Energy and the Pakistani Economy:

An Expletory Analysis to 2035Dr. Robert LooneyProfessor, Naval Postgraduate School

Woodrow Wilson International Center Conference, “Meeting Pakistan’s Energy Needs in the 21st Century”Washington, DC, June 23, 2005

Outline Introduction – Overview

Energy and the Economy – Historical Trends

Energy and the Economy – Empirical Studies

A Macro-Energy Forecasting Model

Seven Basic Scenarios

Energy Supply Demand Balances to 2035

Policy Implications

Pakistan: Energy Balance

1971 1976 1981 1986 1991 1996 200110000

20000

30000

40000

50000

60000

70000

Kt

of

Oil

Eq

uiv

alen

t

Pakistan Energy BalanceEnergy production Energy use

Overview In Recent Years Rapid Economic Growth Has

Resulted in Surging Demand for Energy 10-12% per annum.

Growing Gap Between Pakistan’s Energy Needs and Domestic Production.

Government Response – 25 Year Energy Plan – cost $37-40 billion. Comprehensive Framework.

Assumes High Sustained Rates of Growth – 7.5%+.

Unclear on Future Energy Prices.

An Alternative View Alternative, But Not Necessarily Competitive Views Are

Useful in Providing Additional Insights to Pakistan’s Energy Challenges.

The Main Departures of the Economic Approach Developed Here Incorporate the Following Aspects:

The Need to Account for the Fact that Pakistan’s Economic Performance Has Been Cyclical Rather Than Sustained.

How Do Energy Availabilities and Production Affect Economic Growth and Vice Versa?

How Do Key Interrelationships Between the Various Types of Energy Affect that Sector’s Demand and Supply Over Time?

How do Different Oil Price Scenarios Change the Picture for Future Energy Balances?

Energy and Economy – Relevant Historical Patterns

1960s, 1980s and early 2000s Periods of Rapid Economic Expansion. Other Periods Growth Flat. Reasons to Doubt the Sustainability of the Current Expansion – Lagging Investment, low savings, many structural impediments remain.

Overall Energy Use Reflects These Patterns.

A Number of Long-Run Stable Relationships Between Energy and the Economy.

Both Supply and Demand Exhibit a Number of Stable Complementary and Competitive Patterns Between Different Sources of Energy.

Adverse Developments in Electricity -- shift from Hydro Generation to Oil and Coal, Shift in use from Industry to Households. Low Rates of Capital Formation in Energy.

Energy and The Economy – Empirical Studies

Growing Number of Studies Identifying Links Between Pakistani Economy and Energy Use.

Energy Use and Economic Growth Interrelated – Energy Expansion Leads to Growth. Impact Varies by Type of Energy.

Investment and Infrastructure Lead to Expansion of Energy Output. In Turn, Expanded Energy Production Leads to Further Increases in Investment and Infrastructure.

Evidence that Links Between Energy Availability and the Economy May be Strengthening.

These Relationships Create and Environment Prone to Vicious and Virtuous Circles of Expansion or Contraction.

The Macro-Energy Forecasting Model

Draws on Previous Empirical Research.

Expanded Per Capita GDP Function of Energy Availability and Capital Formation.

Statistically, Gas, Coal and Hydro Generation Have Strongest Links to GDP Per Capita.

Average World Oil Price Times the Rupee Dollar Exchange Rate Statistically Significant in a Number of Energy Supply/Demand Cases.

Links Investment and Infrastructure to Energy Supply.

Incorporates Number of Energy Complementarities and Competitive Relationships Between the Various Types of Energy.

Macro-Energy Forecasting Model – Main Stages

Gross Capital

Formation

Infrastructure Constraint

Per Capita Consumption, Investment

Substitution and Complementarities

Supply Trade-offs

GDP Per

Capita

Supply:Domestic Energy

Production

Demand:Commercial

Energy Consumption

Energy Availability

Future Energy

Balances

World Oil Prices/Rupee

Exchange Rate

Stage 1

Stage 2

Stage 3

Stage 4

Main Scenarios I Constructed on Different Assumptions

Concerning Investment and Gas, Coal and Hydro Availability.

Model 1 – Base Line Forecast – Energy and Investment 3% to 2035.

Model 2 – Continuation of Historical Cyclical Pattern of Growth. Capital Formation Alternates Between 2 & 4%. Gas Availability 7%, 10%, Coal, 4%, 11%, Hydro, 6%, 4%.

Model 3. Model 2 With No Major Expansion of Dams and Hydro Power – Hydro Expands 3% per Annum.

Main Scenarios II Model 4. High Investment Led Growth –

Investment Increases 6% Per Annum to 2035, Gas 7% Coal 5% Hydro As in Model 2.

Model 5. Private Sector Led Growth – Historical Pattern Investment, Hydro, Gas 7%, Coal 5%.

Model 6 Expanded Dam Construction – Acceleration Investment 6%, Gas 3%, Coal 3%, Hydro Accelerates, 5%, 7%, 9% 11%.

