An Analysis of Pakistan’s Vulnerability to Economic Crisis

Publication Year : 2007

The post 9/11 scenario in Pakistan’s economy can readily be identified with a host of positive developments. Real GDP growth rates have averaged around 6 percent since 2002, stock market surges have broken all the previous records, there is much more dynamism in the banking industry, capital flows are pouring into the economy, foreign exchange reserves have swelled to record high levels, and poverty has witnessed a declining trend. However, what mars these celebrations since last year is the scepticism of some market commentators on the growing vulnerability of Pakistan’s economy to crisis.1 The main weakness, as widely pointed out, remains the sustainability of current account deficit along with rising fiscal imbalances. A review of empirical literature on the determinants of currency crisis introduces a host of macroeconomic fundamentals broadly based on the predictions of the seminal first- and second-generation models. Although the list of these determinants varies from study to study, the consensus appears to be on the sustainability of external and fiscal positions as the main predictors of a crisis. An overview of the Pakistani fundamentals since 2000 reveals that broadly key Pakistani economic indicators do not give an immediate cause for concern. However, the emergence of primary budget balance as a deficit and the growing trade and current account deficits in the last two years does seem to be a cause for concern.