Prime Minister Imran Khan has repeatedly appreciated the efforts of his economic team, led by Dr Hafeez Sheikh his Advisor on Finance and Dr Reza Baqir, Governor State Bank of Pakistan (SBP); more recently he gloated about the current account surplus, to the tune of 99 million dollars in October, with the trade deficit for July-October narrowing by 33.52 percent to 7.7 billion dollars.
The trade deficit in 2017-18 was 37.6 billion dollars which declined to 31.8 billion dollars in 2018-19. Thus a 7.7 billion dollar trade deficit in one quarter would give a deficit for the entire year of around 23 billion dollars - a sizeable reduction though one must be reminded that it is a projection.
This achievement was on the back of two associated policy decisions which reflect an over-correction on the part of State Bank of Pakistan (SBP) complying with prior conditions agreed under the staff level agreement with the International Monetary Fund (IMF) on 12 May 2019 - a market-based exchange rate which remains undervalued and a discount rate rise to 12.25 percent, which was further revised upward to 13.25 percent in July. On Friday last Monetary Policy Committee (MPC) announced that the discount rate would remain unchanged for the next two months, in spite of repeated protestations by the private sector that the high cost of borrowing was responsible for the consistent negative growth of large scale manufacturing (LSM) with its associated impact on small and medium downstream industries.
The rupee has been undervalued since December 2018 - by 2.5 percent - and by April it was undervalued by 1.5 percent as per SBP website therefore for the rupee to depreciate dramatically after the market-based exchange rate mechanism was adopted at the start of the third week of May would not have been possible without SBP intervention. The rupee remains undervalued to this date as per SBP data: 3 percent in May, around 10 percent in June and July, 6.4 percent in August and 5.6 percent in September.
An under-valued currency is used as a policy tool to promote exports as products become cheaper relative to other competing countries. However in June when the rupee was undervalued by 10 percent monthly export growth rate was negative 22.5 percent, in July positive 23.8 percent, in August negative 15 percent, in September negative 0.3 percent and in October 17.1 percent. These massive monthly percentage fluctuations reflect little change in dollar terms - July-June 2018 exports were 24.7 billion dollars (reflecting a positive growth of 12.6 percent period to period and negative 11.1 percent June 2018 to June 2017) while in June-July 2019 total exports were 24.2 billion dollars (reflecting negative 2.1 percent growth period to period and negative 22.5 percent June 2019 to June 2018).
In July-October 2018 total exports were 7.9 billion dollars (reflecting positive 14.3 percent in October 2018 compared to October 2017) and 8.2 billion dollars in July-October 2019 (reflecting 3.4 percent growth period to period and 17.1 percent October 2019 compared to the same month in 2018) - a difference of around 300 million dollars. In other words, a clear trend has not been established and claims that exports have turned around are premature at best.
Imports on the other hand dropped dramatically by nearly 4.4 billion dollars. July-June 2018 total imports were 56.5 billion dollars while in the comparable period of July-June 2019 total imports amounted to 52.7 billion dollars. However the biggest month on month drop in imports in percentage terms was not subsequent to the current economic team taking over but in February 2019 at negative 21.9 percent compared to February the year before while the largest monthly reduction post-incumbent SBP governor was in August (month on month) at negative 15.8 percent. Significantly by October 2019 imports had risen - by 9 percent month on month while in total terms July-October imports were 14.6 billion dollars compared to 19 billion dollars July-October 2018. With respect to imports it must be borne in mind that the 3.2 billion dollar deferred oil facility extended by Saudi Arabia is for three years, but repayable by the end of each year. Thus total imports by the end of the year would include this amount.
What do these trade figures suggest? One view is that both exporters and importers are speculating on the rupee with one rather extreme view being that exports have not risen even by the small amount that is indicated but that previous export dollars kept abroad through understating the sale price of exports have been brought back. This view is not supported by foreign exchange reserves held by commercial banks - in June and July when the rupee was undervalued by the highest percentage, reserves held by commercial banks were 7.1 billion dollars and 7.3 billion dollars respectively and thenceforth there has been a steady decline to 7.1 billion dollars on 8 November 2019.
This theory further contends that the rise in imports reflects the importers' perception that the rupee is unlikely to decline vis-a-vis the dollar in future and hence this is the right time to import which may explain the decline in reserves. However details of which import items have increased in value include machinery, relating to mobile phones, while all other imports continue to decline.
Another view is legitimate data manipulation, particularly in terms of not including the petroleum imports in the first quarter and deferring these payments till the end of the year.
The critical question is who is bearing the cost of these two over corrections by SBP? The rupee is 5.6 percent under- valued in September as per SBP data which in effect is between 7 to 8 rupees undervalued. A one rupee depreciation of the rupee adds 100 billion rupees to the government's debt servicing bill and hence around 700 to 800 billion rupees clearly continue to be added to that bill. The rate of return on a major source of government borrowing from the National Savings Schemes was reduced earlier this month reflecting the government's attempt to reduce its liabilities however this decision coupled with rising inflation is likely to reduce the amount saved in NSS by the public.
Secondly, while inflation is cutting into past savings prices of essentials (food) are going up partly due to higher transport costs thereby requiring a higher percentage allocation of each householder's budget. Pakistan Bureau of Statistics would be better advised to revisit the reduction in weightage of food items by 6 percent, so ordered by Dr Hafeez Sheikh during his previous stint as finance minister, back to 40 percent.
Thirdly, the cost in rupee terms of imports of petroleum and products has risen with a commensurate impact on the general public's pocket book in terms of higher transport costs as well as higher fuel adjustment charges on energy tariffs. By keeping the discount rate high will therefore not depress demand of these two major purchase items by households.
To conclude, disturbingly, Imran Khan's economic team leaders continue to show complete disregard for those bearing the cost of the under-valued rupee and the high discount rate. One can only advise the Prime Minister to revisit the current state of the economy with a different set of experts to better understand an alternate view and come up with a more informed assessment of the economy.
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