KAMRAN, A TAILOR in Rawalpindi, is enjoying a little boom. He and his staff—two men perched on a platform above the counter in his tiny shop—have increased production fivefold this year, to five or six suits a day. They charge 300 rupees (about $3.30) each, with the customers supplying the material. The secret of their success is simple. They have access to credit, in the form of a 15,000-rupee loan from Tameer Bank, a microcredit lender, and, thanks to that, to a reliable supply of electricity. They have invested the money in a battery that enables them to keep sewing through the power cuts that bedevil Rawalpindi, and indeed most of Pakistan, for much of the day and night.
Multiply Kamran’s experience across the Pakistani economy, and the common estimate that power cuts knock about three percentage points off the growth rate seems extremely conservative. To make matters worse, natural gas, widely used for heating and cooking and to fuel buses and cars, has been in short supply. The shortages have become a serious deterrent to investment and a big cause of social unrest.
Neither gas nor generating capacity need be in such acutely short supply. The power cuts are largely the result of bad policy and mismanagement. What started as a financial problem is now crippling the real economy. The electricity industry is beset by “circular” debts. Fuel suppliers are owed money by generators who are owed money by distributors who cannot get consumers to pay. At the end of November last year unpaid electricity bills reached 326 billion rupees. Among the big defaulters were the railways, the prime minister’s secretariat, the army and the ISI.
A lot of the electricity used is never billed in the first place. Estimates of “transmission and distribution” losses—in large measure a euphemism for theft—vary from 11% to 37% of total supply, according to the central bank, the State Bank of Pakistan (SBP). About two-thirds of generation comes from inefficient, high-cost oil-fired plants. Generating costs have doubled in the past two years. In the long run much hope is invested in the planned Diamer Bhasha dam and hydropower plant in the north of Pakistan-held Kashmir, backed by the Asian Development Bank (ADB). But it will be hugely expensive, at an estimated $12 billion, and worries some observers because of the risk of earthquakes. And it is opposed by India (because of where it is).
For Mr Umar, the solution to both the gas and electricity crises are obvious: deregulate and finish privatising the energy market. He points out that there is never a shortage of phosphate-based fertiliser because it is in the private sector, with prices set by the market. He also cites two examples of privatisation working in Pakistan: telecommunications, where the cost of a call from Karachi to Lahore is now 5% of what it used to be; and banking, where some 85% of assets are now held in private banks, compared with only 10% in 1990.
It is true that the government’s performance in running businesses is poor. Government-owned companies are piling up losses of about 600 billion rupees a year. Besides the state-owned electricity distributors, the railways, the national airline and a steel company are all bleeding cash. Most are seen as corrupt. The chief justice, Iftikhar Chaudhry, started an investigation into the non-payment of salaries and pensions by Pakistan Railways. He asked why it was so interested in buying new locomotives, and why it had retired 104 out of the 204 it had acquired since 2008. The implication was that the purchase of new rolling stock brought lavish commissions.
Can lend, won’t lend
Not everyone agrees with Mr Umar that the privatisation of the banks has been a success. Most of the big ones are indeed doing very well. But they are doing so by indulging in what Rakesh Mohan, a former deputy governor of India’s central bank, dubbed “lazy banking”: simply investing their deposits in government bonds. Mian Mohammad Mansha, chairman of MCB, a large and highly profitable commercial bank, says it is lending less than half its deposits. Most of its assets are in treasuries, which he understandably sees as a better investment than loans to state-owned companies. For small businesses—which means 70% of Pakistan’s firms—credit is hard to come by.
So Kamran the tailor is lucky to have made contact with Tameer, which is backed by Britain’s aid agency, DFID. With the formal banking sector doing well by lending to the government and big companies, small business is neglected. The economy does not collapse, says Werner Liepach of the ADB, because so much activity is shifting into the informal sector. Moneylenders—usurers—are having a field day. According to Yaseen Anwar, the governor of the SBP, 56% of Pakistan’s adult population have no access at all to financial services, with a further 32% served only informally—among the lowest levels of financial penetration in the world.
