Economy’s black hole
WHEN debt is accrued, out of a desire for a stable exchange rate, it forms a ‘black hole’ in the economy. Foreign debt may solve the problem of balance-of-payments and result in a stable exchange rate in the short run, but it can also trigger the ‘debt stealer trap’, which sucks resources without building productive capacity.
Debt is not a bad instrument especially when modern economics is governed by the rules of trust and credit. An economy can accumulate debt but the rate of increase in debt stock should not exceed the capacity to repay. For sustainable debt, the primary balance must be in surplus and growth in real income should be higher than the increase in debt stock.
Our current imports stand at $53.2 billion, while exports totalled nearly $31.1bn in 2023-24. We need $22.1bn merely to balance our trade. Our imports comprised less elastic consumer goods or essential inputs such as crude oil, edible oil, medicines, paper and steel. In a case such as this, controlling imports shrinks the economy and reduces consumer welfare.
Let us consider the latest data released by the Ministry of Finance on Sept 30, 2024. Our imports were recorded at $9.53bn, while exports totalled approximately $4.86bn for July-August 2025. Remittances stood at $5.94bn, helping the country to have a current account surplus after many years. Dependence on remittances without fuelling domestic productive capacity and skills is again not sustainable. We can have a stable exchange rate in the long run only by increasing exports and remittances simultaneously.
Fortunately, at the moment Pakistan has a stable exchange rate and a declining inflation and interest rate, while the current account is in surplus after a long period of volatile financial indicators. It is a rare combination in our economic history. It reminds us of the halcyon days of 2005-06, but even at that time there was a current account deficit issue. In those days, we undertook some liberalisation reforms and drastically reduced tariff rates. For many, it was just like opening the floodgates of the economy, which doubled our imports.
Recently, the DG Debt (Finance Division), explained the necessity of managing the exchange rate risk to the National Assembly Standing Committee on Finance. The committee was informed that Pakistan needs $18.8bn excluding a debt rollover. It was also said that Pakistan has to repay a cumulative amount of $100bn over the next four years.
Increasing exports and remittances is required for a stable exchange rate.
Currently, Pakistan’s external debt and liabilities are at a modest level. Pakistan’s external debt stock was at 43 per cent in June 2023. It declined to 34pc in June 2024. According to the first quarterly report of the Economic Affairs Division “64pc of the total external public debt is concessional with extended maturities”.
Broadly speaking, Pakistan requires an additional $25bn from exports (7pc annual growth rate in real GDP) to repay our external debt obligations. To meet the challenge, we need to earn an additional $2.08bn every month or borrow the same amount.
Securing debt from donors and development partners is also becoming difficult. They ask for certain actions to be taken before issuing new debt. For the $7bn IMF programme, the $2bn financing gap condition was met by borrowing at commercial rates. This type of commercial borrowing will considerably reduce the average time of maturity of our debt, which is six months for domestic debt and almost 2.5 years for external debt. Without debt restructuring, a stabilised exchange rate will not work for long.
There is another dimension — declining interest rates and inflation can potentially trigger recession, particularly when businesses anticipate lower long-term interest rates, leading to decreased investment and growth. Furthermore, our banking sector growth heavily depends on lending to the government by investing in T-bills. Reducing interest rates may hamper the growth of our banks and saving rates in the near future.
It is observed that exchange rate stability will reduce the imports bill and external debt burden. Without increasing exports earnings, the exchange rate stability will continue to depend heavily on foreign debt, loan rollovers and commercial domestic debt instruments. The more we desire a stable nominal exchange rate the more we have to borrow. This is simple arithmetic. We have managed the immediate default and exchange rate risks. However, stability that is reliant on debt financing is always transitory and increases speculation and uncertainty about the future. In nutshell, the economy means growth for businesses and opportunities, which we have to earn instead of resorting to borrow.
The writer is director, Centre for Aerospace and Security Studies, Lahore.
Published in Dawn, October 22th, 2024