The National Security Policy 2022-2026 is Pakistan’s first national security policy document that prioritized economic security at the core. The policy emphasizes on the complements of the geo-economic paradigm to the geo-strategic approach. The policy stresses that the national resource pie can be expanded by achieving sustainable and inclusive growth. To achieve medium-term economic goals, the policy stresses a favorable position of economic indicators, especially focusing on higher foreign exchange reserves which ensure the economic sovereignty of Pakistan. As stated by PM Imran Khan, the “state’s security is compromised when it has to intermittently seek the support of the moneylender.”
In the NSP, section 4, related to ‘Securing Our Economic Future’ highlights the ‘external imbalance’, which is a result of higher foreign outflow as compared to inflow. This higher external imbalance curtails the foreign exchange reserves of Pakistan, which in turn puts economic sovereignty at stake.
A higher level of foreign exchange reserves is a strength of an economy and also ensures economic stability as well as proper functioning of the financial market. The foreign exchange reserves of Pakistan always remain under pressure due to the incidence of the available stock lower than the threshold level of three months’ imports. It is suggested that if a country is engaging in international trade, its central bank is to hold in reserve at least three months of imports. The current level of total foreign exchange reserves is $22.3 billion as of November 2021. This is lower than the foreign exchange reserves of Bangladesh which were $44.8 billion in the same period.
The major and stable source of foreign exchange of Pakistan is exports, remittances, and FDI. While foreign aid and portfolio investment are not stable sources of foreign exchange inflow, for favorable foreign exchange reserves, there is a need for a raft of policy measures to increase the inflow and decrease the outflow of foreign reserves. Therefore, it is imperative to discuss the factors affecting the foreign exchange reserves of Pakistan.
The exports of goods and services of Pakistan fell from $30.7 billion in 2013 to $26.2 billion in 2020. While the export potential of Pakistan is $88.1 billion, and replete this gap may turn up the creation of 893,000 new jobs and $1.74 billion addition in taxes. The current level of exports is lower than the potential due to; lower productivity of Pakistani firms hinders creating domestic surplus—for exports. Moreover, overvaluation of the rupee also makes the exports less competitive in international markets. Second, limited access to the export market and higher import tariff curtails exports. Third, insufficient supporting services for long-term financing to expand the capacity and lack of market intelligence services in getting new export contracts is also a factor.
Remittance is the second important and stable source of foreign reserves of Pakistan following the exports of goods and services. According to the annual report of the State Bank of Pakistan (SBP) on ‘State of the Economy 2021’, the annual receipts of remittances was $29.4 billion in FY-2021. However, according to recent research, the estimated size of remittances from the informal sector (hawala/hundi) was $10.9 billion in 2018. It implies that discouraging the practice of informal sector receipts can add more than $10 billion in the foreign exchange inflow annually. For this purpose, the government needs to undertake a strict regulatory framework and effective law enforcement. Moreover, lower costs on remitting money, financial inclusion, and the availability of formal financial services can play an imperative role in this regard.
The inflow of foreign exchange through FDI to Pakistan is $1.9 billion in 2021, while the estimated potential to receive FDI is equivalent to 3 percent of gross domestic product (GDP) compared to less than 1 percent at present. The potential level of $9 billion can be tapped by a dedicated effort towards improving the ease of doing business, political stability, and the establishment of special economic zones. The presence of Pakistan in the FATF grey list is also responsible for reduction in FDI.
The composition of imports lowers foreign exchange reserves. The current level of imports of goods is $53.8 billion in FY-2021 which is more than two-fold of exports of goods; witnessing a higher trade deficit. It is well known that growth and the productive capacity of a developing economy depends on the imports of technology, oil and essential inputs. In the case of Pakistan, the share of consumer goods and raw materials for consumer goods in total imports is more than 60 percentage points which needs to be rationalised. Besides this, around 40 percent of electricity production in Pakistan is oil-based, and 25 percent is gas-based. The increase in demand for electricity in the economic recovery phase further drove imports up. Therefore, it is required to shift to renewable sources of energy to lower the import bill.
On the basis of the discussed measures, Pakistan can tap its potential to raise the level of foreign exchange reserves by more than $50 billion, which could ensure economic sovereignty and stability.