Pakistan's growth must come from increased productivity not consumption
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As the Pakistani economy shows signs of stabilizing, the focus once again turns to growth. It is therefore important to understand that not all growth is equally beneficial, and the policy choices that yield the most immediate short-term growth do not necessarily prepare the ground for sustained economic and social progress. Savings and investment which enable increased productivity, greater specialization and global integration are the true engines of economic growth. Increased consumption is the fruit of such growth, and must not be the cause of it.
The last economic boom saw growth accelerating to 5.8 percent in FY2018 — the highest level in more than a decade, driven by private consumption that contributed 5.4 percentage points to gross domestic product (GDP). It was financed by credit expansion where household debt increased from 2.84 percent of GDP in 2014 to 3.92 percent in 2018, and overall private sector debt from 15.59 percent of GDP to 18.83 percent. The borrowing binge boosted demand and GDP growth, and imports burgeoned, resulting in external imbalances, which eventually resulted in financial crises and an economic slowdown. The chronic boom-and-bust cycle of fast growth followed by a slump is a pattern that has been often repeated in Pakistan, and resultantly the country has had to turn to the International Monetary Fund (IMF) on 13 separate occasions for bailout packages.
The crux of the problem lies in the fact that Pakistan is stuck in a low-savings low-investment trap combined with anemic productivity growth. Looking at World Bank data for gross domestic savings rates in 2019, Pakistan’s 5.4 percent compares unfavorably with the global average rate of 25.2 percent, South Asian average of 25.3 percent, and China’s 44.9 percent. The low savings rate reduces the availability of investible funds; low investments make for low growth; the low growth creates low domestic savings. Besides the low rate of domestic saving, a large proportion of savings is directed towards real estate and other undocumented assets, thereby diverting capital away from export-oriented manufacturing sector of the economy.
Pakistan is stuck in a low-savings low-investment trap combined with anemic productivity growth. Looking at World Bank data for gross domestic savings rates in 2019, Pakistan’s 5.4 percent compares unfavorably with the global average rate of 25.2 percent, South Asian average of 25.3 percent, and China’s 44.9 percent.
Javed Hassan
In the absence of adequate domestic savings to tap into, the investment gap is filled through foreign direct investment (FDI). Unfortunately, in the case of Pakistan, almost 80 percent of FDI has historically been in non-manufacturing sectors like power, oil & gas, construction, financial business, communication IT & telecom, transport and trade. The limited foreign investment that is directed into the manufacturing sector is primarily market-seeking rather than efficiency-seeking. In other words, the investment seeks to exploit Pakistan’s protected domestic markets rather than provide competitiveness to export-oriented sectors and enhance the production capacity of import substituting industries. The underlying reason for this is Pakistan’s relative lack of attractiveness in terms of labor productivity and other input costs compared to its competitors.
According to International Labor Organization (ILO) 2019 estimates, output per person, which is a measure of labor productivity, grew at the annual rate of 1.4 percent in Pakistan from 2000 to 2019 compared to 5.3 percent in India and 7.0 percent in China. Consequently, Pakistan’s output per worker is roughly one-ninth that of the United States, while India’s is case it is around one-sixth and China’s is approximately one-fourth of the US’s. In simpler terms, Pakistan’s labor force’s productivity over the last two decades was increasing at roughly one-fourth the pace of India’s and one-fifth the pace of China’s during this time.
Among the factors contributing to the productivity crisis has been the lack of investment in the Technical and Vocational Education and Training (TVET) sector, which suffers from limited training capacity, outdated workshops and laboratories, obsolete training equipment, archaic teaching methods, and antiquated curricula. Against the requirement to skill approximately two million youth annually, excluding those entering into other avenues of tertiary education, the present training capacity is only for an estimated 400,000.
In order to reverse the many years of neglect of this vital area, both the public and private sectors must invest in the development of a skilled labor force that is able to adopt and adapt to new technologies. It is equally important that there are targeted initiatives, for example women only transport, to enable greater participation of women than has hitherto been the case. Doing so will not only boost productivity but also make the labor force more cost-effective in relation to Pakistan’s competitors. To this end, governments must also avoid periodically increasing minimum wages as a political instrument, but instead link it to the reality of economic developments such as demand for labor and productivity.
For sustained growth Pakistan must attract efficiency-seeking and export-oriented investments that provide employment to a skilled workforce. Success in doing so will not only depend on but also complement an ecosystem that compels businesses to constantly improve efficiency in order to maintain or enhance profitability. This is possibly the most cost-effective option for enhancing productivity, and doing so will help put the economy on a path that avoids repeating past boom and bust cycles.
– Javed Hassan has worked in senior executive positions both in the profit and non-profit sector in Pakistan and internationally. He’s an investment banker by training.
Twitter: @javedhassan
