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1. Economy of Pakistan

2. What is Domestic Commerce?
-Domestic Commerce covers all aspects of
pricing, packaging, marketing, SPS/TBT compliance of WTO
agreement, improving competitiveness, sophistication, product
diversification, improving doing business environment etc.
(PIDE Working Papers 2006:11)
-A vibrant domestic commerce sector is the core of the economy
facilitating intermediation between supply and
demand, entrepreneurship development, risk-taking
innovation, and competitive markets. Such an economy moves
beyond commodity exports to brand name, process, and capital
exports, all of which command a higher rate of return.
“Policy in Pakistan has been fairly path-dependant, placing a
higher weight on export promotion and domestic industrializations
development than on
domestic commerce”.

3. Objectives of Economic
Growth
• Well Diversified High and
Sustained Growth in commodity-
producing and services sectors
• Macroeconomic Stability –
economic fundamentals to remain
strong, macro imbalances are
avoided
• Distributive Justice – protecting
vulnerable groups thru „effective‟
social safety-nets

4. Hurdles in Economic Policy making
• Theoretically and ideally, we aim for
Equilibrium
• Because of its Size it is difficult to
understand the Economy at the aggregate
level so we approach it by analyzing various
components (Markets) within a simple
macroeconomic model
• Why economy deviates from Equilibrium is
critical for policy planning and execution
• The Role of the Government [long-run vis-à-
vis short-run concerns], Government
Intervention is desired when deviation
persists in the short-run

5. ECONOMY AND ITS
COMPOSITION
1. Broadly Three Markets and two sub-
sectors are considered
– Product or Output Market
– Labor Market
– Money Market
• Foreign Trade Sector when Open
Economy is considered
• Fiscal Sector when Government
Intervention is explicit
• 2. Demand and Supply Considerations

6. PRODUCT OR OUTPUT MARKET
• Supply Side: Income Approach
– GDP (at Factor Cost) equals
• Value Added in [Agriculture (crop and
non-crop sectors) + Manufacturing
(small and large scale) + Mining and
Quarrying + Services]
• Demand Side: Expenditure Approach
– GDP (at Market Prices) equals
• Consumption (private and public) +
Investment (private and public)
including changes in stocks + Exports of
Goods and Services – Imports of Goods
and Services

7. PRODUCT OR OUTPUT MARKET
• Equilibrium: Equate Demand and Supply
– Caution: Correction is desired to convert
GDP at factor cost into GDP at market
prices. For this we add indirect taxes and
subtract subsidies, i.e.,
– GDP (MP) = GDP (FC) + Indirect Taxes -
Subsidies
• Disequilibrium: leads to Resource Gap
(RG = Y – C – I); Otherwise Y – C = S = I
• Issues: Why domestic savings are low? Where
investment taking place? What is the role of
financial institutions in promoting savings?
What is the linkage between stock market and
investment?

8. LABOR MARKET
• Supply Side: Sectoral Labor Supply (HH behavior)
• Demand Side: Sectoral Labor Demand (Firms‟
Behavior)
• Equilibrium: Equate Labor Demand and Labor
Supply
• Disequilibrium leads to Unemployment (UN = LS
– LD)
• Issues: What is unemployment rate? Who is
unemployed? Has TNA been done? What is the
overall HR Strategy? How to tackle skill Shortages?
What is Industrial Planning to meet domestic
demand?

9. MONEY MARKET
Financial Market
(Money, Bonds, Equities)
• Supply Side: Money Supply, Monetary Base
includes Net Domestic Assets (Government Bills)
and Net Foreign Assets (Reserves and Gold)
• Demand Side: Money Demand (M2)
• Equilibrium: Equate Demand and Supply
• No Disequilibrium problem as MS = MD and there
is instantaneous adjustment in financial instruments
• Issues: Excess of Money Supply is generally
Inflationary. Money Tightening but at what cost?
Autonomy of SBP?

10. FOREIGN TRADE SECTOR
• Supply Side: Exports of Goods and Services
• Demand Side: Imports of Goods and Services
• Trade Balance: Exports (G&S) = Imports (G&S)
• Disequilibrium yields Trade Deficit
• Further Issues: Exchange Rate Policy and
Management. Size of CAD and Problems related to
BOP

11. FISCAL SECTOR
• Resource Side: Tax and Non-tax
Revenues (F&P) including Surcharges
• Expenditure Side: Current and
Development Expenditure
• Equilibrium (Balanced Budget):
Revenues = Expenditures
• Disequilibrium leads to Fiscal Deficit:
Expenditure exceeds Revenue
• Other Definitions of Deficit and Twin
Deficit Problem
• Further Issues: Accumulation of Internal
and External Debt and its Management

12. Long-run Economic Growth
– Why Less Developed Economies lag
behind Rich Nations?
• For the simple reason that the developed nations
at some point in their history experienced extended
periods of rapid growth where as the developing nations
never experienced sustained growth or have had periods
of growth offset by periods of economic decline.
– What Determines Economic Growth? Saving &
Investment, and Technological Change that help
improve productivity of machines and workers.
• Example: Quadrupling of average productivity of workers
in US since the start of twentieth century.
• Example: Initial resource endowment is not that crucial as
Japan and Korea compared to many Latin American
countries were resource-deficient to start with.

