The State Bank of Pakistan (SBP), in its recent First Quarterly Report 2019-20, has stated that the policy mix adopted so far, "appears adequate to address the macroeconomic imbalances and push the economy towards stability." Two words in the above statement are noteworthy. The first is 'appears' and the second is 'push'. The first indicates SBP thinks that the current policy mix is a work-in-progress and the end result is still some way ahead in time. This, in turn, implies that the demand suppression thrust of SBP policy will continue for some time. As a result, both aggregate demand and business investment will continue to suffer for a while, at least for most of 2020 with their consequent negative impact on employment and incomes. The second word, 'push' indicates the SBP believes that monetary policy alone is sufficient to create stability in the macroeconomic dynamics and the central bank's current policy prescription is sufficient for this purpose. This writer I would not be so certain about it. Given the nature of Pakistan's economic woes, this route has been taken before and found wanting again and again. Some good work on the structural side has begun, as the SBP report states, but a fundamentally different approach is needed if this cycle of crisis management is to be truly banished.
It seems that the mindset at the central bank is still that of the classical Ricardian approach which was tried and failed after the Great Depression of 1929 and again when Britain went out of the gold standard in 1931. Regardless of the cause of external shock, whether monetary or otherwise, the policy prescriptions ended up 'stabilizing' the economies much below their potential output. This simply prolonged the woes of the common citizen and kept unemployment unnecessarily high. It was only after Keynes convinced policymakers that an active fiscal policy was the way out of the conundrum that post-WWII economic growth began.
After the Great Recession of 2008, most of the world's central banks took the Keynesian perspective and opted for massive liquidity provision to avoid outright depression. In this they succeeded. However, reliance only on monetary policy has led to serious distributional problems. At the same time, the G20 countries quick fell back on the old neoclassical mantra that overall debt was rising fast and that fiscal deficits would lead to further issues, so they reverted back to austerity as their main focus - this was particularly true in the EU. China was an exception as the only major economy that remained focussed on growth and employment generation, even though it meant huge increase in the debt to GDP ratio. So what is the better approach?
Globally, the economic profession is in a state of introspection. Looking at the emerging literature one sees a clear trend: both academic and policymaking economists are seriously reassessing the macro-economic prescriptions of reigniting growth in the global economy. The debate is, of course, centered primarily in developed economies which are faced with cyclical (demand slowdown), structural (aging population and technology advancement) and political (trade and economic nationalism) headwinds that are making traditional economic solutions increasingly less relevant.
A major trigger has been the fact that the benefits of supply-side economics with its 'trickle down' effects have stopped accruing and incessant deregulation has given rise to a kind of unfettered capitalism where more and more income and wealth has been accumulated by smaller and smaller percentage of the population. By 2018, 1% of the world's richest adult people (those with USD 1.0million or more) held 45% of the world's wealth, according to estimates by Credit Suisse, Global Wealth Databook, 2018. This phenomenon is not just confined to developed economies; it has also become the characteristic of developing economies. For example, according to World Inequality Lab's World Inequality Report2018,in India the top 10% of the population had around 31% share of national income in 1980. By 2016, the top 10 percent people's share had increased to over 55%. While technology has also played a hand in this via the rise of huge oligopolistic business enterprises, it is mainly the result of hands-off policy of governments and financialization of developed economies.
After Monetarism (emanating from neoclassical economic ideas) supplanted Keynesian economic ideas which had held sway from the end of WWII till around the 1980s, the econo-political evolution of macro-policy that started under Margaret Thatcher in Britain and was followed by Ronald Reagan in the US swept across the globe. Its mantra was less government intervention in the economy, keeping money supply stable to keep inflation low and stable, reducing taxation as well as government spending - a basic Friedmanite recipe (after Milton Friedman of the Chicago school of economics). As a result, there was much greater reliance on monetary policy as against fiscal policy. Along with this, the developed nations pushed to open emerging markets for their corporations by advocating globalisation as they foresaw the limited capacity for continued demand growth in their own economies.
What was not foreseen in the 1980s was the rise of China and the economic development model chosen by Deng Xiaoping and his economic team. That is, enabling market forces to operate but having an overarching development blueprint centrally with focus on specific sectors, industries and technologies. China had the market size to set the rules for developed country players entering its market, in terms of technology transfer, skill development requirements and manufacturing processes. Within two decades this approach led to China becoming the world's factory, manufacturing everything from a humble kitchen utensil to sophisticated drones, while also enabling its technology giants to develop to a level where they became serious competitors on a global scale. The biggest challenge was to the world's largest, most open economy, the US which saw its competitive edge under serious threat. Even without the current leadership's openly anti-Chinese stance and initiation of a trade war, it was inevitable that once the rules and institutions established by the US after the Bretton Woods arrangements stopped being useful for its purposes, they would be diluted at best or, at worst, ditched. We are in that period now.
In such an environment, it is incumbent upon policymakers in Pakistan to ponder carefully upon the best mix of stabilization and growth generation macro-economic policies. It would be wise to heed The Financial Times Editorial Board's recent call for an active fiscal policy. At the same time, Pakistan still needs to deal with several pre-requisites. Chief among them are accurate economic data gathering and analysis which needs a complete restructuring of the government's central statistics machinery, deep documentation of the economy, land reforms to stop the abuse of power of the entrenched vested interests and commitment to good governance to root out corruption at every level. Only then, as the famous economist Paul Samuelson has said, will we be ready for "an economy that combines the tough discipline of the market with fair-minded government oversight."
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