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COVID 19: poor economic impact on the cards

COVID 19: poor economic impact on the cards

The coronavirus (COVID-19) outbreak has already led to a major health crisis worldwide and is a major disruptions of the global economy. The situation is likely to become even worse in the coming weeks and months, and the economic fallout from the pandemic might represent one of the biggest shocks of recent centuries. International business have already come under pressure as the existing system is chocked and a lot many loop holes have been identified in the system. Some analysts expect a major reshuffling of the global production network as a result of the pandemic, which was already triggered by the US-China trade war. As per a study; there is a consistent decline in production growth, indicating an overall economic slowdown due to COVID-19 crisis.

Pakistan’s economy was already struggling and was short of the targets of current fiscal year. There is no doubt that like many other countries, COVID 19 has badly affected the economic and financial position of Pakistan. It can take years to recover from the impact, if appropriate actions are not taken and proper strategy is not made. One of the biggest risks Pakistan is facing these days is the revival of informal economy. Government has tried to eliminate informal economy and is under pressure from FATF as well but this new crisis can hamper the efforts. People can conceal their income, businesses can understate their numbers so as to avoid paying taxes. Country wide lockdown has put many people out of work, on one side this lockdown is necessary and on other it is disturbing to see many people struggling to meet their ends meet. Post COVID 19, people of Pakistan should also change their spending habits and must go back to the basics. A lot of people don’t save, it is also true that they don’t have enough to save but one must try to save even if in small portion, whenever and wherever possible. Excess spending or spending on luxury items or spending unnecessarily should be stopped and discouraged. Import of all luxury items should be blocked and government must crush smuggling forcefully. These two steps can help Pakistan big time. In addition; government should give tax incentives to new factories and encouraging companies to manufacture goods in Pakistan. Government should also review all sectors and remake its policies accordingly. This huge challenge has also given an opportunity to Pakistan to restart its economy with a different approach.

As a matter of fact; three main channels of the economy have been disrupted; demand, supply, and finances. On the demand side, reduced income will result in lower private spending. In short to medium term; a lot of economic meltdown is expected in Pakistan. There is no short of supply for the necessary items in the country at this moment. Most of the industry is shut down; and will face difficulty in running their units at a full capacity post lockdown. It is not easy to run a manufacturing unit at less than its full capacity. There are certain fixed costs, which remain static even if factory is running less than its full capacity therefore, units try to run their units at full capacity most of the times so that fixed cost per unit could be minimized. In the current situation; it would put further pressure on the factories and chances of their collapse is quite high. Then there is a supply side; it will also have a negative supply side effect, mainly attributable to a sudden halt in the manufacturing activities thus resulting in bottlenecks in value chains. If left unaddressed, such disruptions will in turn trigger widespread factory closures due to the lack of intermediary inputs. Lastly; demand supply meltdown will put pressure on the industrial units and thus will hamper their ability to repay debt to banks thus will then effect the banks to recover their loans, which can ultimately lead to defaults and write off of loans in medium to long term.

A substantial increase in unemployment in Pakistan seems almost certain. It is being said that the pandemic will not only affect those workers with the underlying health conditions, but young people are also vulnerable to this attack. It is being said that over 10 million people are already out of work in Pakistan now due to lockdown in the country. This number will further go up in coming days and weeks. Another issue which will immediately pop up once lockdown is over; that is decrease in salaries of employees. A number of companies in Pakistan have already issued orders in this respect. They are cutting salaries by at least 30 percent due to COVID 19. Whether their business is effected or not; there are people in the market who always try to exploit the situation. So, employees will not have any option but to accept the pay reduction.

