Pakistan’s economy through the lens of game theory

Pakistan’s external trade is flashing another warning signal. Exports are losing momentum while imports continue to surge, widening the trade imbalance and putting renewed pressure on the country’s fragile external account. The annual trade deficit reached USD 39. 47 billion in FY2026. During 2MFY2027, it widened by 18 percent year-on-year to USD 7. 12 billion from USD 6. 01 billion in 2MFY2026. With short-term external liabilities around USD 24 billion, Pakistan has again turned to international borrowing, raising USD 1. 75 billion for five and a half years at 7. 50 percent and USD 1. 25 billion for 10 years at 7. 90 percent through Eurobonds. Nearly 8 percent dollar borrowing for 10 years is a heavy burden for a country already facing substantial external debt-servicing obligations. The real question, however, is whether this USD 3 billion will merely roll over old debt and finance consumption, or whether structural reforms will generate higher exports and sustainable dollar earnings. Without reform, borrowing only postpones the next external financing crisis. The ongoing US-Iran war has disrupted global economies and pushed energy prices sharply higher, with Brent approaching USD 100 per barrel and UAE Murban above USD 107 at the time of writing. Yet Cambodia, despite its much smaller economy, increased exports during the first seven months of 2026 at an annual pace of 21. 3 percent, reaching USD 20. 81 billion. Pakistan’s trade deficit, meanwhile, widened by 18 percent in first two months of FY2027. This divergence exposes serious weaknesses in Pakistan’s trade policy and warrants a review by the prime minister and ministries concerned. Cambodia’s export model offers important lessons. Cambodia’s export advantage Cambodia’s GDP was approximately USD 49. 29 billion in 2025 compared with Pakistan’s USD 407. 79 billion. Yet Cambodia generated around USD 38. 7 billion in annual exports, ranking 65th globally, while Pakistan exported about USD 36. 7 billion, ranking 67th. Both countries are China FTA partners and export similar products, including garments, footwear, travel goods and rice. Cambodia’s advantage is therefore not simply natural resources or market size. It is a policy framework built around openness, regional integration, competitive costs and participation in global value chains. Cambodia transformed itself from a post-conflict agrarian economy into a competitive manufacturing and assembly platform by lowering barriers to intermediate goods, securing preferential market access and aligning industrial costs with regional benchmarks. Pakistan, by contrast, continues to rely on high and complicated tariffs, revenue-driven trade policies and import restrictions. This makes production more expensive and discourages investment in export-oriented manufacturing. 1. Tariff structure The divergence is particularly clear in tariff policy. Only 4. 4 percent of Cambodia’s tariff lines carry customs duties above 15 percent, compared with 39. 1 percent of Pakistan’s HS product lines. Cambodia’s average applied MFN tariff is around 9. 4 percent, alongside a standard 10 percent VAT. Pakistan imposes Additional Customs Duties of 2-7 percent, Regulatory Duties of up to 50 percent and an 18 percent Sales Tax. This cumulative burden raises the cost of imported industrial inputs and contributes to smuggling, mis-declaration, corruption and tax evasion. Pakistani manufacturers can pay 15-30 percent more for raw materials and intermediate goods than competitors in Southeast Asia. For exporters importing dyes, chemicals, synthetic fibres, machinery and other specialized inputs, these costs directly reduce margins and competitiveness. High tariffs on intermediate goods also discourage modernisation and encourage manufacturers to focus on the domestic market. Cambodia has avoided this problem through a relatively simple four-band tariff structure of 0 percent, 7 percent, 15 percent and 35 percent, with most industrial inputs entering at low or zero rates. Pakistan need not eliminate all protection overnight, but it must stop penalizing export-oriented industries through excessive duties on production inputs. 2. Trade agreements and regional integration Cambodian exporters benefit from RCEP, ASEAN Free Trade Area arrangements, bilateral FTAs with China and South Korea, and other preferential agreements. These arrangements allow manufacturers to source fabrics, components, machinery and other inputs from regional suppliers at preferential rates, process them competitively and export finished products to the US, UAE, RCEP markets and elsewhere. Pakistan exported around USD 48 million to Cambodia, led by packaged medicaments and woven fabrics, while imports were around USD 4. 5 million. Yet Cambodia’s exports to Pakistan have grown at an annualized rate of about 30. 2 percent over five years. Pakistan is not part of RCEP and has not fully leveraged ASEAN frameworks or deeper preferential arrangements with major East Asian economies. This weakens export opportunities and Pakistan’s attractiveness to multinational companies seeking efficient Asian production locations. Global value chains in garments, footwear, electronics and light engineering increasingly favour countries offering low input costs and preferential market access. Cambodia has positioned itself within these networks; Pakistan remains largely outside them. Three reforms Pakistan needs To narrow the trade deficit and restore export competitiveness, the government should focus on three measurable reforms. First, eliminate surcharge distortions: Regulatory Duties and Additional Customs Duties should be phased out on industrial inputs, particularly intermediate goods used by export-oriented industries. This could reduce acquisition costs by 8–12 percent and provide immediate relief to manufacturers. Any revenue loss should be compensated through broader formalization, improved compliance and a wider tax base rather than continued taxation of productive inputs. Second, simplify and rationalize tariffs. Pakistan should benchmark its tariff structure against Cambodia’s 0 percent, 7 percent, 15 percent and 35 percent bands and reduce the share of tariff lines exceeding 15 percent from 39. 1 percent to below 10 percent. Higher protection should be concentrated on a limited range of finished consumer products, while capital goods and intermediate inputs should face low or zero duties. Fewer tariff slabs would also reduce classification disputes and incentives for evasion. Third, bring industrial power costs closer to regional benchmarks: Electricity tariffs for export-oriented industrial units should target 8–9 cents per kWh. Energy remains a major manufacturing cost, and uncompetitive electricity prices directly undermine Pakistan’s international competitiveness. The government must also confront capacity payments to IPPs, including inefficient or idle plants. Given the extraordinary international energy situation, all contractual and legal options, including force-majeure provisions where legally applicable, should be examined. A forensic audit of IPPs by reputable international or local firms is necessary to identify inefficient capacity and unjustified costs. Tariff and energy reforms should be accompanied by improved logistics, faster port clearance, lower inland transportation costs, better testing and certification facilities, skills development and compliance with international standards. From symptoms to structural reform Resistance to reform will inevitably come from interests benefiting from the existing tariff structure. Revenue concerns are legitimate, but the economic cost of maintaining the status quo is far greater. Every year Pakistani manufacturers pay more for intermediate inputs than regional competitors, resulting in lost export orders, delayed investment and slower employment growth. Cambodia demonstrates that a smaller economy can achieve rapid export expansion when government policy prioritizes competitiveness and regional integration. Pakistan has a much larger industrial base, workforce and domestic market. What it lacks is a trade architecture that treats exporters as the primary clients of economic policy. The government has also formed sectoral committees, but their effectiveness will depend on whether they comprise genuinely independent experts rather than stakeholders with vested interests. Ministries and departments must move beyond outdated bureaucratic thinking and ensure that private-sector advisers do not have conflicts of interest. Pakistan’s problem is no longer a shortage of analysis. It is the failure to translate analysis into structural reform. Re-engineering the trade framework is not a matter of ideology; it is a matter of arithmetic. Until the cost of imported inputs and industrial power moves toward regional benchmarks, Pakistan’s exports will continue to underperform while the trade deficit remains a structural constraint. Cambodia has demonstrated what consistent export-oriented policy can achieve. Pakistan now needs the political will to adopt the lessons.

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