SUPERIOR UNIVERSITY LAHORE

Impact of trade on Economic Growth

Case study of Pakistan
Shamsher Khan M.Tanzeel-e-Rahman khan Zaeem munawar Arslan Khalil Riasat Ali Nayab saleem 10/2/2013

M.Tanzeel-e-Rahman khan Zaeem munawar Arslan Khalil Riasat Ali Nayab saleem

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Shamsher Khan Additional Director National School of Public Policy NMC Lahore.

Assignment topic: Impact of economic indicators on growth and development. Presented to: Miss Zahra

Impact of trade on Economic Growth

Abstract: The article illustrates that during 1960s came in a wave for developing theories, models, strategies and plans for economic development. Trade was considered as engine of growth. Pakistan also experienced development strategies based upon trade promotion. In later part of its economic history econometric analysis proved insignificance of role of trade and development but it was not so simple to defend so since there had come up multiple other factors which lead to depress the economic growth, hence the importance of trade does not get mitigated. There are various policy options to implement for correcting the economic imbalances that will insure effectiveness of trade contribution towards growth.

Introduction
Theoretical Framework
After the World War II there was need for rehabilitation, reconstruction and development so International bank for reconstruction and development IBRD was found .Economic growth became the most desired pursuit of all developing economies which aspired to match up with the developed world for their survival, so the economists are interested in finding the causality pattern (models) of growth determinants in order to design the growth strategy for their economies. The thesis that the trade is an engine of growth is true for most of the economies. Pakistans experience supported this thesis especially in its early development phase. Now the country has started experiencing the otherwise lower GDP growth rates consistently. This should not be taken as reversal of the thesis. In fact this situation should be viewed in the emerging scenario of multiple new factors which exert their depressing influence upon the growth rate.

It is well known that economically developed countries have the capacity increase national income, to reduce poverty level, improve their living standards, strengthen their socio -economic institutions, preserve natural environment and achieve political stability. After the World War II, many countries adopted very aggressive pattern of growth, while some of the most recently emancipated countries still strive to cope up with the modern standards of development so they are working to improve their real GDP. Since 1960, development studies have identified significant determinants of economic growth. There is a large part of economic theory that analyzes the causal relationship between trade and economic growth. The relationship between trade openness and growth is a highly debated topic. Generally the expansion in trade assumes the role as the main determinant of economic growth, so an increase in exports &/or imports leads to an increase in economic growth. However, the trade and growth relationship is influenced by some other indirect factors which have to be kept in view in drawing conclusions on case to case bases.

I-Trade Promotes Growth

The effects of trade on economic Growth
Trade can be a key factor in economic development. The prudent use of trade can boost a country's development and create absolute gains for the trading partners involved. Trade has been touted as an important tool in the path to development by prominent economists. However trade may not be a panacea for development as important questions surrounding how free trade really is and the harm trade can cause to domestic infant industries come into play. The empirical literature shows that trade openness or liberalization affects output growth. Most of the studies have concluded that the openness of the trade regime has positive relation with GDP growth Most of the studies have concluded that the openness of the trade regime has positive relation with GDP growth. Edwards (1998) used comparative data for 93 countries to analyze the robustness of the relationship between openness and total factor productivity (TFP) growth for the period1980 to 1990. This relationship suggests that more open countries will tend to experience faster productivity growth than more protectionist countries.

