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TODAY'S PAPER | DECEMBER 21, 2019

The problem of deficit in balance of payments

| October 04, 2004

The balance of payments (BoP) means a systematic record of all the economic
transactions between residents of a country with the rest of the world during a given
period of time.

It covers exchange of visible (merchandise) and invisible (services) items. The balance of trade
(BoT) covers the exchange of visible items only. Deficit in balance of payments means that the
import bill exceeds the export bill.

Pakistan was caught in vicious deficit balance of payments trap after the pre-plan period. During
pre-plan period (1948-49 to 1954-55), Pakistan's performance in the foreign trade sector was
reasonably good.

Its exports exceeded the imports and formed 114 per cent of total imports. It had surplus BoT up to
1954-55. The year 1955-56 was the last year in which Pakistan had a favourable balance of trade.

Since that time, Pakistan has been facing a serious problem of deficit in her BoT and BoP. The
present article is aimed to review the performance of each government in BoP situation after the
separation of the former East Pakistan.

In 1971, Pakistan's exports decreased considerably and its imports surged, especially of capital
goods, thus creating a trade deficit. Workers remittances, especially from the Middle East countries,
increased tremendously which helped a great in stabilizing the BoP.
The deficit in BoT was $836 million on an average while current account deficit in BoP was $699
million on an average between 1971-72 and 1977-78 (the tenure of late Mr. Z. A. Bhutto). The trade
deficit as percentage of GNP remained 6.3 per cent while current account deficit in BoP remained
5.6 per cent on an average during 1971-72 to 1977-78.

The inflow of workers remittance increased 1080 per cent from 1971-72 to 1977-78.The magnitude
of workers' remittances increased from $107 million in 1971-72 to $1156 million in 1977-78.

The BoP position deteriorated during Zia's regime (1978-79 to 1984-85). A deficit in BoT increased
to $2958 million on an average from 1978-79 to 1984-85. Current account deficit in BoP increased
to $993 million on an average during 1978-79 to 1984-85.

The inflow of workers remittances continued increasing, especially from the Middle East, from
1977-78 to 1982-83 and reached a peak level of $2886 million in 1982-83. This inflow gradually
decreased in the last two years of his regime.

The magnitude of workers' remittances from 1978-79 to 1984-85 was $1849 million on an average.
The trade deficit as percentage of GNP rose to 9.9 per cent while current account deficit in BoP on
an average decreased to 3.7 per cent in this period.

The Table shows that the external BoP gained strength during Junejo's period from 1985-86 to
1987-88. Exports grew on an average by 33 per cent while imports decreased during first two years
while increased in the last year.

Export remained at a level of $3601 million on an average during this period. Deficit in the balance
of trade decreased to $2631 million and current account deficit in the BoP decreased to $1211
million on an average during these years.

The trade deficit as percentage of GNP declined to 6.9 per cent while the current account deficit in
balance of payment declined to 3.1 per cent during 1985-86 and 1987-88.

Workers' remittances showed a declining trend from $2595 million in 1985-86 to $2013 million in
1987-88. The magnitude of workers remittances on an average between 1985-86 and 1987-88 was
$2295 million.

The BoP position witnessed a significant improvement during first tenures of both Ms. Benazir
Bhutto (1988-89 to 1990-91) and Mohammad Nawaz Sharif (1991-92 to 1993-94). The deficit in
BoT decreased to $2728 million on an average between 1988-89 to 1990-91 and to $2501million on
an average between 1991-92 to 1993-94.
The current account deficit in BoP fell to $1998 million on an average between 1988-89 to 1990-
91and to $2333 million on average between 1991-92 and 1993-94. This reveals that BoP and BoT
remained stabilized during the first tenures of both- Benazir and Nawaz Sharif - (1988-89 to 1993-
94).

Trade deficit as a percentage of GDP stabilized on an average around 4.7 per cent during Benazir's
and Nawaz's tenures. The current account BoP as a percentage of GDP on an average was 4.7 per
cent in Benazir's period while 4.6 per cent in Nawaz's period.

