Macroeconomics of empty promises

The State Bank of Pakistan’s (SBP’s) foreign exchange reserves have dropped by nearly a billion dollars in just eight weeks, from December 13 to February 7. This decline occurred despite the current account posting a surplus of half a billion dollars in December, with expectations of a modest surplus for January.

The implication is alarming: financial account payments — primarily government foreign debt servicing — are being routed through the current account, pushing the overall balance of payments into negative territory for January 2025.

This marks a concerning start to the new calendar year. The financial account, which includes foreign loans and investments, is drying up. If this trend continues, the SBP may be forced to sustain a current account surplus using limited tools: allowing the Pakistani rupee (PKR) to depreciate further and keeping interest rates relatively high. Should reserve depletion accelerate, import restrictions may resurface as a desperate measure.

The federal government’s narrative of economic stability and remarkable recovery over the past year rings hollow to foreign lenders and investors. The financial account report card for the first half of FY25 paints a bleak picture.

The surplus for July-December 2024 has shrunk to $544 million, a mere fraction of the surplus recorded during the same period of last year ($5 billion). Loans to the general government have turned negative, decreasing by $353 million compared to an increase of over $2 billion in the previous year.

Foreign Direct Investment (FDI), while up marginally by 27% to $1.3 billion in 1HFY25, pales in comparison to earlier ambitious projections of $100 billion in investments.

Adding insult to injury, foreign investors are net sellers in Pakistan’s stock market, even as local indices soar to record highs. Stock valuations have doubled or tripled, yet foreign investors have seized the opportunity to exit en masse.

Interestingly, inflows were significantly stronger under the caretaker government than under the current administration. Intuitively, given macroeconomic indicators such as plummeting inflation, falling interest rates, rising foreign exchange reserves, and a stabilizing currency, foreign inflows should have accelerated. Instead, the stark opposite is true, pointing to deeper issues: political instability and fragile economic confidence.

There are no immediate obstacles in the upcoming IMF review, as all targets are being met, and the government expects waivers for shortfalls in indicative targets such as FBR revenues. However, the real issue lies in the widening gap in gross external financing.

Recall that in June 2023, Pakistan was on the brink of default when the IMF delayed its review due to gaps in gross financing. Last-minute support from the Biden administration secured a standby facility, averting disaster. The same issue resurfaced during negotiations for the ongoing programme, again resolved only through U.S. intervention.

The gap crisis persists, with a shortfall of around $3.5 billion. Recently, Saudi Arabia extended a deferred oil facility worth $100 million per month, and Pakistan secured another $300 million commercial loan at exorbitant rates.

Beyond these, little is coming from bilateral partners or global capital markets—including the Panda Bond. To bridge the gap, the government may resort to more expensive commercial loans, the servicing of which will further strain the balance of payments.

The question now looms: Will the Trump administration be as accommodating as its predecessor? Chances appear slim, and so far, there are no indications of forthcoming support.

This tightening economic situation underscores the urgent need for market-driven Foreign Direct Investment (FDI). However, capacity utilization across sectors remains sluggish. Businesses are struggling to operate existing facilities, let alone expand or initiate greenfield projects.

The private sector faces mounting challenges: high taxation stifles capital formation, soaring energy costs erode competitiveness, and external vulnerabilities limit access to financing. The overall environment is far from conducive to investment.

These factors collectively constrain growth potential. With fiscal levers immobilized, the government must maintain a fiscal surplus to avoid exacerbating external imbalances—the economy is trapped in a low-growth, low-employment spiral. Call it stability if you will, but the reality is one of stagnation with no clear exit strategy. The only silver lining — or windfall — is that Pakistan has managed to stave off default thus far.

Copyright Business Recorder, 2025