Trade effecting economic growth in Pakistan

Case of Pakistan: At the time of independence Pakistan inherited almost little industrial base. Export of agriculture commodities mainly cotton and jute played dominant role in earning foreign exchange hence importing capital goods for raising the industrial base in the economy. Export bonus scheme was introduced as incentive to promote the trade. Pakistan Industrial Development Corporation (PIDC) played its pivotal role in financing capital goods imports for setting of industrial units. The country grew in terms of GDP and experienced as high growth rate as 10.20% (1953-54) and 9.8% (1969-70) .The economic development got consolidated through Imports Substitution Scheme; resultantly the industrial base of the country underwent visible transformation. The role of agriculture which used to be the mainstream of the economy started diminishing and giving way to the industry and services in the GDP structure. Policy of Trade Liberalization: The past decade has witnessed an unparallel opening and modernism of the economies in all regions, encompassing deregulation, demonpolisation, privatization and private participation in the provision of infrastructure, and the reduction and simplification of tariffs. An integral part of the process there has been the liberalization of foreign investment (FDI) regime. Pakistan has gradually liberalized its trade regime especially after 1988, when the government accepted the first IMF Structural Adjustment Program. After 1995, this policy gained greater momentum and WTO related compliances have induced Pakistan to reduce import duties and eliminate various subsidies. In case of Pakistan it has been found that the growth impact of FDI tends to be greater under an export promotion (EP) trade regime compared to an importsubstitution (IS) regime over the period 1970-2001. The effect of FDI in import substitution industries may be different from those of export oriented industries since former target mostly the limited domestic market, while the latter target the larger international market. Moreover, it is more likely to generate more employment and, therefore spillover due to the expected larger production capacity associated with larger market. FDI can stimulate human resources development through investment in education and training. This enhances the stock of human capital, and increases productivity of labour and other factors of production. In short, these finding suggest that Pakistans capacity to progress on economic development will depend on

her performance in attracting FDI. Pakistans outward looking development strategy must include FDI as an essential part in addition to export promotion strategy.

II- Declining Significance of Trade

Relationship of Trade and Growth
In case of Pakistan for the period ranging from 1972 to 2002, however the Engle Granger Causality tests showed insignificant relationship between trade growth and GDP growth, while investment growth was found to have a significant relationship with GDP growth. Johansan cointegration test identifies one co-integration equation which follows. YG = b0 + b1TG + b2IG + b3PG + e ; where YG refers to GDP growth, TG to trade growth proxy for openness. Regression: LGDP95 = - 0.198LT + 0.235LRINV + 2.045LPPO - 1.29; given the statistics value (-3.23) (4.32) (8.45) Equation shows that all the independent variables are significant. There is negative long run relationship between GDP and trade liberalization, the coefficient defined that a 1% increase in trade volume would decrease the GDP by 0.198%. The relationship between GDP and investment is found to be positive and indicates that a 1% increase in investment would increase the GDP by 0.235%. The population variable was also found to be positive. However the above conclusion is obviously based upon the limited model, while we live in the practical world involving simultaneous causality of multifarious factors, which must not be ignored too. We have used the model of Sinha (2000) which states that the GDP growth has three growth components, namely; trade growth, population growth and investment growth. The volume of trade (import plus export) is used as proxy of openness. He derived the following equation. YG = b0 + b1TG + b2IG + b3PG + e (1) where YG refers to GDP growth, TG to trade growth proxy for openness , IG to Fixed Investment growth and PG to population growth, while e is the error term. The studies referred above estimated the effect of trade openness on GDP growth for several Asian countries including Pakistan. The data for Pakistan was from 1952 to 1992. During these years the Pakistani economy was not very open and in 1971-72 a major change occurred when
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Pakistans east wing was separated. To overcome these problems we have collected the data from 1972 to 2002. The results are shown in next section, are quite different from Sinhas study.
The main objective of our study is to find the causality between trade growth and GDP growth. Iqbal, Baig and Tahir (2002) found that policy liberalization leading to an increase in imports may lead to a growth of output. Moreover, Iqbal, Tahir and Baig (2001) argued that import of Pakistan is mostly consisting of intermediate goods (petroleum, machinery, chemicals etc.) which are conducive to output growth, so the impact of import growth on output is positive.

