State of the economyPublished: June 6, 2009 THE third quarterly report of the State Bank of Pakistan on the state of the economy indicates a bumpy road ahead and should serve as a warning against complacency. Despite a number of positive developments, the message delivered is that the economy is still not out of the woods and faces a number of vulnerabilities. The country has reaped bumper wheat and rice harvests and there is a likelihood of good production in the minor crops also, thanks to good weather and, in the case of wheat, timely announcement of the new support price. It is heartening to note that the headline inflation, measured by CPI, dropped to 17.2 percent on Year on Year basis in April 2009 from its peak of 25.3 percent YoY in August 2008. What is real good news is that there has been a sharp downturn in food inflation, which fell from its YoY peak of 34.1 percent in August 2008 to 17.0 percent in August 2009. This would provide a modicum of solace to low-income groups. It is also good to learn that current account deficit narrowed substantially with a corresponding stability in the exchange rate. Further, fiscal discipline was maintained leading to hopes that GDP growth would narrow to 4.0 to 4.5 percent this financial year from 7.4 percent last year, though the report notes that the target might be tough to meet. There are however numerous deficiencies that need to be overcome if the growth rate, lowered to between 2.0 and 3.0 percent from the previous estimate of 2.5-3.5 pc, is to be met. Three major indicators point to underlying weaknesses which, if not addressed, could hamper economic recovery. These include a stubbornly high inflation, a massive deterioration in the external account and a declining industrial output, especially in the Large Scale Manufacturing sector which has suffered an output fall of 7.7 percent over the last nine months. Besides the internal vulnerabilities, there are other possible shocks that the economy would find hard to bear. Foremost among these is any big rise in the price of oil, an issue that continues to worry even the US and was taken up by President Obama with Saudi King Abdullah early this week. The State Bank rightly underlines that any reduction in the social sector development would be detrimental to human and physical infrastructure. The NEC on Thursday approved the highest ever Rs 621 billion PSDP for 2009-10. What is worrisome is that the Chairman Planning Commission hopes to use foreign inflows of around $2 billion to further enhance the PDSP. Relying on promises of foreign assistance is like skating on thin ice. One hopes the government will not this time treat the PSDP as the first item to be axed in case of a revenue shortfall.