Pakistan's external balance of payment deteriorated in the second tenure of Ms. Benazir (1994-95 to
1996-97). The deficit in BoT and current account deficit in BoP increased to $3128 million and
$3635 million on an average between 1994-95 and 1996-97 respectively.

Trade deficit as a percentage of GDP on an average was 4.7 per cent while deficit in current account
balance of payments increased to 5.8 per cent. There was a sudden upsurge in the inflow of workers
remittances from Kuwait and were $1866 million in 1994-95.

This inflow could not maintain its momentum and was reduced in the following two years of
Benazir's government. The magnitude of inflow of workers remittances from 1994-95 to 1996-97 on
an average was $1578 million.

This adverse performance in foreign balance of payment was due to the weak macroeconomic
management and lack of commitments to undertake difficult structural reforms.

The overall balance of payment position during the second tenure of Nawaz Sharif (1997-98 to
1999-00) witnessed a significant improvement despite the adverse external environment.

Both current account deficit in BoP and BoT decreased in this period. The deficit in the balance of
trade decreased to $1788 million while current account in the BoP decreased to $1833 million
during 1997-98 and 1999-00 despite the sanctions imposed by the G-8 countries on bilateral and
multilateral lending as a consequence of Pakistan's nuclear tests in May 1998.

The deficit in the balance of trade as a percentage of GDP and current account deficit in balance of
payments as a percentage of GDP also showed the same trend.

The deficit in the balance of trade as percentage of GDP on an average declined to 2.5 per cent while
current account deficit in balance of payments declined to 2.9 per cent on an average during 1997-
98 and 1999-00. Workers' remittances exhibited a declining trend during these years. The
magnitude of workers remittance on an average was $1178 million.
The economy started showing signs of improvement with the start of Musharaf's regime. His
government launched a comprehensive set of economic stabilization and structural reform
measures.

Pakistan's exports increased from $7.8 billion in 1999-00 to $9.2 billion in FY00-01. The deficit in
BoT decreased to $1269 million while current account BoP decreased to $513 million in FY00-01.

The real improvement in BoP started after the event of September 11, FY01. The post-September 11
events helped a great deal in ameliorating Pakistan's chronic external deficit in balance of
payments.

Significant reduction in the trade deficit, more than doubling of foreign remittances, and budgetary
support from coalition partners in the war against terror enabled Pakistan to run a current account
surplus for the first time since 1956-57.

There was a sharp decline in trade deficit in FY01-02. The trade deficit fell by 75.5 per cent to $286
million over the level of $ 1338 million of FY00-01. The current account deficit in balance of
payment emerged with a surplus of $913 million in FY01-02.

The current account BoP remained in surplus from FY01-02 to FY03-04.The magnitude of surplus
in current account BoP for FY01-02 was $1338 million, for FY02-03 $ 3165 million and for FY03-
04 (July-March FY03-04) was $1369 million.

The conclusion drawn from the analysis of the BoT and BoP behaviour during different
governments between 1971-74 and FY03-04 envisaged that BoT and BoP improved during the
governments of Bhutto and Junejo (1971-72 to 1977-78 and 1985-86-1987-88) while BoT and BoP
deteriorated during Zia's regime (1978-79 to 1984-85.

The BoT and current account BoP stabilized during the first tenure of both Benazir and Nawaz
Sharif while deteriorated in her second tenure while BoT and BoP stabilized in Nawaz Sharif's
second period.

The performance of Benazir in first tenure was better than in her second era despite the workers
remittances from abroad increased considerably during her second tenure. Performance of
Musharaf's government is much better than the previous governments either military or democratic
since 1971-72.

Causes: * Pakistan's balance of payments is highly dependent on workers remittances but these
remittances cannot be sustained over a long period of time. Workers' remittances increased after
1971-72.
There was a sudden upsurge in the workers remittances in late seventies and early eighties. They
grew up from $107 million in 1971-72 to a peak level of $2989 million in 1982-83 and exceeded the
total merchandise export of $2627 million.

