trustee Teresita C. Schaffer is former U.S. Ambassador to Sri Lanka
and former deputy assistant secretary of state for South Asian affairs. The views
expressed in this article are her own. Her book “How Pakistan Negotiates with the
United States: Riding the Roller Coaster,” co-authored with Ambassador Howard B.
Schaffer, will be published in April.