Musharraf can wait as Pakistan grapples with economy

ISLAMABAD (Reuters) - Too busy trying to rein in runaway inflation and a yawning current account deficit, Pakistan's new government has put the issue of how to rid itself of President Pervez Musharraf on a backburner.

After February's election stripped U.S. ally Musharraf of parliamentary support there was a froth of expectation that the unpopular president, who came to power as a general in a 1999 coup, would be driven out of office soon.

Instead, Asif Ali Zardari, the leader of the party heading the coalition formed two months ago, has opted to amend the constitution to reduce the presidency to a figurehead.

The proposed 62 changes will take months to debate, and the government will probably have to wait until Senate elections due by March 2009 to be sure of passing the package.

By then, a new U.S. administration may feel less inclined to prop up an ally who had become a diminishing asset in the war against terrorism.

"In the middle of all this, if Musharraf decides to call it a day, he'll be allowed to leave with dignity and honor," a senior adviser in Zardari's Pakistan People's Party told Reuters.

Coalition partner Nawaz Sharif, the prime minister Musharraf overthrew, is impatient to see his usurper hounded out of office by being dragged through the courts or impeached.

With that in mind, Sharif is fighting for the reinstatement of the judges Musharraf dismissed when he enforced a brief period of emergency rule late last year to shore up his presidency.

"Sharif wants to push Musharraf out. We want to ease him out," said the PPP official.

To protest against Zardari's failure to reinstate the judges quickly, Sharif this month pulled nine ministers from his party out of the cabinet, though he still supports Prime Minister Yousaf Raza Gilani's government.

Critics say Sharif has opted out of the responsibility of governance at a crucial time in order to engage in politicking, with the aim of emerging stronger once Musharraf goes.

"Essentially the house is on fire and the firemen are busy arguing about other things," said Agost Bernard, credit analyst at Standard & Poor's Ratings Services in Singapore.

S&P not only relegated the credit rating on Pakistani sovereign debt to five notches below investment grade this month, it also cut its outlook to negative from stable due to concern about the new government's ability to meet the challenges.

Former State Bank of Pakistan governor Ishrat Husain bemoaned the loss of momentum in economic growth, derailment of macro-economic stability and hiatus in investor confidence.

Husain, who was governor from 1999 to 2005, suggested policy-makers lost focus when Musharraf tried to dismiss the Supreme Court chief justice 14 months ago.

Writing in Newsline magazine this month, he said: "Almost sole preoccupation with political issues and the judicial crisis have without a doubt hurt the economy".

"UNSUSTAINABLE TRENDS"

Pakistani markets have been unnerved by the infighting and realization that some unpleasant economic steps, like last week's 150-basis point increase in interest rates, were needed.

The stock market has fallen 18.5 percent from an April 21 peak, while the rupee PKR= is hovering just above all time lows of about 70 to the dollar struck this month.

A budget due to be announced on June 7 will give the PPP, a populist party whose slogan has been "bread, clothing and shelter", the chance to win back people's confidence.

Pollster Gallup Pakistan issued a survey last week showing approval ratings for Gilani had sunk to 38 percent from 64 percent six weeks earlier.

Privatization Minister Naveed Qamar will present the budget, and has signaled his intent to provide a relief program for the poorest of the poor while cutting the fiscal deficit.

The World Food Program estimates that nearly half of Pakistan's 160 million are in at risk of inadequate nutrition.

Inflation was running above 17 percent year-on-year in April, the highest since the 1970s, because of surging oil and commodity prices, and rapid monetary growth to cover government borrowing.

The fiscal deficit has spiraled to close to 9 percent of GDP due to a paralysis in decision-making during the last months of the pro-Musharraf government led by Prime Minister Shaukat Aziz, and subsequent five months under a caretaker administration.

The current account deficit surged to between 7.3 and 7.8 percent of GDP as the oil bill ballooned and capital inflows ebbed.

Central bank governor Shamshad Akhtar says the trends are unsustainable.

If Pakistan was an ordinary country, not a nuclear state on the front line in the war against terrorism, it would be at risk of sliding into a balance of payments crisis, with central bank foreign currency reserves below $10 billion.

But the international community, especially the United States, has a stake in seeing Pakistan's political transition succeed.

Hence, Pakistan expects inflows of up to $3.5 billion in coming weeks, mostly from multilateral lenders and friendly governments, to shore up reserves and support the budget.

"It's not in the geopolitical interests of the world to see Pakistan fail," said Asad Saeed, a Karachi-based economist.

Of course, the West will want something in return, which usually means better results against the Taliban and al Qaeda.

(Editing by Jeremy Laurence and Alex Richardson)