Changing its stripes Jul 6th 2006 From The Economist print edition Under General Musharraf the economy has turned more tigerish, but foreigners remain wary SHORTLY after his coup in 1999, General Musharraf unveiled a "seven-point agenda" to save the nation. He vowed to do all the right things: revive a sick economy, reduce corruption, rebuild national confidence and so on. But a year later he had made so little progress that The Economist labelled him a "useless dictator". Six years on General Musharraf is still in charge, and the economy has been transformed. In the financial year to mid-2005 it grew by 8.6%, the highest figure for two decades, followed by a 6.6% rise in the financial year just ended (see chart 1). The stockmarket index in Karachi has risen by over 1,000% since 1999. Pakistan has $13 billion in foreign reserves, up from $1.7 billion in 1999. The rupee is stable. Public debt as a share of GDP is 54%, down from 80% in 2000. One-third of the population is still poor, but at least the figure has not increased recently. In retrospect this newspaper's verdict of six years ago looks too harsh, but mainly for a reason that no one could have predicted. The Pakistani most responsible for the economy's brilliant turnaround, it might be argued, was not General Musharraf or his technocratic prime minister, Shaukat Aziz. It was an ethnic Pakistani currently in American custody, Khaled Sheikh Mohammed, the architect of the attacks on September 11th 2001. Before that day, Mr Aziz, then the finance minister, had been struggling bravely, launching a few liberal reforms, slashing import tariffs and energy subsidies, introducing a sales tax and stepping up privatisations. On the eve of the terrorist attacks on America, Pakistan had just about met the terms of an IMF programme, but investment remained low and debt high. In 2001 the economy grew by 2%, barely more than the population, and one-third of the budget went on debt-servicing. Then Mr Mohammed's plan came off, and Pakistan's world changed. America wanted Pakistan as an ally and was prepared to pay. It gave $600m straight up, promised to forgive $2 billion of debt and persuaded other creditors to go easy. Some of Pakistan's debt was already due to be rescheduled; America ensured that the terms were generous. In December 2001 the IMF agreed on a $1.3 billion facility. Meanwhile remittances rocketed, especially from Pakistanis in America, reflecting fears that Christian countries might freeze Muslim assets. Remittance flows also became more visible as America cracked down on the informal hawala money-transfer system, which it thought was being used by terrorists. This fiscal reprieve, combined with sensible reforms in the banking sector and plenty of spare capacity, provided the basis for Pakistan's burst of growth. As the economy recovered, capital flight was reversed, leading to speculation in land and stocks. Low interest rates and more readily available consumer credit encouraged middle-class Pakistanis to join the rush. Where they bought land, some built houses, contributing to a modest construction boom. Private consumption has more than doubled in the past two years as households have treated themselves to long-coveted durable goods. Last year they bought 600,000 refrigerators, against only 35,000 in 1999. Agriculture, which makes up 22% of the economy, has performed fairly well, thanks to helpful weather that boosted farm output in 2005 by 7.5%. Textiles, which account for 60% of total exports, have grown by 20% since global trade quotas were lifted at the start of last year, rewarding several years of heavy investment in the sector. This is a hopeful time for Pakistan. But the country has been here before. In both the 1960s and the 1980s, the economy About sponsorship sustained annual growth of over 6%. Those periods, too, saw military rule---which brought relative stability---and lashings of aid dollars. The first general in charge, Ayub Khan, managed the economy well; the second, Zia ul-Haq, did not, but was also blessed with a rush of remittances, from the Middle East. Both periods were followed by a decade of civilian misrule during which donors and investors withdrew, growth dropped to 4%, and millions of people were pitched into poverty. Will General Musharraf leave behind a more solid basis for growth? The good part He might. Since 1999, his government has privatised $5 billion-worth of assets. It has doubled the number of taxpayers, albeit from a pathetically low base of 1m. It has simplified the tax system, a bit: according to a World Bank survey published last year, the average entrepreneur was still stung for 32 separate payments, equal to 57% of his gross profits. The government has made itself much more accessible to businessmen, who mostly sing its praises---especially those who are also in the government. It gets particularly fervent support from the sugar industry, which is protected and almost entirely owned by politicians operating a cartel. The government has also promised, in the budget unveiled on June 5th, to double spending on development (things such as health and education) to around 5% of GDP. This is not a bad record, especially when compared with that of General Musharraf's predecessors. But if he is to fulfil a pledge to cut poverty significantly, he must maintain the current level of growth. The government has set its latest target at 7%, but that looks impossible. Investment, at around 20% of GDP, is still lower than it should be. Although foreign direct investment last year was an encouraging $3.5 billion, or about 2.7% of GDP (see chart 2), this was boosted by