Pakistan’s economy is in deep crisis. With repeated IMF support, and ever-increasing loans from its all-weather friends, Pakistan is likely to be able to survive, for now. However, without any significant change in the fundamentals of governance and economic management, there will inevitably be more crises in the future, each more severe than the last

Pakistan’s economy is in deep crisis. Plummeting foreign exchange reserves, mounting burden of external debt and debt servicing obligations, rupee in free fall, rampant price rise of food and fuel items, heavy burden of debt to China for infrastructure projects, political turmoil!

Last year, this was more or less the state of the Sri Lankan economy too, which had been analysed in this publication “Economic and Strategic Dimensions of the Crisis in Sri Lanka,” South Asian Defence Review (DefStrat), Vol 16 Issue 2 May — Jun 2022. That crisis led to mass unrest, breakdown of order, and eventually regime change. Does this mean that Pakistan is also at risk of the kind of dramatic political upheaval seen recently in Sri Lanka?

Let’s look at the facts. Three sets of indicators give a snapshot of the situation.

The first is foreign exchange situation. Like in Sri Lanka last year, and India in 1991, the proximate cause of the crisis in Pakistan is a steep fall in the foreign exchange reserves. The decline has been from $ 20 billion last year to just about $ 3 billion now. This covers barely a month of imports. Media reports quoting State Bank of Pakistan sources estimate Pakistan’s total upcoming external debt repayment obligations falling due over the next one year to be around $ 21 billion! This is indeed a crunch situation, as it raises a serious risk of default on international debt obligations. Default is the hard constraint that must be avoided by a country, as it can lead to cut-off of foreign assistance and total economic disruption.

The second is the runaway price rise. Inflation in Pakistan is at 36%, with food inflation hitting 45%. Agricultural production has suffered from the devastating floods last year. Supply shortages cannot be easily made up through imports. There just isn’t enough foreign exchange available. There are theoretically perhaps simpler and more cost-effective options like importing from India, but these are politically ruled out. Shortages of essentials like wheat flour, medicines, petrol/diesel are leading to rising food and fuel costs. The common man is facing a heavy burden, and consequently public unrest is growing.

The third relevant aspect is financial governance. Domestically, the longstanding problem in Pakistan is that the government just doesn’t raise enough resources to meet its expenses. A policy of low taxes and high subsidies to rich and influential groups have left the government with little room for manoeuvre. The poorer sections of society bear the major brunt of taxation and tend to be most hit by cuts in social sector expenditures. For example, even the funds for making a budget provision in the current financial year for an 11% increase in defence expenditure (deemed to be of high priority) could only be found by matching cuts in sectors like health and education!

Over and above all these structural imbalances is the China factor. Pakistan is even more reliant on Chinese loans as compared to Sri Lanka, with debt to China forming as much as 27% of its total external debt, compared to about 10% in the case of Sri Lanka. However, so far it has fortunately not had to hand over assets to China in repayment of debt.

All these are signs of a worsening economic crisis that can potentially cause deeper distress to the people of Pakistan and disturb the social fabric. However, the Pakistan economy has been in dire situations before. It has muddled along nevertheless, with a little help from its friends.

Three of these friends stand out. They are – the U.S. (and the multilateral financial institutions dominated by it), China and Saudi Arabia.

The role of the International Monetary Fund (IMF) is to be the world’s central banker and provide temporary financial support to countries for tiding over foreign exchange crises. In the past, whenever Pakistan has had repayment problems or started running out of foreign exchange, it has turned for support to the IMF/World Bank. Notably, IMF lending usually comes along with advice to the borrowing country to put in place corrective reforms so that such crises do not recur.

In the last thirty years, Pakistan has received IMF support 22 times. Each time, reforms such as reducing subsidies, raising taxes, bringing about discipline in expenditures have been agreed to as part of the IMF programmes to sustainably overcome the crises. Most of these programmes have not been completed. Consequently, Pakistan has had to keep going back for more money. The U.S. and Western countries that dominate decision-making in IMF have tended to be relatively indulgent.

Currently, the IMF has in place a $ 6.5 billion Extended Fund Facility (EFF) commitment agreed upon in 2019. However, due to non-fulfilment of the previously agreed upon conditions, IMF has taken a tougher stand this time and not yet released the $ 1.1 billion tranche from the EFF that were due last November. It is insisting on the necessary reforms to be undertaken first.

Negotiations are underway. The Prime Minister recently described the IMF conditions as “beyond imagination” (these conditions include unthinkable steps like raising taxes on the better-off to raise resources equitably, and decontrolling the exchange rate of the rupee to discourage imports and boost exports)! Nevertheless, Pakistan will have to fall in line because, regardless of the amount, IMF support is essential for restoring the confidence of the international community, and thereby access to further financing. It is so important that, unusually, the Pakistan army chief reportedly made a direct appeal to the deputy secretary of state of the U.S. Government a few months back for help get the IMF loan tranche expedited!

China has been more generous with Pakistan than with Sri Lanka in similar circumstances last year. Notably, no additional funding was offered by China to Sri Lanka to tide over their crisis, despite their request. It was India’s timely and generous assistance that helped stabilize the situation there.

In the case of Pakistan, China rolled over $ 4.2 billion debt repayments in March 2022, and provided an additional loan to Pakistan of $ 2.5 billion in June. Of course, this assistance comes with much stiffer terms and shorter repayment periods compared to IMF/World Bank funding. Subsequently, following his visit to China in November, Pakistan’s Prime Minister claimed that an additional support of $ 9 billion had been assured.

Another rich friend that Pakistan is relying upon is Saudi Arabia. Pakistan recently secured commitments of $ 4 billion from Saudi Arabia and UAE including a line of credit for importing oil. Saudi Arabia is reported to be contemplating further loans and investments of $ 11 billion over the course of the year. If it materializes, it could well be a lifeline for Pakistan.

So, is Pakistan likely to go the Sri Lanka way? Probably not this time. With repeated IMF support, and ever-increasing loans from its all-weather friends, Pakistan is likely to be able to survive, for now.

In every crisis, there are opportunities. Sri Lanka was able to stabilize by willy-nilly bringing about political change, economic reforms and strategic shifts. In the case of Pakistan, the reform opportunity is unlikely to be grasped. The governance structures have evolved in such a skewed manner that real power is neither accountable nor responsible for the well-being of the people, and popular discontent is not of the order that can affect these structures. Accordingly, there is no sign of any change in these structures in the near future.

However, without any significant change in the fundamentals of governance and economic management, there will inevitably be more crises in the future, each more severe than the last. Lenders may come to the rescue again, but will increasingly dictate terms. At some point the situation may become unsustainable, friends notwithstanding. In the absence of corrective steps, Pakistan faces more turbulence and possibly future economic bondage. Whether this will eventually lead to reforms and stability, or chaos and instability, is anyone’s guess.