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Energy prices: industry begins to buckle?

by Gohar Ejaz

Dr Gohar Ejaz
The World Bank’s latest Pakistan Development Update released in October 2022 highlights the rapid rise in inflation in Pakistan over the past year, and aptly identifies its key drivers:

* External factors, including rising global food and energy prices
* Domestic economic conditions and policy settings, including a weaker Rupee and an overheating economy
* More recently, the floods with agricultural losses and disruptions of supply chains

This unprecedented inflation has disproportionately affected the poor, given their declining real incomes and their inability to meet even basic household expenditures. Energy and food have become unaffordable, and acknowledgement of the human element is essential to recognize how immediate and dire the need for economic revival has become.

Pakistan has historically sought loans to achieve economic stability. These loans come with conditions that tend to restrict growth and affect the poor disproportionately. Meanwhile, the export-oriented industry is neglected, despite having the potential to steer sustainable economic growth as long as it is provided with basic policy support. The high priced energy for industry is a particular case in point. The country has historically suffered from some of the highest energy tariffs in South Asia. These tariffs have not only served as a means to transfer the costs of inefficiency to consumers and industries without considering affordability, but have also given way to premature deindustrialization. Meanwhile, the current stock of circular debt hovers around Rs 2.5 trillion ($11.4 billion) while in the gas sector an additional Rs 1 trillion ($4.6 billion) has accumulated – an alarming figure, which has gradually built up as a result of the poor planning that has characterized Pakistan’s energy sector over the years.

The situation is exacerbated by the misinformed and regressive policy of maintaining a high interest rate to counter inflation. Exporters’ working capital requirements have increased immensely and the requisite finance is not available, and when available it is extremely costly given the unreasonably high interest rates which no industry can afford. Without the operation of textile exporters, there will be no means of meeting the country’s forex requirements or balancing the current account.

A strong export base serves as the baseline to strengthen the economy without reliance on any external force such as foreign aid. In Pakistan’s context, the textile sector provides a reliable pathway to counter the debt that has accumulated from back-to-back loans and relief packages. Earnings through enhanced exports serve as a valuable inflow to the economy, and can pull Pakistan out of its current account deficit and economic stagnation. The expansion and development of exporting industries not only reduces unemployment in the long term but is the only sustainable way out of Pakistan’s debt trap.

For sustainable business activity, there is a need for upgraded infrastructure, a strong workforce, legal and governance support. The supply of regionally competitive energy has been emphasized time and again but the lack of policy continuity in the country results in an unstable environment for businesses to thrive. This brings us to a notable difference between rapidly developing economies and those where growth is stagnant: those which prioritize growth set aside sums of public money and ensure policy continuity to support industries, particularly LSM and exporters. Pakistan has consistently failed in this regard.

Meanwhile, imports have been allowed to run amok. Non-essential goods imports must be discontinued, especially where substitutes are made in Pakistan. Pakistan is a strong producer of both wheat and raw cotton so their imports should be cut down drastically while strengthening domestic production.

In Pakistan’s context, the textile sector provides a reliable pathway to counter the debt that has accumulated because of consecutive loans. The most effective mechanisms to sustain export-led growth include product and market diversification, improvements in quality, and integration into global value chains. The government support is naturally an essential component in ensuring these policies are implemented and institutionalized, leading to a successful economic future for Pakistan.

Rising food and energy prices decrease the real purchasing power of households, disproportionally affecting poor and vulnerable households that spend a larger share of their budget on these items. Meanwhile, excess government borrowing from the financial sector crowds out the supply of credit to the private sector and deepens the sovereign-bank nexus.

Resolving these constraints in the medium to long term requires concerted efforts by the government, regulators, and other stakeholders, and the most sustainable way to counteract them is by building Pakistan’s export-culture. Export enhancement has proven time and again to be the only effective economic solution, as exhibited by the ability of the textile sector to achieve record numbers despite the constraints and lack of an export culture in Pakistan.

Job creation is another crucial metric for an economy in the growth stage, as yearly increases in unemployment must be catered to. The private sector provides us with a viable means to achieve this, as export-oriented sectors are highly labour intensive. The textile sector creates jobs in every tier of the economy, as different skills are required at each stage, be it cotton picking, ginning, stitching, designing, innovating or strategic planning. The expansion and development of exporting industries thereby reduces unemployment in addition to being essential for a healthy Balance of Payments.

In the longer term, policy that prioritizes an export culture in Pakistan, specifically supporting industrial growth and productivity, can help to substantially boost the economy. Supporting the growth of large scale manufacturing industries, especially textiles, where there is evidence of a comparative advantage for Pakistan, would therefore be critical moving forward. Value addition, competitive inputs and trade competitiveness can effectively result in sustainable economic growth; as unlike aid, these measures are free of any liability. Earnings through enhanced exports can pull Pakistan out of its current account deficit and economic stagnation. The government needs to work in tandem with major exporters to incentivize diversification, while removing institutional roadblocks and barriers to growth that have held the exporting sectors back from realizing maximum potential. Policy continuity is crucial for any economy, and in this connection, the recent government decision to continue the provision of regionally competitive energy tariffs (RCET) is welcomed and appreciated.