The pandemic has already triggered capital flight and a sharp reversal of international investment from Pakistan market is quite evident. State Bank of Pakistan has reduced interest rates and hot money has already left the country. Due to high outflow of temporary capital; dollar rate appreciated around 11 rupees in just one month. The same trend of capital flight is being seen in Group of 20 emerging markets including China, India, South Africa and Brazil as well. This capital flight has reignited fears that countries such as Argentina, or even South Africa, could be sliding toward insolvency and default soon. This could be further accelerated by currency depreciations in these countries. Situation in Pakistan is not different. Pak Rupee is already dropped by 10 rupees against US Dollar due to investors pulling out money. There is a high possibility of companies facing bankruptcy. This situation requires urgent attention from policymakers and from international decision makers and institutions.

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The effect of the pandemic is similarly dramatic when we look at foreign direct investment (FDI). Over two-thirds of the 100 multinational companies tracked by UNCTAD have issued statements on the effects the virus has had on their business. Many are reducing capital expenditure in affected areas, and to date, 41 have issued profit alerts. Lower profits translate into lower reinvested earnings, a major component of FDI. A wider sample of the top 5,000 listed companies shows that the earnings forecasts for the fiscal year 2020 have been revised down by an average of 30 per cent. The hardest hit sectors are the energy and basic materials industries (-208 percent for energy, with an additional shock caused by the recent drop in oil prices), airlines (-116 percent) and the automotive industry (-47 percent).

One sector which will get the pressure most and is not under discussion as such so far is the Insurance Sector. Most of the businesses will apply for business interruption globally; businesses are paying business interruption premium over years but never claimed. Now businesses will put forward business interruption claims due to COVID 19; which most probably insurance companies will not entertain. In this situation; governments might have to make it obligatory for all the insurance companies to clear the business interruption claims. This can chock the insurance companies system big time. In Pakistan; insurance sector works differently and not all businesses get insurance therefore, it is too early to predict the impact of COVID 19 on insurance sector in the country.

Countries that rely on equipment and components from regions affected by the virus may experience disruptions in the production process. Demand for manufactured goods could reduce as a consequence of the pandemic. This usually occurs for two reasons; first, the tendency to consume decreases people tend to prioritize saving over spending. Second, firms that are experiencing disruptions in the production process may decrease their consumption of intermediate goods.It is being observed that the hardest hit countries account for majority of global GDP, manufacturing production and exports. Furthermore, the mitigation policies to be introduced will result in a global slowdown in aggregate demand. Global supply chains will fundamentally change many aspects of supply and demand preposition. As industrial parts and components are increasingly traded, a supply shock in a globally integrated economy is likely to create ‘supply chain contagion’ via the trade in intermediate goods. From the supply side perspective, production is affected on one hand because of reductions in labor supply as a consequence of number of workers infected thus reducing the number of people available to work, while value chains are disrupted as well on the other.

Pakistan being an underdeveloped country will mainly be affected indirectly as it is highly dependent on developed countries and its exports and imports are mainly with those countries which are badly affected. In recent days; federal government has started to take action to deal with the economic ramifications of this crisis. A PKR 1.2 trillion (USD 8 billion) economic plan has been unveiled with a focus on minimizing the economic damage on vulnerable segments of the society. Under this program, direct cash support will be provided to 10 million households in the coming weeks. Secondly, 3 million additional households will be identified through National Socio-Economic Registry (NSER) and given a cash transfer of PKR 3,000 per month for the next four months. The government has plans to identify an additional 2.5 million households and verify them through local district administration. Once verified, these households will also be provided financial support by the federal government.In addition, the government has also announced support funds for businesses, which includes PKR 100 billion in tax refunds and an additional PKR 100 billion in deferred interest payments. SBP has cut interest rate by 400 basis points so far in last 5 weeks, giving breathing room to both the federal government and to businesses facing cash flow problems. There is no doubt that coming days are the most difficult times of our time. In this unprecedented crisis, we need to show maturity and all those who can afford, must show responsibility and must support the needy. Let’s convert this challenge into an opportunity to make Pakistan a better place. If we work honestly and diligently, we can revive the economy of Pakistan; honesty is the key to success. Someone wrote somewhere; “In weeks, not months, but weeks, I will know whether I’m a statistic, or a survivor”. Stay home, stay safe.

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