13. Business Cycles: Recession & Boom
– Growth of output is not always smooth – it
has hills and valleys (peaks and troughs).
These short run, but sometimes
sharp, fluctuations are described by what is
known as Business cycles.
– The downward phase of BC, during which
national output may be falling or perhaps
growing very slowly, is called recession –
implying hard times for many. Recessions are
not politically welcomed. Therefore, a lot of
effort is put in to understand what causes
recessions and how to rectify.
– The up-swing of the economy starts with
recovery phase leading to boom
(expansion), Over-heating of economy is
vaguely defined concept.

14. Unemployment and Inflation
– Recession is usually accompanied by increase
in unemployment. During great depression of
1933, the UR defined as total number of
unemployed divided by active work force
(workers either employed or seeking job) was
25% in the US implying that one in four
potential workers was unemployed.
– When prices of most goods and services are
rising over time, the economy is said to be
experiencing inflation. Among various
measures of inflation Consumer Price Index
(CPI) – cost of buying a fixed basket – is
most commonly used.
– Year-on-year inflation rate is measured as:
∏ = [(Pt – Pt-1)/Pt-1]*100

15. The International
Economy
– Open economy implies extensive trading and
financial relationships between countries.
While there are gains to trade and capital
flows, studying the patterns of international
trade and borrowing is important to
understand the transmission of business cycle
from one country to another.
– Study of trade and current account
imbalances is another area of significance not
only for developing but also for developed
economies as well. What causes trade
imbalances and are they really bad for a
country or for trading partners? These
questions are receiving increasing attention in
the literature.

16. Macroeconomic Policy
– Economy‟s performance not only depends on the
availability of human and natural resources, its
capital stock, the technology it possesses and the
choices made by its citizens, individually and
collectively, it is also dependent on the set of
macroeconomic policies pursued by the
Government.
– More important ones are Fiscal and Monetary
Policies.
– Fiscal policies gain importance when a country
runs a large budget deficit. However, critics of
government FP question the use of borrowed
funds on deficits rather than on productive
investment.
– Besides other purposes, monetary policy is used to
maintain inflation at targeted level.

17. Economic Analysis
– Forecasting: A difficult and challenging job, not
carried out to the satisfaction of many. Reason, the
knowledge of the economy is imperfect, factors other
than economic variables also affect the economy.
– Economic Analysis: An important task to monitor
economic activities. Difficulties are observed
because politicians and not economists make
economic policies.
• Example: US and Europe subsidies to agriculture sector
• Example: Freezing of domestic price of oil
– Economic Research: Very important and wide-
ranging. Wheel should not be re-invented all the
times.
– Classicals vs Keynesians, which line should be
followed?
End of Lecture 1

18. Macroeconomic Performance in Pakistan:
Historical Perspective
Growth (%) 1960's 1970's 1980's 1990's
GDP 6.8 4.8 6.5 4.6
- Agriculture 5.1 2.4 5.4 4.4
- Manufacturing 9.9 5.5 8.2 4.8
- Services 6.7 6.3 6.7 4.6
Share (%) in GDP
Total Investment - 17.1 18.7 18.3
National Savings - 11.2 14.8 13.8
Total Revenue 13.1 16.8 17.3 16.9
Total Expenditure 11.6 21.5 24.9 24.1
Budget Deficit 2.1 5.3 7.1 6.9

19. Macroeconomic Performance in Pakistan:
Historical Perspective
Share (%) in GDP 1960's 1970's 1980's 1990's
Total Exports - - 9.8 13.0
Total Imports - - 18.7 17.4
Trade Deficit - - 8.9 4.4
Current Account Deficit - - 3.9 4.5
Human Resources/ Social Development
Un-employment Rate - - 1.4 5.7
Literacy Rate - - 29.5 40.7
Male - - 39.0 51.6
Female - - 18.7 28.6
Expenditure on Education - - 0.8 2.3
Expenditure on Health - 0.6 0.8 0.7

