#14: How China’s Coal Plants in Pakistan are both Helping and Hurting it (Commentary)
Welcome back!
Today’s article is another interesting one, and just like our exploration of German subsidies on electric cars, it’s also an economic commentary. This time, however, rather than discussing an economic process which is proving itself to be beneficial to the overall economy.
This article discusses China’s investment in Pakistani coal-fired power plants, an example of foreign direct investment to boost economic growth and development. Foreign direct investment (FDI) refers to international, cross-border investments made by multinational corporations, economic growth refers to an increase in the economy’s potential output, and economic development refers a continuous increase in the well-being and living standards of Pakistan’s population.
First, China’s investment in Pakistan’s coal-fired plant boosts economic growth by creating an increase in capital goods.
In Diagram 1, China’s FDI in Pakistani coal-fired plants, as direct injection of capital through technology and production methods, leads to an increase in capital goods, represented by the vertical axis of the production possibilities frontier (PPF). Since capital is a factor of production, an increase in its quantity also leads to greater production of consumer goods, represented by the horizontal axis. Therefore, the PPF shifts outwards, representing an increase in potential economic output.
Thus, China’s FDI in Pakistan allows for economic growth. In the short-term, China’s investment in coal-fired plants “creat[es] new jobs, and fight[s] spiking unemployment” thus providing a greater quantity of labor, which, as a factor of production, leads to greater economic activity. In the long-run, the coal plant, as a development in Pakistan’s infrastructure, further increases growth and development, because it produces “16,000 megawatts (MW) of electricity” which resolves Pakistan’s “ energy shortages,” allowing for greater economic efficiency and improved living standards.
Furthermore, China’s investment can also provide an escape from the poverty cycle, therefore allowing for a better quality of life and economic development.
The provision of jobs, as an immediate effect of FDI, intercepts the cycle at the “Low Income” point. Furthermore, decreased unemployment increases the level of spending in Pakistan, which not only drives economic growth but also increases the living standards of those employed, which have greater access to goods and services in the economy. Additionally, increased income allows for locals to invest in their lives, which, in the long-run, can lead to a healthier and more educated population, which increases Pakistan’s human development index (HDI), a measure of economic development which considers both life expectancy and educational achievement. However, for a coal-fired plant, investors may choose to spend on production technologies instead of low-skilled workers. Therefore, although decreasing unemployment is an incentive for Pakistan to welcome FDI, it may not necessarily apply, which would reduce the aforementioned benefits.
In the long-term, further improvements in quality of life can ensue. If greater employment is actually provided, the Pakistani government’s increased revenue from income tax allows it to invest in development projects, such as healthcare or education, intercepting the poverty cycle on the “Economic Development” side. However, in developing nations such as Pakistan, a corrupt or ineffective government can limit these benefits, as resources are inefficiently allocated to appropriate development projects. In this case, despite short-term improvements in living standards for employed workers, long-term economic development is actually minimal.
However, downsides exist in the short-term too, since coal-fired plants, which generate “75 percent of […] electrical power” have negative externalities of production.
In Diagram 3, a socially efficient market should operate at (Q1, P1), which is the quantity where the marginal social cost (MSC) intersects the marginal social benefit (MSB). However, the market fails to consider negative externalities associated with electricity production from coal, represented by the vertical difference between the marginal private cost (MPC) and the marginal social cost, instead of operating at the equilibrium (Qe, Pe), creating a welfare loss represented by the triangle. For coal-fired plants, the externality exists because of detrimental environmental impacts, such as air pollution or toxic waste.
Increases in pollution decrease the overall health level in Pakistan, which contributes to low HDI and low development. Moreover, the government increases healthcare and environmental spending and therefore has the opportunity cost of being unable to spend on education or other projects to reduce poverty. Furthermore, the firms China invests in gain a competitive advantage in the electricity market, because they benefit from economies of scale, meaning smaller producers could be forced to go out of business, or to decrease costs by laying-off workers, leading to unemployment. Both effects are counterproductive in attaining long-term economic growth and development.
Overall, China’s investment in Pakistani coal-fired plants can potentially lead to economic growth and development, through reductions in unemployment and increased potential output. However, if inappropriately applied, the FDI can also lead to downsides, such as negative externalities of production or misallocated government revenue, and therefore should not be relied upon unequivocally.
Note: Certain parts of this work were adapted from my IB economics coursework on a similar topic. All rights to this work are reserved to Najem Abaakil and the International Baccalaureate Organization.
