Can Pakistan break free from its debt trap?
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Pakistan has avoided a debt crisis, but the country’s financial future remains uncertain. Despite successfully securing debt rollovers from friendly countries, which have temporarily eased pressure, Pakistan’s lack of a comprehensive strategy to generate foreign exchange is alarming. The reliance on short-term debt to pay off existing obligations risks leading to a dangerous cycle of borrowing. Foreign direct investment (FDI) and export revenues, which are important non-debt creating inflows, remain dismally low, further exacerbating the situation.
The country’s external debt is heavily concentrated among a few key creditors, including Chinese financial institutions, private lenders, Saudi Arabia, and the UAE. Some of it is high-interest and short-term, pegged to volatile international benchmarks, making Pakistan’s financial balancing act more precarious. The current reliance on debt rollovers from China, Saudi Arabia, and the UAE is not just a financial necessity but also a political signal of these countries’ confidence in Pakistan’s ability to meet its obligations. However, this is a short-term solution at best, as the extensions are merely maintaining the status quo, with long-term sustainability of debt still in question.
Pakistan’s macroeconomic environment further complicates its situation. Structural weaknesses, such as outdated production methods, limited product diversification, and high production costs, continue to undermine export competitiveness despite the falling value of the Pakistani rupee. The country’s export base remains narrowly focused on textiles, with insufficient value addition and a fragile industrial infrastructure, all compounded by inconsistent trade and industrial policies. The policy fragmentation has reached new heights with federal and provincial governments formulating their separate industrial and investment promotion policies. Furthermore, the lack of innovative financial products for the Pakistani diaspora and the erosion of their investments’ value further dampens longer term remittance flows, a key source of foreign exchange.
Pakistan’s lack of a comprehensive strategy to generate foreign exchange is alarming.
Vaqar Ahmed
Investor sentiment is increasingly wary, with both bilateral lenders and private investors questioning Pakistan’s ability to service its mounting debt. This lack of confidence could have far-reaching implications, potentially leading to a vicious cycle where higher risk premiums and short-term loans only deepen the debt burden for the future generations of Pakistanis.
Alarmingly, there is no clear strategy in place to address the debt challenge. While the government has expressed interest in exploring climate finance and other innovative funding mechanisms, these efforts lack the necessary institutional capacity and policy frameworks to be effective. Again, this is an area where consensus between federal and provincial governments seems missing. Provinces have gone ahead and formulated their own climate finance plans with weak implementation frameworks and at times not in alignment with federal governments’ global commitments.
Moreover, political instability in Pakistan continues to undermine economic reforms. Frequent changes in government and the lack of a unified economic vision hinder the implementation of long-term strategies that could stabilize the economy. Even the International Monetary Fund (IMF) now engages with multiple political parties to ensure their collective commitment to economic reforms, highlighting the depth of political volatility.
As we drive past the CPEC Special Economic Zones (SEZs), it is disheartening to see these zones, meant to be hubs of industrial activity and economic growth, largely inactive. These SEZs were expected to retire Pakistan’s debts through increased flow of export receipts. Instead of new factories emerging, there is an alarming trend in older economic zones of existing firms shutting down. The promise of SEZs as engines of economic growth and job creation is far from being realized, primarily due to the lack of clear, consistent, and supportive policy measures.
The absence of effective government communication and guidance further exacerbates the situation. Businesses are left in a state of uncertainty, with no indication of upcoming policy changes or support measures that could provide a lifeline to struggling industries. This vacuum of hope and direction has led to a loss of confidence among investors and industrialists, who see little reason to continue operations or make new investments. Most of this and past fiscal year was spent by most CEOs of small and medium enterprises to register their outfits and open bank accounts in UAE in hope of smoother business operations.
It is crucial for policymakers to not only introduce reforms but also actively engage with the industrial community, offering them hope for the future. Assurances that new policies are on the horizon could help stabilize expectations and encourage businesses to weather the storm in anticipation of a more favorable operating environment. This requires a coordinated approach that involves clear communication, policy consistency, and support mechanisms to revive industrial activity within these zones and fulfil their intended purpose.
The economic ministries under guidance of SIFC must urgently develop a long-term economic plan that insulates economic policy from political transitions, boosts non-debt creating inflows, and explores sustainable funding sources. Without such a plan, the country risks falling deeper into a debt trap, with severe consequences for its financial stability and economic future.
- Dr. Vaqar Ahmed is an economist and former civil servant.