20. Relatively Recent
Macroeconomic Performance
Growth of GDP and Components (%)
18.0
16.0
14.0
12.0
10.0
8.0
6.0
4.0
2.0
0.0
00-01 01-02 02-03 03-04 04-05 05-06 06-07 07-08
-2.0
-4.0
GDP - Agriculture - Manufacturing - Services

21. Relatively Recent Macroeconomic
Performance
Macro Imbalances relative to GDP
8.0
7.0
6.0
5.0
4.0
3.0
2.0
1.0
0.0
00-01 01-02 02-03 03-04 04-05 05-06 06-07 07-08
Budget Deficit Trade Deficit Current Account Deficit

22. Relatively Recent Macroeconomic
Performance
Key Variables relative to GDP
25.0
20.0
15.0
10.0
5.0
0.0
00-01 01-02 02-03 03-04 04-05 05-06 06-07 07-08
Total Investment National Savings
Total Revenue Total Expenditure
Total Exports Total Imports

23. Economy of Pakistan:
Relatively Recent Performance
Human Resources/ 00- 01- 02- 03- 04- 05- 06- 07-
Social Development 01 02 03 04 05 06 07 08
Un-employment
6.0 7.8 7.8 8.3 7.7 7.6 6.2 5.2
Rate
Literacy Rate 49.0 50.5 51.6 53.0 53.0 54.0 55.0 0.0
Male 58.0 0.0 0.0 0.0 65.0 65.0 67.0 0.0
Female 32.0 0.0 0.0 0.0 40.0 42.0 42.0 0.0
Expenditure on
1.6 1.9 1.7 2.1 1.0 1.9 2.4 2.3
Education/ GNP
Expenditure on
0.7 0.7 0.7 0.6 0.6 0.5 0.6 0.6
Health/ GNP

24. Pressing Macroeconomic
Issues
• Four major concerns that haunted the
economy in 2008 were:
– Spiraling Inflation
– High (and widening) Fiscal Deficit
• Re-emergence of Primary Deficit
– High Trade Deficit and Rising CAD
– Pressure on Currency and Foreign
Exchange Reserves

25. Pressing Macroeconomic
Issues
• Soaring Inflation
– Possible Causes
• Monetary Phenomenon (accommodating to generate
growth thru reduced cost of borrowing)
• Supply Constraints (sugar, wheat etc)
• Imported (POL, edible oil, other primary products)
• Adverse Expectations
– Possible Remedies
• Adopt Tight Monetary Stance – it may retard Growth
• Improve Supply Shortages; Better Storage Capacity
• Reduce Reliance on Imports – self-
sufficiency, conservation
• Transmit „right‟ signals

26. Pressing Macroeconomic
Issues
• High Fiscal Deficit due to fiscal
indiscipline
– Expenditure over-runs leading to
abnormally high borrowings from SBP
• Huge subsidy payments for oil,
power, wheat, and fertilizer;
• Substantial increase in interest
payment on domestic debt – sheer
callousness and bad sequencing;
• Conscious policy inaction
– Shortfall in Revenue Collection

27. Pressing Macroeconomic
Issues
• High Trade Deficit and Rising CAD
– Poor export performance, paying price for
heavy reliance on textile;
– The export to import ratio declined from 56%
to 48%;
– Seven items -- POL, Edible
Oil, Wheat, Cotton, Fertilizer, Iron &
Steel, and oil rigs had additional cost of Rs.
477.4 Billion in the overall imports of Rs.
2242.3 B till May over last year. The rest of
the import bill was just a routine matter.
Thus, the real concern and policy action
should have revolved around these items
only.

28. Pressing Macroeconomic
Issues
• Currency Depreciation and
Depletion of Foreign
Exchange Reserves
• Inability to generate external
financing due to deteriorating
rating
• Inability of SBP to intervene
• Speculators had a field day

29. Pressing Macroeconomic
Issues
• Serious Law and Order situation
on the domestic front
• Political unrest and transitional
phase of the government
• Serious energy crisis having
adverse impact on growth of
manufacturing sector
• Falling external demand due to
onset of recession in the west

30. Corrective Measures:
Natural or Otherwise
• Move towards fiscal discipline
– Reduction in Expenditure
– Withdrawal of Subsidies
– Policy Reversal in Taxation Policy
• Further tightening of Monetary Policy
• IMF Program once again
• Falling petroleum prices, Falling prices
of edible oil, other primary products
• Lots of PDL

31. Future Prospects
• Difficult period to continue for
some time to come
• Fiscal and Monetary Policies are
contractionary in nature, Growth
retarding.
• Manufacturing sector still facing
high cost of borrowing, reduced
domestic and foreign demand
• Slowdown in services sector
• Stabilization Program is mostly
painful with severe
conditionalities*** End of Lec 2

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