Pakistan’s President has announced that his government plans to tax the rich to help the poor i.e. flood-hit people. This sincere initiative is a happy development which should be appreciated but will the rich and mighty pay up or will they live up to their reputation of plundering but not paying back. Pakistan’s floods have placed the country at the head of a bumpy road ahead when the country is forced to make tough choices. To start with, Pakistan’s Central Bank has jacked up the interest rate which will have many implications for the flood-hit fragile economy, but the question is: did the new Governor who is an economist of international standing, have any other viable option? Businessweek in its current issue has reported that Pakistan’s deadliest floods ruined crops alone worth 281.6 billion rupees ($3.27 billion), destroying rice, cotton and sugar. And this is one of multiple official versions this time coming from the horse’s mouth, the Agriculture Minister himself. However, the floods have damaged about 10 million tons of crop, which Credit Suisse values at about $1.9 billion.
In this backdrop when Pakistan’s major contributor to the GDP has suffered so badly, the inflation was already out of control and the Bretton Woods sisters had no mercy on the devastated economy and battered populace, this was probably the only thing in his power that a Central Bank governor could do to arrest the inflationary trends. Wall Street Journal has reported that it’s a decision he had to make with incomplete information. Total assessments of the damage to Pakistan’s economy from floods that began in July are still pending….He chose right. The State Bank of Pakistan on Wednesday raised its policy rate by half a percentage point to 13.5%.
The paper says that holding off would have meant a risky delay of action against a worsening inflation problem. Consumer prices in Pakistan have been rising too fast for three years, with gains close to a 12% rate throughout 2010. The floods will amplify the problem, but floods aren’t the only source of a price shock in Pakistan. Islamabad is under pressure from the International Monetary Fund to increase electricity tariffs and raise general sales taxes and import duties—all of which would add fuel to the inflation problem. Not taking these steps could have the country miss out on a $3.2 billion IMF payment due by the end of this year. Pull it all together and economists at Standard Chartered expect inflation to average 15% in the fiscal year that began in July.
Then there’s the fragile state of Pakistan’s economy. Flood damage means Pakistan’s critical agriculture sector will contract 1.7% this fiscal year, the sector’s first decline in a decade, Credit Suisse predicted. It means economic growth could slow to 2.5%, much slower than last year’s 4.1%, and a crawl by Pakistan’s standards. Add to this the infrastructure damage—from power plants to highways—and industrial growth, too, will suffer. The International Labor Organization estimates 5.3 million people will lose their jobs because of the flood. Raising rates, and promising to keep doing so, in such an environment is certainly not going to win Mr. Kardar any friends in the business community. But inflation is the more frightening of Pakistan’s economic challenges. Price stability is far more critical to Pakistan’s long-term growth. Foreign aid and remittances from overseas Pakistanis will ensure money flows into the economy.