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One way to bridge the widening trade deficit

IN a bid to retard imports in the face of a gaping external account, the government has recently levied regulatory duty on import of around 300 `nonessential` items mainly vehicles, tyres, footwear, cosmetics, nuts and fruits in addition to 430 items already subject to regulatory duty.

The first four months of the current financial year have added $9.2 billion on the FY2017 deficit of $32.6bn. Though the external account imbalance has been endemic to Pakistan`s economy, the spike during the last three years is unprecedented and startling.

The deficit had remained around 80 per cent of exports till 2013-14 but has gradually climbed to 94pc, 115pc and 159pc during the last three years. A candid analysis ofthe structure of imports and exports is required to understand the causes of the widening chasm in the external account.

Imports had remained stable at around $45-46bn from FY2012 to FY2016, but swelled in FY2017 by $8.3bn, out of which the increase in import of machinery, petroleum and food products has jointly contributed $6.5bn.

The major contributors to the import surge are (a) the investment-driven import of machinery, industrial raw materials and intermediate goods, (b) 12pc additional consumption of petroleum products due to 19pc price decline, (c) 13pc increase in import value of palm oil due to 17pc hike in price, and (d) increase in import of pulses and cotton by 60pc and 7pcrespectively owing to shortfall in domestic production.

Unlike imports which have surged mainly during the last year, the erosion in exports has taken place during the last three years due to multiple challenges. Firstly, the 19pc decline in Pakistan`s exports since FY2014 has coincided with 16pc contraction of the global market from $19 trillion in 2014 to $15.9tr in 2016.

Secondly, the annual production deficit of nearly 5 million bales of cotton has compounded the impact of global price crunch of major export commodities cotton (18pc), non-basmati rice (17pc), basmati rice (42pc) and leather (30pc).

Thirdly, the 20pc overvaluation of Pakistani currency (according to IMF estimates) has been effectively tax-ing exports and subsidising imports by the same percentage points.

During the last three years, there have been `competitive devaluations` by all major competitors; swimming against the tide, the Pakistani Rupee has appreciated.

Fourthly, the competitiveness of the Pakistani export sector has gradually eroded due to high energy costs, ever-increasing wages, increasing import tariffs on critical inputs and liquidity crunch due to held-up refunds.

Besides the short-term competitiveness crisis, the export sector has chronic structural ailments narrow export basket with excessive reliance on textiles, lack of product sophistication, outdated technologies and lack of research and development, low labour productivity, management inefficiencies, rent-seeking entrepreneurial culture and fragmented economic policy framework with an anti-export bias.

A closer look at the import profile reveals that there is not much space available to restrict imports. More than 85pc of imports are non-manoeuvrable.

The imports of $12bn machinery and $16bn industrial and agricultural inputs are `productive` imports required for economic development; any quantitative or tariff restrictions on $11bn petroleum impor1s would affect the entire economy`s competitiveness; around $6bn imports of food items e.g. palm oil and pulses, though outrageous for an agrarian country, are essential food products.

The import value of the 300 nonessential import items subjected to additional regulatory duty last month is only $2.7bn. Even if it is optimistically assumed that the new tariff barriers will succeed in reducing the imports of these items by 50pc, the total saving in import bill will be a meagre 2pc of the annual trade deficit.

With limited space of restraining imports, the only viable strategy to arrest the trade deficit is to boost exports. The gap of $4.8bn between the peak export performance in FY2014 and the current export levels demonstrates that surplus production capacities to fill this gap exist in the country, should the exports become competitive.

To increase the competitiveness of the export sector in the short term, the Prime Minister`s Incentive Package, which has been successful in stemming the decline in exports during thelast nine months, has been made available with relaxed conditions till 30th June 2018. The cash handouts, however, are neither a lasting solution nor an alternative to the intrinsic competitiveness of the export sector.

Competitiveness can be restored through (a) gradual rationalisation of value of currency, (b) reduction in energy tariff for the industrial sector to make it comparable with the regional competitors like Bangladesh and India, (c) redirection to export sector, the subsidised natural gas being currently provided to the fertiliser sector for producing surplus urea for export, (d) withdrawal of import tariffs on the major inputs of top-200 export products (which constitute 80pc of Pakistan`s exports), and (e) the immediate release of sales tax refunds at the time of realisation of export proceeds.

The long-term growth of the export sector, however, depends on structurally transforming the export architecture gradual replacement of sunset sectors with sunrise sectors like engineering, ICT and pharmaceuticals, integration into global value chains, market diversification, product sophistication, standardisation, value addition and branding.

Structural reforms have traditionally faced twofold challenge lukewarm support from policy makers due to long gestation period and dogged resistance from the vested interests of the incumbent sectors which the reforms seek to supplant with futuristic ones.

Structural transformation of the export sector is unavoidable to plug the unsustainable trade deficit. The earlier we reform, the lesser we bleed. • -The writer is Director General, Ministry of Commerce