III- Ignorance of the Role of Other Factors

The net role of trade in economic growth given the interplay of other factors in the development scenarios has to be studied in its true perspective. It strengthens the fact that just trade is not the only factor behind economic development but the very composition of trade and their determinants in the socio economic and political fabric play very significant and critically dynamic role in shaping the pattern of development as well as the overall growth behavior of the economy. It can be safely concluded that the model of trade growth relationship must not be unilaterally depended upon just the few direct variables but it have to consider the complex interplay of the other significant factors like policy decisions too, in order to arrive at the truly pertinent and holistic view of the prevalent phenomenon under review.

Problems in Trade structure of Pakistan.

Case of Pakistan: Recently the slant of the political government has noticeably favored the strengthening of agricultural community at the cost of industrial community. Terrorism, political instability, deteriorating law and order situation in Sindh and Baluchistan provinces and energy shortfall in the country has contributed towards curtailment of development finance hence investment and the economic growth. These factors have resulted in closure of industry, disturbance in the trade pattern, increasing weight of export of commodities and imports of consumer goods. Not to speak of promotion of capital goods, these circumstances have hampered the export of traditional manufacturing sector too. Nowadays Pakistans economy is trapped in low investment and low income growth equilibrium and revolves around the rate of 3% GDP growth.

IV- Conclusion and Suggestions

If Pakistan adopts the policy of stabilizing the fiscal imbalance and get rid of foreign indebtedness, promote investment in manufacturing sector attract FDI, promote technology and training, export of manufactured goods and import of capital goods the thesis trade is engine of growth would prove true for the country. The agriculture is highly susceptible to vagaries of the nature so experience setting in of the law of diminishing returns very soon so the growth is more confidently expected from the contribution of manufacturing sector that feed to the export promotion and import substitution. The next potent sector is that of services that accounts for more than 50% of the GDP structure. In the context of emerging trade pattern of globalization Pakistan can benefit profusely from the trade of financial, transport, defense, communication and other services too.

References:
1- Ministry of Finance ,Government of Pakistan. PAKISTAN ECONOMIC SURVEYS:

2- GDPinflation.com http://www.gdpinflation.com/2013/06/pakistan-gdp-and-gdp-growth-rate-from.html

3- Siddiqui. A.H, The Federation of Pakistan Chambers of Commerce & Industry and Iqbal. J, Department of Statistics,University of Karachi IMPACT OF TRADE OPENNESS ON OUTPUT GROWTH FOR PAKISTAN: AN EMPIRICAL INVESTIGATION Market Forces April 2005

4- Chaudhary. M. A Qaisrani. A.A. TRADE INSTABILITY, INVESTMENT AND ECONOMIC GROWTH IN PAKISTAN Pakistan Economic and Social Review ,Volume XL, No. 1 (Summer 2002), pp. 57-73

5-Atique. A Ahmad. M.H and Azhar. U THE IMPACT OF FDI ON ECONOMIC GROWTH UNDER FOREIGN TRADE REGIMES: A CASE STUDY OF PAKISTAN Date: Unknown

6- scar Afonso THE IMPACT OF INTERNATIONAL TRADE ON ECONOMIC GROWTH Investigao - Trabalhos em curso - CEMPRE Faculdade de Economia do Porto,Rua Dr. Roberto Frias 4200-464 Porto, Portugal, email: oafonso@fep.up.pt

Annexure
Real Full GDP Agriculture Industry Services Year Growth Rate 2013 3.3%-P 2012 3.5% 2011 2.4% 2010 0.6% 2009 4.0% 2008 1.0% 2007 4.1% 2006 6.3% 2005 6.5% 2004 2.4% 2003 4.1% 2002 0.1% 2001 -2.2% 2000 6.1% 1999 1.9% 1998 4.5% 1997 0.1% 1996 11.7% 1995 6.6% 1994 5.2% 1993 -5.3% 1992 9.5% 3.5%-P 2.7% 0.7% 8.3% -10.6% 1.4% 8.8% 4.1% 12.1% 16.3% 4.2% 2.7% 4.1% 1.3% 4.9% 6.1% -0.3% 4.7% 0.7% 4.5% 5.5% 7.7% 3.7%-P 5.3% 4.4% 2.90% 1.7% 6.0% 7.0% 6.5% 8.5% 5.8% 5.2% 4.8% 3.1% 4.2% 5.0% 1.6% 3.6% 5.0% 4.8% 4.2% 4.6% 6.8% 3.60%-P 4.40% 3.00% 3.80% -1.6% 7.2% 6.8% 5.8% 9.0% 7.5% 4.7% 3.1% 2.0% 3.9% 4.2% 3.5% 1.7% 6.6% 4.1% 4.5% 2.3% 7.7%

