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A few people reached out and asked to go into more detail and suggest possible solutions to the structural issues of agriculture in Pakistan. We will do that eventually with special features on each sub-sector. For now, we are collectively working toward building a broad based understanding of what the country is about along with the inter-linkages between various structural issues. This will all start to make more sense once we complete the ABCs of Pakistan series at Macro Pakistani.

What has caused the decline of manufacturing in Pakistan?

In Pakistan, the Industrial sector includes Mining (15%), Manufacturing (65%), Utilities (10%) and Construction (10%). We will first focus on manufacturing in Pakistan and then explore the other sub-sectors.

Large Scale Manufacturing makes up 78% of the manufacturing sector and is one of the most well documented sectors of our economy, publishing updates every month.

Small Scale Manufacturing makes up 12% and includes value added by SMEs in the manufacturing sector.

Slaughtering, interestingly enough, makes up 10% of the manufacturing sector. Remember GDP works on a value add basis. While cattle rearing is included in agriculture, slaughtering is the value add on top of that which is included in manufacturing.

How Asia Works

The Asian developing economy playbook is quite simple. First, develop a strong foundation for agriculture and then shift toward more value-adding activities. To improve value add, you focus on public investment in manufacturing, create a business friendly environment for entrepreneurs by protecting domestic industry and then force businesses to export and encourage competition.

Source: World Development Indicators

Over the last 25 years, Pakistan’s industrial productivity increased by 12% while it increased by 512% for China. That is an unfair comparison so it is not even included in the chart. Maybe India is a more realistic comparison. Like in agriculture, India has managed to double its productivity in the industrial sector. While other Asian economies have followed the playbook, Pakistan has had limited public investment in manufacturing and inconsistent policies concerning both ease of doing business and trade protectionism.

Make in Pakistan

The global comparison shows how Industrial value add per worker has lagged other developing economies until 2018. The performance in 2019 and 2020 of manufacturing has been even worse.

Source: Pakistan Bureau of Statistics (PBS)

Small scale manufacturing and slaughtering have actually grown at almost double the pace of Large Scale Manufacturing (LSM) since 2013. All this while, share of LSM has fallen from 11.3% to 8.9% of GDP and Pakistan has deindustrialized as a result. This fall has been in nominal terms but even in real terms (blue line), you can see LSM took a sharp dive 2018 onwards. Most will blame 2020 on COVID-19, but notice the line was trending downward even before the pandemic.

Let’s get real again

The primary reasons for this nosedive in real output of LSM are the PKR devaluation, rising energy costs and higher taxes. Lack of investment brought down productivity, the real effective value of the PKR kept decreasing and Pakistani goods became less competitive in international markets. Inefficiencies within the utilities sector did not allow energy costs for industry to fall, increasing their input costs and making them even less competitive. Additionally, the revenue starved government continued to increase taxes on the sector that already pays the most taxes.

Note: Change for 2020 is between Jul-May; Source: Pakistan Bureau of Statistics (PBS)

Each sub-sector has its own issues but Petroleum, Auto and Electronics were the hardest hit recently. You should also note that even though Textile and Food & Beverages have had lower declines, they make up the largest portion of LSM (check weight in QIM at the bottom of the chart) and hence even their relatively small declines have a major impact

They don’t care for us

As part of the developing economy playbook, I mentioned how the first step is public investment in manufacturing. However, our public sector has assumed no responsibility for the same. Private investment in manufacturing in Pakistan has been sluggish, focusing their energies on low-tech agriculture and housing.

Source: Pakistan Bureau of Statistics (PBS)

Apart from not investing directly in manufacturing, the government also borrows heavily from the banks, leaving little room for them to lend to private businesses. This ‘crowds out’ private investment and does the opposite of what organizations like the World Bank expect the public sector to do – public investment should be used as a policy instrument to ‘crowd in’ private investment and augment human capital to increase labor productivity.

Where does the money go?

Despite the public sector ‘crowding out’ private investments, manufacturing makes up the bulk of private sector financing in Pakistan. Money makes money so financing is typically required to improve investment returns.

Source: State Bank of Pakistan

Despite manufacturing making up 12% of our GDP, it takes over 60% of all loans to private businesses. As the biggest sub-sector, textile is responsible for 20% of these. However, these loans are typically to serve the short-term cash needs of businesses (working capital) and not for long-term fixed investments.

Source: State Bank of Pakistan

Investment in Pakistan is lagging behind because businesses are already cash strapped to pay for their short-term needs and cannot afford to lock up capital for long periods. This is despite the fact that long-term financing for export-oriented industries was available at subsidized rates for the last few years. Back when the policy rate was at 12.25%, the Long Term Financing Facility (LTFF) was available at 5% for textile and 6% for sugar, cement and power sectors.

Source: State Bank of Pakistan

Read the article below to learn more how these short-term cash worries have only worsened since the PKR devaluation and how everything makes everyone unhappy now. We will discuss next time how these cash worries are exacerbated for smaller businesses and how financing can play a role in fixing some structural issues.

Read the full article in the link below

What has caused the decline of manufacturing in Pakistan?

Sector overview of manufacturing in Pakistan in comparison with global benchmarks on declining value-add and importance of financing.

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Faiz AhmedJuly 25, 2020