There is a crying need for microfinance, and not just for its traditional purpose of providing seed money for the poor starting their first, tiny business but as working capital for small firms. Just over the road from Kamran, Tahir Mahmud has borrowed 30,000 rupees, like Kamran at an annual interest rate of 20%, to expand his thriving business of designing and decorating customised motorcycle petrol tanks. But so far the number of active microfinance borrowers stands at just 2m or so.
What enables banks to be lazy is the government’s appetite for borrowing. Its deficit in the fiscal year that ended in June 2011 was 6.6% of GDP, if electricity subsidies are included. The budget for the current fiscal year sets a target of a deficit of 4%, but that is likely to be missed by a wide margin for the third year running. The target had been agreed with the IMF, which in November 2008 approved a standby arrangement of $11.3 billion for Pakistan. The arrangement was put on hold in May 2010, by when $7.6 billion had been disbursed, and terminated in September 2011.
The IMF withdrew because the government failed to meet its fiscal targets. In particular, it needs to raise taxes. Government tax revenues as a proportion of GDP are about 10%, among the lowest in the world. In 2010 and 2011 floods hindered efforts to raise more taxes, but the fundamental problem is political. No democracy finds it easy to raise taxes, and in Pakistan that difficulty is compounded by the main parties’ perception of their support bases. The PML(N) does not want to alienate business, which opposes indirect taxes, and the PPP rejects land or other taxes that would hurt its landowner friends.
So the government does not have much to spend and, as the SBP noted in its annual report, risks being caught in a debt trap because it is borrowing for recurrent as well as capital spending. Spending on health, welfare and education is further constrained by a big outlay on defence, which accounts for nearly 20% of the 2011-12 budget expenditure, compared with less than 8% for education.
Some analysts worry that the fiscal deficit is about to take a dire toll on Pakistan’s external accounts. This month the first repayment to the IMF, of $1.2 billion, falls due. Fears that this is going to precipitate a crisis seem overblown. But Pakistan’s current account—in a small surplus last year—is likely to tilt into deficit. The healthy flow of repatriated income from overseas workers may be reduced by the deterioration in the world economy and by Saudi Arabia’s plan, if implemented, to cap remittances.
Exports did surprisingly well in 2010, despite the floods, thanks in large measure to a rise in the price of cotton. That trend has reversed, and with the power shortages plaguing the textile industry, and falling global demand, exports are unlikely to maintain their growth. It is possible that Pakistan, which has foreign-exchange reserves to cover four to five months of imports, will run into balance-of-payment difficulties in the next couple of years.
GDP growth may pick up slightly from the 2.4% seen in 2010-11, but will remain far below that achieved by Pakistan’s neighbours, and well below the 7% per year that Pakistan’s Planning Commission says is necessary to absorb a bulge in the working-age population. In 1971, when East Pakistan seceded to form Bangladesh, its population, of about 70m, was 9m-10m bigger than Pakistan’s. Now Bangladesh has about 156m people and Pakistan somewhere between 180m and 200m. Its population is growing at nearly 2% a year, and is expected to reach 350m by 2050. Family planning has never been a government priority. The number of children per woman is falling, from 6.1 in 1990 to 3.9 now, but is still the highest in continental Asia outside Afghanistan.
In an enlightened “Framework for Economic Growth”, published last year, the commission sought to pinpoint the reason for Pakistan’s persistent failure to grow fast. The problem, it concluded, was not the “hardware”—Pakistan’s infrastructure, though deficient, was no worse than India’s, for example—but the “software”. Markets were not well developed because of lack of competition, policy distortions, entry barriers and poor regulation. And efficient public-sector management was lacking, meaning that “security of life, property, transaction and contract” cannot be guaranteed.