1991 5.0% 1990 3.0% 1989 6.9% 1988 2.7% 1987 3.3% 1986 5.9% 1985 10.9% 1984 -4.8% 1983 4.4% 1982 4.7% 1981 3.7% 1980 6.6% 1979 3.1% 1978 2.8% 1977 2.5% 1976 4.5% 1975 -2.1% 1974 4.2% 1973 1.7% 1972 3.5% 1971 -3.1% 1970 9.5% 1969 4.5% 1968 11.7% 1967 5.5% 1966 0.5% 1965 5.3%

6.9% 6.4% 4.7% 9.8% 8.6% 8.1% 7.8% 7.1% 4.9% 10.7% 9.4% 10.8% 7.6% 9.5% 2.9% 4.9% 2.0% 8.4% 10.3% -1.5% 6.4% 15.3% 12.0% 5.1% 3.6% 8.0% 11.2%

5.2% 4.5% 3.8% 6.8% 5.9% 5.8% 7.9% 7.9% 9.2% 7.9% 6.6% 5.9% 6.1% 10.5% 3.0% 1.5% 10.0% 9.8% 9.6% 3.5% 2.6% 7.0% 5.6% 3.1% 0.7% 14.4% 12.8%

5.6% 4.6% 4.8% 6.4% 5.8% 6.4% 8.7% 4.0% 6.8% 7.6% 6.4% 7.3% 5.5% 7.7% 2.8% 3.3% 3.9% 7.5% 6.8% 2.3% 1.2% 9.8% 6.5% 6.8% 3.1% 7.6% 9.4%

1964 2.5% 1963 5.2% 1962 6.2% 1961 -0.2% 1960 0.3% 1959 4.0% 1958 1.9% 1957 2.3% 1956 2.1% 1955 -2.2% 1954 15.2% 1953 0.2% 1952 -9.1% 1951 2.6%

14.8% 12.7% 9.5% 18% 1.8% 6.7% 5.6% 5.9% 10.5% 10.3% 12.1% 8.8% 11.4% 8.5%

6.8% 6.9% 4.3% 5.7% 1.2% 6.8% 2.1% 2.8% 2.9% 5.0% 3.6% 1.6% 4.8% 4.5%

6.5% 7.2% 6.0% 4.9% 0.9% 5.5% 2.5% 3.0% 3.5% 2.0% 10.2% 1.7% -1.8% 3.9%

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14.1 Value of Foreign Trade

(Million Rupees) Year Exports Re-Exports Imports Re-Imports Balance of Trade 690.8 1,642.9 14.3 2,072.6 3,131.7

2007-08 2008-09 2009-10 2010-11 2011-12

1,270,597.3 -1,319,568.0 -1,270,061.9 -1,305,935.2 -1,883,049.0

1,196,637.6 1,383,717.5 1,617,457.6 2,120,846.7 2,110,605.5

45,527.6 21,927.3 23,470.1 30,576.3 18,570.2

2,512,071.7 2,723,569.9 2,910,975.3 3,455,285.6 4,009,093.0

2013 Jan Feb

197,186.6 179,747.0

15.1 70.3

366,822.6 331,464.7

-169,620.9 -51,647.4

Mar Apr
* Provisiona l

209,240.8 209,142.2

32.8 298.8

361,585.0 384,277.1

-152,311.4 -174,836.1

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