Pakistan: Risk Assessment
Country Risk Rating
Business Climate Rating
- Large internal market supported by dynamic demographics
- Large remittances from migrant workers
- Large and inexpensive labor force
- Development of economic corridors with China and Central Asia, door to the Indian Ocean
- A major player in Islamic finance
- Mineral potential
- Tense neighborhood, political fragility and domestic insecurity
- Informality (40% of GDP and 60% of employment) and low tax revenues (13% of GDP)
- Inadequate education (40% illiterate), health, infrastructure and agriculture
- Delayed development of Balochistan, favoring separatism, and rural areas, conducive to the development of radical Islamism
- Energy dependency, deficient electricity production
- Weak manufacturing (20% of GDP) and export base, weak sectoral diversification
- 20% of GDP and 40% of the workforce depend on the agricultural sector, which is sensitive to climatic hazards and world prices
A constrained recovery
After sharply slowing down in 2019 due to the austerity policy aimed at cutting deficits, the economy contracted slightly in 2020 because of the COVID-19 crisis and the associated health measures. Although the country was under lockdown in April 2020, the government opted for local containment to reduce the impact of the second wave (October to December). Activity, which resumed timidly in the second half of 2020, should gain momentum in 2021 thanks to the arrival of a vaccine in the second half of the year and the improvement in the health situation. Private consumption (80% of GDP) has benefited from the fiscal support plan for households, mainly those in the low income bracket, as well as from the firm flow of remittances from expatriates (8% of GDP), who should benefit from the improved economic situation in Saudi Arabia and the United Arab Emirates. However, households still face unemployment, irregular agricultural income, high inflation linked to the depreciation of the rupee, as well as rising food and energy prices. In addition, the rise in public tariffs could resume and the key interest rate, which was lowered at the height of the crisis by 625 basis points to 7%, could increase again under pressure from the IMF, while public wages and pensions are frozen. Activity in services (60% of GDP, notably trade and transport) will remain constrained. Public investment should remain anemic, as it is under budgetary constraint. Despite public support for the construction sector, as well as for the purchase of equipment (tax relief and targeting of commercial bank loans), private investment will remain mainly linked to Chinese projects in the framework of the China-Pakistan Economic Corridor (CPEC) and its infrastructure (energy and transport). Finally, the country has been affected by the fall in global demand for "non-essential" goods (textiles, cotton), which account for over 50% of the country's exports (9% of GDP), but these are expected to recover in the second half of the year.
Fragile accounts, but international support
After its sharp deterioration in 2019, following an increase in debt interest, the planned rebalancing of the public deficit in 2020 - following the conclusion of the agreement with the IMF in July 2019 (USD 6 billion over 39 months) - has been halted by the crisis due to falling revenues and rising public expenditure. Spending on social protection, health, education and housing will still be high in fiscal year 2021, while debt interest and defense spending will remain substantial (46% and 20% of spending, respectively). In September 2020, the external share represented 42.2% of the public debt and was held at 40% by multilateral creditors and at 25% by China.
The current account deficit has narrowed in 2019-2020. The trade deficit (20% of GDP) improved due to the fall in imports, notably because of depreciation of the rupee (-4.8% against the dollar). However, exports (mainly textiles, but also rice, sugar and alcohol) were unable to benefit from this depreciation, and workers' remittances remained the main means of financing the trade deficit as FDI flows remained low (0.5% of GDP). In 2020-2021, the current account deficit is projected to increase slightly, due to increased imports, especially of oil products, while exports will recover in line with the demand for non-essential goods in partner countries. Strong expatriate remittances and the suspension of interest payments on bilateral debt under the G20 Initiative will ease the burden. Exchange rate flexibility, as called for by the IMF, should in future prevent the external accounts from diverging from their balance. Thanks to the improvement in the current account balance, foreign exchange reserves have increased, covering three months of imports at the end of 2020. These would not be sufficient to cover the external financing requirement (USD 30 billion in 2020-21) including the amortization of the external debt (100% of GDP) and the current account deficit. In addition to recourse to the market, the country has secured official external financial support, first bilaterally (China, Saudi Arabia and the United Arab Emirates) and then multilaterally, which has been increasing since the crisis. Disbursements under the IMF's Extended Fund Facility could resume in 2021.
Internal and external tension, but support
Eleven opposition parties, united since September 2020 in the Pakistan Democratic Movement (PDM), are calling for the resignation of Prime Minister Imran Khan, brought to power thanks to the victory of his Pakistan Tehreek-e-Insaf party in 2018, in elections rigged by the army according to them. For the Prime Minister, the main opposition parties are trying to light a fire, while their leaders are weakened by unfavorable court rulings in corruption cases. Members of the MDP have threatened to resign massively from the National Assembly as part of their campaign to delegitimize the current administration. The military, a political player, may be called upon to arbitrate.
On the foreign front, tensions with India over Kashmir have rekindled after the lifting of autonomy for the Indian part of the region. The stormy relationship with the United States will remain important and be focused on military cooperation. Pakistan has used its influence on the Afghan Taliban to negotiate and sign an agreement with the U.S. in February 2020, which will also bring it closer to Afghanistan. China will remain its main economic partner under the CPEC and their trade agreement.