privatisations. A lot of foreign money also went into telecoms, where profits come through quickly. Savings account for a modest 15% of GDP. The consumer boom---along with high-cost oil, of which Pakistan has little---has caused imports to double in the past four years. Exports, dominated by low-value textiles, cannot keep up. Last year, the trade deficit widened to $11.5 billion. To finance it, the government will have to eat into its foreignexchange reserves, and eventually may have to devalue the rupee. But this will exacerbate another ugly effect of consumerled growth: inflation. Currently at 8%, it squeezes the poor. In Lahore's Anarkali bazaar, Mohammed Javed, a third-generation goat-head salesman, is grumbling. He reckons that four years ago he sold 200 heads a day at 25 rupees each; now he struggles to sell 20 at 60 rupees each. His explanation: "The poor can't afford meat, only dal and rice." Other traders tell of similar woes, and auto-rickshaw wallahs are idle---unable, they say, to find customers at the price they must charge to cover the increased cost of petrol. Only Nasir Anjam, a mobile-handset salesman, is doing well: "We're the latest fashion; even beggars are buying my phones," he says. The hard bits To sustain 7% growth, Pakistan will need much more foreign investment, but there are one or two reasons why this will be difficult. For a start, Britain and America, Pakistan's biggest donors and portfolio investors, advise their citizens not to visit the country because there is a risk that they might be killed by Islamist militants. Since 2002 America's State Department has forbidden the families of its diplomats in Pakistan to visit them. Several American diplomats have been murdered in Pakistan, most recently in March, in a suicide bomb attack near the American consulate in Karachi. All this conveys a skewed picture of life in Pakistan, with its thronged beaches in Karachi, classy fashion shows in Lahore and embarrassingly generous hospitality everywhere. But it is not inaccurate. Those businessmen who brave the risks face other problems too. In the cities, and especially in Karachi, there is not much in the way of law and order. The rich can shield themselves from bother, by buying private security or favours from policemen, but their workers cannot. Justice is also for sale, but this takes longer. The World Bank recently rated Pakistan 134th among 155 countries for ease of enforcing contracts, which on average took 395 days. Salman Raja, a commercial lawyer in Lahore, thinks these figures are optimistic. He says that many straightforward disputes take a dozen or more years to settle. Sometimes a plaintiff despairs of the whole process and shoots his adversary dead. Straightening out Pakistan's police and judiciary were also on General Musharraf's priority list. Both featured in a complex package of local-government reforms introduced in 2000, but neither emerged much the better for it. The general scrapped the post of deputy commissioner, a powerful civil servant who ran the police and served as magistrate at the district level. In his place, he created an elected mayor, or nazim, who was charged with overseeing a more autonomous police force. Judicial responsibility passed to professional judges, who were also subjected to a massive clean-up designed, run and paid for by the Asian Development Bank. Similar changes were made at the higher provincial level. On paper, these reforms looked fine, but they soon ran into a sludge of vested interests. General Musharraf's political supporters have rigged local elections to ensure the election of nazims loyal to the government. And local and provincial politicians now have direct control over the police, which is helpful for winning elections but not for building an independent police force. In the matter of judicial reform, the vested interests are General Musharraf's. In 2000 he dismissed 13 senior judges. He then got the remaining top judges to decree that his coup was not, after all, treason for which he must hang, but perfectly legal and necessary. Loyal senior judges remain useful to the general in many ways, especially at election time---which may be one reason why he has not attempted to reform the high courts. Such political legerdemain is an indictment not only of General Musharraf but of Pakistani politics as a whole. Unlike his civilian predecessors, the general has at least made a serious attempt to improve the country's rotten institutions. His next target for reform is education, which is in a desperate state. Half of all Pakistanis are illiterate. That may include some teachers, who are also political appointees. In a recent survey of 15,000 schools in the Punjab, the education ministry found that in 4,000 of them no teacher was present. Mr Aziz, a tireless salesman, is right to point to Pakistan's cheap and plentiful labour as a potential tool for sustained high growth; but those workers would be even more useful if they could read. To that end, General Musharraf has pledged to double education spending as a share of GDP, to 4%. But it will take more than cash. For example, thousands of useless teachers will need sacking---the sort of political challenge the general has shirked in other areas. Nor do all of Mr Musharraf's political allies actually want their compatriots to be educated. One minister, a rising star, was recently overheard vowing to stop any school being built on his land in Punjab; he feared that bookish serfs might demand a decent wage. Copyright © 2006 The Economist Newspaper and The Economist Group. All rights reserved.
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