ISLAMABAD   -   Pakistan’s GDP would further plunge to 2.7 percent in next fiscal year (2091-20) mainly due to the tighter monetary and fiscal policies as result of the International Monetary Fund (IMF)’s bailout package, said Fitch Solutions in its latest analysis of Pakistan’s economy. The macro research arm of the global credit ratings agency revised its forecast for Pakistan’s real GDP growth to come in at 3.2 percent in outgoing fiscal year FY18/19 and 2.7 percent in upcoming fiscal year FY19/20 from 4.4 percent in FY18/19 and 4 percent in FY19/20 previously. This is mainly due to the tighter monetary and fiscal policies amid an already subdued economic growth outlook.

Inflation has been on the rise in Pakistan, increasing by 9.1 percent on annual basis in May, compared with 4.2 percent in same period of previous year. Moreover, as part of the deal with the IMF, Pakistan promised to reduce its primary deficit to 0.6 percent of GDP in FY19/20, primarily through tax-based measures including raising the tax rate on sugar from 8 percent to 17 percent and moving cigarette taxes into higher brackets. “Given our expectations for continued upside pressure on consumer prices over the coming months, we believe that the consumers’ purchasing power will continue to fall over the coming months, thereby weighing on consumption. However, we note that some of the effect of price hikes will be partially offset by the government’s populist measures, such as providing electricity subsidies to consumers who use less than 300 units of electricity per month,” the Fitch Solutions noted.

It forecasted government spending (around 12 percent of GDP) to slow in growth to 6.4 percent in FY19/20, down from 14.2 percent in FY17/18, as the country embarks on an austerity drive. IMF bailout packages typically require countries to undergo fiscal consolidation, which usually include austerity measures. While Pakistan and the IMF have agreed on focusing on tax-based measures to manage the fiscal deficit, according to media reports, we believe that the Pakistani government will fall short of its ambitious revenue targets and will likely have to cut spending to meet the primary deficit target of 0.6 percent of GDP, it added.

“We expect to see little improvement in Pakistan’s net exports, which recorded a deficit of around 11% of GDP in FY17/18. Despite the government’s efforts to increase export competitiveness, such as subsidising electricity and gas to the industrial and export sectors, a global slowdown will likely weigh on exports over the coming months. Our view is for global growth to slow from 3.2% in 2018 to 2.9% by 2020, with growth in two of the largest main export destinations, the US and China, slowing to 2.0% and 6.1% respectively by 2020, from 2.9% and 6.6% in 2018,” Fitch Solutions noted.

Moreover, it believed that imports could increase over the coming months acting as a slight drag on growth. Given that Pakistan’s main imports are petroleum and its products (around 28 percent of total imports); rising oil prices will likely weigh on net exports. Our Oil and Gas team forecasts Brent Crude oil prices to average USD70/barrel (bbl) in 2019 and USD76/bbl in 2020, from a year-to-date average of USD66.15/bbl. The impact of rising oil prices on imports will be exacerbated by a weakening currency. Following the agreement with the IMF, the Pakistani rupee has been devalued by more than 10% to around PKR157/USD at the time of writing, from around PKR142/USD before the agreement took place in May.

Fitch solution believed that investment, which accounts for approximately 17 percent of GDP, will slow in growth to 5.1 percent in FY19/20, from 5.7 percent in FY17/18, as tighter monetary policy implemented by the SBP will likely weigh on investment. Since the start of the fiscal year (July 2018), the SBP has increased its policy rate by 575bps, to 12.3 percent in May from 6.5 percent in the beginning of July 2018. Moreover, the government has committed to borrow less from the SBP as part of the IMF deal, which will improve the monetary policy transmission in the country. In addition, business sentiment will likely remain subdued in Pakistan, leading to slower investment growth. Pakistan’s Karachi Stock Exchange-100 Index has already fallen by more than 14% since July 2018, reaching the lowest levels since March 2016, suggesting that investor confidence in the economy has fallen. The large-scale manufacturing (LSM) industries have also been contracting over the past few months, with the quantum index recording a 6.7% y-o-y decline in March. With a slowdown of manufacturing activity, we expect to see a fall in investment appetite related to LSM industries, such as investment in capital.

That said, investment related to the CPEC, a centrepiece of China’s Belt and Road Initiative, will likely provide some support to the economy over the coming quarters. Construction of many key CPEC projects has already started and will stretch over the coming years. In addition, there are more projects in the pipeline that are still at the planning stage but will likely commence soon. We believe that the CPEC will continue to make progress given China’s continued push on project implementation and the improving bilateral relationship between the two countries. Debt concerns, which were one of the major challenges for CPEC projects, also seem to have receded for now. In December 2018, Pakistan’s Ministry of Planning, Development and Reforms and the Chinese embassy in Pakistan released statements to improve transparency of the financials relating to CPEC projects.