Model 7, Coal, Gas, Led Energy Expansion – Availabilities 7% -- Investment, Historical Pattern, Hydro, 3%.

Stage 1:GDP Per Capita Growth

Rates

Average Annual Growth 2005-2009 2010-2019 2020-2029 2030-2035__________________________________________________________________________________________________1. Base Line 3.34 2.09 2.34 2.44

2. Historical Cyclical Pattern 6.11 3.84 6.67 4.90

3. Historical Cyclical -- Lagging Hydro 5.53 3.39 6.16 4.56

4. Investment Led Growth -- Energy Lag 5.03 4.08 5.00 5.09

5. Normal Investment/Hydro -- Low Coal, Gas4.93 3.66 4.85 4.70

6. High Investment/Hydro Strategy 4.05 3.85 5.56 7.37

7. Moderate Emphasis on Coal and Gas 4.56 3.54 4.54 4.79

Stage 2: Energy Consumption Main Findings:

Competitive Relationship Between Oil/Petroleum and Gas.

Other Fuels Do Not Appear to Compete With Electricity.

Expanded Oil/Petroleum Consumption Has Sharply Reduced Coal Consumption.

Increased World Oil Prices Strongly Stimulate Consumption of Gas and Coal With a Weaker Effect on Electricity -- Little Impact on Oil/Petroleum Consumption.

Stage 3: Energy Production The Main Energy Supply Trade-Offs – Petroleum

Products Adversely affected by Expanded Electricity,

Expanded Thermal Electricity Weak Adverse Affect on Coal Production.

Increased Coal Production Strongly Associated with Higher Level of Thermal Electricity.

Infrastructure Constraints Mainly Associated with Thermal Electricity.

Increased World Oil Prices Stimulate Gas Production and Thermal Electricity Capacity.

Stage 4: Energy Supply-Demand Balances Model 1 Model 1 – Low Growth. With Increasing World

Oil Prices:

Gas Supplies Expand Well Below Demand to 2030. Coal Demand Outruns Supply After 2010 Becoming Severe in the 2020s.

Demand For Electricity Outruns Supply 2010-2020 and after 2030.

Shortfall in Petroleum Products Particularly Severe to 2010.

With Rising Oil Prices Demand and Supply Gaps Reduced in Most Cases.

Stage 4: Energy Supply-Demand Balances Model 2 Historical/Cyclical Pattern of Growth:

With falling world oil prices, domestic gas lags considerably behind demand up to 2030. Electricity – severe shortfalls between 2010 and 2020. After 2010 coal supplies begin to lag demand. Severe shortfall petroleum products until 2010.

Rising world oil prices: gas supplies improve but demand strengthens – shortfall to 2035. Severe electricity shortfalls in the 2020s.

Coal supplies and demand roughly balance over the forecast period. Petroleum products fluctuate between severe shortages in initial years in balance to 2020 with demand outrunning supply in the 2020s.

Stage 4: Energy Supply-Demand Balances: Other Models Several Basic Patterns Emerge:

Rising World Oil Prices Through Encouraging Expanded Domestic Supplies is a more Conducive Environment for Attaining Energy Balance Than One of Falling Prices.

High Growth Does not Necessarily Worsen Energy Balances – In Many Cases High Growth is Consistent with Improved Energy Balances.

If Immediate Gains in Energy and Growth are Not Required, Strategies favoring Hydro Power are Generally Superior in Achieving a Long Run Stable Growth Path.

These Patterns Suggest that the Links Between Energy and the Economy are Not Simple Linear Functions. Rather their Interrelationship Creates an Environment Conducive to Vicious and Virtuous Circles.

Generalizations From the Model Results:

Possibility of Virtuous Circles

Increasing World Oil

Prices

Expanded Supplies of Coal, Gas, ElectricityReduce

Balance of Payments Difficulties

Investment in Energy

More Profitable

Demand Shift to Gas,

Coal Electricity

Improving Energy

Situation Stimulates Economy

Expanded Private

Investment Including

Direct Foreign

Investment

Further Expansion

of the Economy

and Energy Sector

Expanded Public

Investment, Infrastructure

Generalizations From the Model Results:Possibility of Vicious Circles

Falling World Oil

Prices

Slow Expansion of

Domestic Energy

Increases Import

Dependence, Exasperating Balance of Payments Problems

Expansion of

Investment in Energy

Slows

Demand Slackens for

Gas, Coal Electricity

Deteriorating Energy

Situation Dampens Economic Growth

Flat Rates of Private

Investment, Declining Inflows of

Foreign Investment

Further Deceleration in Economic

Growth

Public Investment,

Infrastructure Development

Slow

Final Observations The Macro-Energy Forecasts Are Only An

Initial Attempt to Model Pakistan’s Energy/Growth Patterns Over Time.

While Some Policy Implications Are Apparent – Letting Prices Reflect the True Costs of Energy, Great Caution Should Be Applied.

What Takes Place Outside the Energy Sector May Have Just as Important Consequences for the Country’s Energy Picture as those Policies Directly Affecting the Sector.