However, these inflows began tapering off since 1982-83, excluding inflows from Kuwait in 1994-
95. This year workers remittances were $ 1866 million. After 1994-95, workers remittances depicted
a declining trend.

In 1999-00 workers remittances were reduced to $ 983 million. After the event of September 11,
FY01 workers remittances increased tremendously especially from USA, UK and other European
countries and reached to $4237 million in FY02-03. The remittances could not maintain their
momentum in FY03-04 and decreased to $3.6 billion.

* One major structural problem of exports is that it is based on relatively low value added products.
Pakistan's exports are highly concentrated in cotton group, leather group, rice, synthetic textiles
and sports goods.

These five categories of exports accounted for 82.6 per cent of the total exports during 2002-03.
Among these five categories cotton group alone contributed around 63.3 per cent of total exports,
followed by leather (6.2 per cent) and synthetic textiles (5.1 per cent) and rice (5.0 per cent). Such a
high degree of concentration of exports in few items has led to instability in export earnings.

* Although Pakistan is trading with large number of countries but her exports are highly
concentrated in few countries. More than half of Pakistan's exports are concentrated in USA,
Germany, Japan, UK, Hong Kong, Dubai and Saudi Arabia. Such a high degree of geographic
concentration of exports is dangerous as it renders the economy vulnerable to the manipulation of
the importing countries.

* Imports are concentrated on a limited number of commodities namely machinery, petroleum &
petroleum products, chemicals, transport equipments, edible oil, iron and steel, fertiliser and tea.

These eight categories of imports accounted for 75.5 per cent of total imports during FY03-04 while
machinery, petroleum and its products and chemicals accounted for 58.7 per cent of total imports
in the same year.

* Agriculture-related exports constitute a high ratio of the total exports. In FY02-03, 73 per cent of
export earnings came from the export of cotton and cotton products, leather and rice.

Such a high degree of dependency on agriculture-related products is an element of uncertainty in

export earnings. Agriculture in Pakistan is still a gamble in rainy season. A poor crop of cotton
would seriously affect balance of trade. Terms of trade are declining against agriculture-based
exports.

Terms of trade with base year 1990-91 have showed a declining trend except few years. It was as low
as 90.9 in 1991-92 but improved in 1997-98 when it reached a level of 123.5. Thereafter it continued
to decline and was recorded at 79.5 in FY03-04.

The unit value index for all exports increased from 100 in 1990-91 to 276 in FY03-04 while the unit
value index for all imports increased from 100 to 347.3. This increase in the unit price index of all
import goods especially palm oil, chemicals and iron & steel had adverse impact on Pakistan's terms
of trade.

* Although Pakistan is trading with a large number of countries, yet major portion of imports comes
from a few selected countries. Almost 50 per cent of imports come from USA, Japan, Kuwait, Saudi
Arabia, Germany, the UK and Malaysia. Such a high degree of geographic concentration of imports
is undesirable and is in favour of exporting countries.

Balance of Payments of Pakistan (1971-72 to 2003-04)

(Million US $)
As a
percentage of
GNP*/DGP
Years exports Imports Trade Workers Current Trade Current
(F.O.P) (F.O.P) Balance Remittance A/c Balance A/C Bal
Balance
of
payment
1971-72 619 946 - 327 107 - 443 - 2.8* - 3.8*
1972-
707 891 - 184 124 - 130 - 3.0* - 2.0*
73
1973-
1020 1493 - 473 138 - 549 - 5.3* - 6.1*
74
1974-
978 2114 - 1136 212 - 1168 - 10* - 10.3*
75
1975-
1162 2139 - 977 339 - 949 - 7.2* - 7.*
76
1976-
1132 2418 - 1286 578 - 1051 - 8.2* - 6.7*
77
1977-
1283 2751 - 1469 1156 - 605 - 7.7* - 3.1*
78
1978-
1644 3816 - 2172 1397 - 1114 - 10.3* - 5.3*
79
1979- 2341 4854 - 2513 1748 - 1140 - 9.9* - 4.5*