THE 2008 financial crisis saw developed countries spend over $3 trillion on economic stimulus.
Developing countries, though, could fund emergency responses with less than 0.8% of their GDP. The gap revealed a brutal fact: it is resilience, not resources, that dictates survival. Developing countries typically lack wide tax bases. Indirect taxes, like sales taxes, import duties and petroleum levies, are relied upon by many. Economic decline shrinks both spending and trade, reducing revenue. When it comes to countries like Pakistan, Nigeria and Bangladesh, governments have a hard time generating money even when times are good because of problems with tax administration, especially when tax evasion is widespread and the informal sector is big. When trouble strikes, compliance worsens, increasing problems. Governments have a tough choice: reduce key services or raise taxes on fewer people, which could worsen the economy if taxes don’t change behavior.
Recessions create financial constraints by reducing income and increasing costs. Developing countries often have to make difficult choices. Education, health and social welfare are already underfunded in many developing states. Further cuts risk long-term damage. Cuts in teachers, supplies and scholarships caused by a contraction harm human capital, hindering national growth. Economic downturns also increase joblessness, leading to more reliance on public aid. Safety-net programs serve as lifelines when they’re present. Millions of low-income families are now supported by Pakistan’s BISP and Ehsaas programs. As commodity prices surge and factories shut, more families become eligible for financial aid and food assistance. The countercyclical demand causes budget problems when income is at its lowest. Pakistan’s health insurance initiatives under Sehat Sahulat and province-level programs also see enrollment surge when people lose employer-provided coverage or can no longer afford private treatment.
It’s crucial to save. Money saved up during good times can help in bad times. However, their construction and upkeep demand discipline. Pakistan’s finance ministry occasionally keeps funds in the National Development Finance Corporation or the Public Sector Development Program as reserves, but these are often used to cover budget deficits during crises, reflecting the impact of economic recessions. Some governments borrow when revenues fall and safety-net needs increase. In his book In a Bad State: Responding to State and Local Budget Crises, Yale legal scholar David Schleicher observes that during fiscal crises the federal government confronts a “trilemma”: bailouts risk moral hazard; austerity is procyclical; and default undermines borrowing capacity.
Developing nations grapple with their own challenges. Domestic banks, the federal government and international lenders provide loans to governments. Economic contraction causes debt-service ratios to rise because income decreases and currencies weaken. Sri Lanka’s 2022 default exemplifies the risk: regional projects were stopped, health and education funding were reduced and social unrest ensued. Sustainable solutions rarely involve austerity. Reducing spending drastically during an economic slump could worsen the recession and cause social instability. Economic slumps are not just financial data. Psychological distress, anxiety and depression can result from joblessness and reduced income.
According to The Industrial Psychiatry Journal, economic instability often leads to psychological distress, especially in people with mental health problems, employment insecurity, or a decrease in their socioeconomic standing. Domestic violence, substance abuse and crime may weaken society. Developing countries should take practical steps, including careful financial management, structural changes and strategic investments, to ease the impact of economic downturns. Firstly, fiscal buffers must be built and protected. When growing, governments should save extra money in safe accounts for the future. This encompasses structured rainy-day funds or sovereign wealth funds linked to commodity revenues. Next, tax system expansion and fortification are necessary. Vulnerability increases with dependence on few tax sources. Stable revenues can be achieved by integrating informal sectors, improving compliance and expanding property and income tax coverage. Modern tax administration can be improved by tools like e-filing and data analytics. Next, social spending must be a priority. Harm can last if education, health and social programs are cut during recessions. When revenues shrink, policymakers must create budgets that safeguard essential social spending. Investing in health and education pays off in the long run by developing people’s skills and strength.
The fourth point is to utilise automatic stabilisers. It’s crucial to create scalable social protection programs that can rapidly expand during crises, including unemployment insurance or public works to support workers and invest in health and mental health services to address psychological impacts. Fifth, states are able to maintain economic stability during challenging times through sustainable borrowing. When borrowing is necessary, it should fund investments, not daily expenses. Developing states should avoid high-interest, short-term loans, which can become unmanageable if income decreases. Building market confidence also requires clear debt reporting. Ultimately, states need to prepare for fluctuating instability. Budgeting should include macroeconomic analysis. Developing nations ought to plan their finances for multiple years, expecting potential declines, instead of constant expansion. It is important to evaluate long-term obligations, such as pension commitments, which continue to strain even prosperous states.
Economic downturns are a predictable part of market cycles. Real economic strength is shown by how well an economy recovers from bad times, not by how it performs in good times, while protecting its people’s welfare. States should keep social safety nets functional during economic hardships. Economic systems must enable people to flourish and prosper right after the crisis. Developing states require such economic systems nowadays. If such systems are absent, developing states will keep experiencing societal, political and economic failure. Developing nations must learn to withstand shocks through resilience, not reaction.
—The writer is Commoner from 44th Common Educationist — Founder of WHI Institute.based in Sargodha.
