State of economy

ARTICLE (March 30 2010): Agriculture sector: Growth prospects for agriculture sector remain weak in contrast to the strong growth seen last year. Negative contribution by the two major crops of FY10 kharif (rice and sugarcane) and expected decline in wheat harvest are mainly responsible for this gloomy outlook.

The major contributory factors for lower area under cultivation and relatively weak performance by these crops were: (a) water shortages; and (b) realisation of lower prices in the preceding season for rice and sugarcane. An overall decline in area under major crops, conservative lending by domestic private banks (DPBs) and weakness in demand for credit by the non-farm sector led to slowdown in agri-credit disbursement during July-January FY10.

On the positive side, relatively lower prices of fertiliser and higher farm incomes in FY09 encouraged farmers to use fertilisers aggressively. Fertiliser off-take also increased due to government support in terms of maintaining a higher support price for FY10 wheat crop despite a substantial decline in international prices of the grain.

Large Scale Manufacturing: The pace of recovery in LSM subsector increased in Q2-FY10 largely in response to rising domestic demand. Most of the recovery emanated from the consumer durable industries as demand for automobiles & allied industries increased sharply despite the QoQ increase in prices.

Furthermore, revival in construction activities in both public and private sector resulted in a sharp increase in demand for cement and steel during the quarter. Cement sector benefited also from recovery in external demand as exports to North African countries showed a steep rise. Resource based industries, however, presented a mixed picture.

Where the low- value-added textile sector benefited from a good cotton crop and a simultaneous shortage of cotton globally, the local sugar industry suffered from lower sugarcane production. Nonetheless, it will be extremely challenging to sustain the growth seen in July-January FY10 period given the prevalent energy shortages in the country.

In addition to energy insufficiency, local manufacturers are also confronting the rising cost pressures, since electricity and gas tariffs have increased from January 2010. Furthermore, the rise in global commodity prices from Q2-FY10 has also put significant pressures on production costs. If manufacturers tend to shift the cost burdens on the consumers, demand may tumble as consumers' purchasing power has already been hit by rising food prices.

Prices: Inflationary pressures strengthened in the economy in recent months. Resurgence in inflation during recent months is mainly attributed to: (a) rise in the administered prices of energy and key fuels by the government, (b) depreciation of rupee, and (c) a temporary supply shock due to bad weather (fog) in Punjab. Moreover, relatively higher international commodity prices of sugar, rice and crude oil also fuelled inflationary pressures in the economy.

Specifically, headline CPI inflation fell to 13.0 percent YoY in February 2010 after bottomed out at 8.9 percent in October 2009. The surge in CPI inflation in recent months is principally contributed by rise in the prices of food items and administered prices of key fuels and electricity tariffs.

This is also evident in a lower core inflation measured by excluding food and energy items (NFNE) from the CPI basket relative to core inflation measured by 20% trimmed mean. While NFNE inflation registered at 10.1 percent, 20% trimmed mean inflation recorded at 12.4 percent in February 2010.

Relatively higher core inflation measured by trimmed mean also indicates that inflationary pressures are substantially broad based within food and energy sub-groups. This also points towards rigidity in inflationary pressures in the economy. More importantly, since inflationary pressures concentrated in food and energy sub-groups, this indicates possibility of strong second-round effects on the prices of other goods and services due to rising costs of production and increase in cost of living.

Money and Banking: SBP kept the policy rate unchanged at 12.5 percent in January 2010. This was because of rebounding inflationary pressures, lingering risks on external current account though reduced from last year level and persistent weakness in the fiscal account.

In terms of monetary aggregates, growth in Broad Money (M2) accelerated to 5.7 percent during July-February FY10 from 2.0 percent in the corresponding period of FY09. This improvement resulted entirely from an expansion in net domestic assets (NDA) of the banking system on the back of strong rise in private sector credit and increased recourse of government to finance its deficit from the banking system.

On the other hand, trend improvement in the external account visible since December 2008, has started to reverse from October 2009 onwards. Resultantly, NFA of the banking system recorded a depletion of Rs 46.6 billion in July-February FY10; though much lower compared to last year's contraction.

Deposit mobilisation by banks shows some recovery since deposits recorded a growth of 4.6 percent during July-February FY10 in sharp contrast to the previous year when the deposit base contracted by 0.6 percent. The trend decline in private sector credit, visible for twelve consecutive months, reversed from October 2009 as (1) the demand for seasonal finance (ie cotton, sugarcane and rice) picked-up, and (2) a mild recovery was seen in domestic demand. Consequently, cumulative credit to private sector grew by 4.7 percent during July-February FY10; slightly lower than the growth seen in the corresponding period a year earlier.

Fiscal Developments: Key fiscal indicators improved in Q2-FY10 over the previous quarter, bringing the cumulative fiscal deficit for H1-FY10 to 2.7 percent of annual estimated GDP. This figure is consistent with the SBP forecast of budget deficit for the year. The improvement in revenue growth during Q2-FY10 is largely due to increased direct tax collection.

This was to be expected given that the traditional first quarter receipts had been pushed into the second quarter following extension of the deadline for filing income tax returns. Moreover, tax collection was also helped by a revival in the economy and rise in rupee value of imports.

On the expenditure side, the government was able to contain growth in total outlays during Q2-FY10. However, given the rigidities in current expenditure on account of the need to address build-up of energy sector circular debt, security related expenditure etc, the government has little choice but to cut development spending if pledges by FoDP are not realized and lags in reimbursement of Coalition Support Fund continue.

Balance of Payments: Improvement in the overall external accounts recorded during Q1-FY10 could not be sustained in the ensuing months (October-February). Considerable YoY decline in financial inflows during the latter period and trend reversal with regard to the improvement in CA deficit witnessed earlier led to a noticeable deterioration in overall external account during this period. Nonetheless, overall external account recorded sizeable YoY improvement for the aggregate July-February FY10 period.

Deterioration in the current account deficit during October-February period was contributed by both an expansion in the trade deficit and a contraction in invisible account surplus. On the financing side, the decline was primarily due to fall in net foreign investment flows.

Significant fall in foreign direct investment along with payment of Sukuk bond worth US $600 million resulted in 61.2 percent decline in net foreign investment during the period under review. Furthermore, inflows from IFIs also remained subdued in the latter months of current fiscal year.

The pressures on the country's reserves during July-February FY10 were visibly lower owing to improvement in the overall external account balance during this period. As a result the country's overall reserves climbed to US $15.1 billion against US $10.6 billion in the same period last year. The foreign exchange market also exhibited relative stability, and the exchange rate depreciated by only 4.3 percent during July-February FY10 compared to 14.5 percent in the corresponding period last year.

Trade Account: Pakistan's trade deficit contracted by 19.5 percent YoY during July-February FY10 as compared to a fall of 6.2 percent during the same period last year. This contraction was largely on account of a fall in the import bill which was supported by a marginal rise in exports.

The compression in imports was entirely due to price impact which outpaced the rising import quantum. However, with price impact also turning positive from December 2009 onwards, import growth has started to rebound. As far as exports are concerned, the recovery was observed both in textile as well as non-textile sectors particularly in Q2-FY10.

Revival in external demand for textiles coupled with good production of cotton resulted in an increase in exports of low value added products. In non-textile sector, quantum growth for the fuel group in particular was remarkable during the period under review with major contribution coming from rice and fruits.

(Alongside the executive summary of Second Quarterly Report for the year 2009-2010 of the Central Board of State Bank of Pakistan.)

Source: http://www.brecorder.com/index.php?id=1037669&currPageNo=1&query=&search=&term=&supDate=