The news about a proposal for rupee devaluation appearing in the Business Recorder on 12th June, 2007, was denied promptly by the Ministry of Commerce. Contradiction of the news was noted and printed the next day.
However, while respecting the authority of the ministry to refute the reported news in order to put the record straight, we would say that such a move, given the present pressure on the external sector of the economy, would not have been ill advised.
In fact, the scenario now developing on the external sector requires the exploration of all options to bring it into equilibrium and the devaluation option would probably stand out to be the most potent one to get the needed results. The problem, actually, is that easy options and political expediency are usually given preference over a sound and sustainable economic policy.
The argument for devaluation of a currency is simple and straightforward. By making the imports costlier in the local market and exports more competitive in the international market, devaluation would discourage imports and encourage exports and thus help the country in balancing its external account. However, in the process, other areas of the economy could experience certain difficulties. Inflation rate may increase if proper fiscal and monetary policies are not followed to dampen the inflationary impact of devaluation. Foreign debt and its cost of financing in local currency would increase.
Industrial activity in the country could also be affected for a short period since in majority of cases, it is dependent on imported raw materials for value addition. The most quoted argument in Pakistan is that since devaluations in the past have not brought about the desired results due to the inelastic nature of our imports and exports, and, they shake the confidence of the people in the stability of the exchange rate that tends to encourage dollarisation of the economy, therefore such a policy would contribute to more difficulties rather than strengthening the economy in the future.
We feel that thinking on these lines shows a lack of awareness about the emerging situation in the external sector of the country and poor assessment of policy options to deal with it in this kind of environment. According to the recently released Economic Survey of the government, merchandise trade deficit widened to $11.1 billion in July-April, 2007 as against $9.5 billion in the same period last year.
The latest news on this front is even gloomier. Pakistan's trade deficit for July-May, 2007 has soared to $12.62 billion. Current account deficit of the country may be as high as five percent of the GDP as against 4.4 percent last year. How to get out of this unsustainable situation and restore equilibrium in the external sector should be the most important concern for our policy makers at this juncture.
Certainly, the burden of external debt servicing in rupee terms would increase by devaluing the rupee, but no country can afford to spend more than what it earns in foreign exchange and that, too, for an extended period of time. A day would come when the country would be virtually unable to import its requirements due to paucity of foreign exchange and the industrial activity about which some of the people appear to be so concerned would be suffering immensely due to lack of required imported inputs.
The inelastic nature of our imports would stop exporters of other countries to halt supplies if they don't receive payments in time. Our central bank cannot print dollars, Euros, pounds or other foreign currencies. Sale of family silver to foreigners, issuance of bonds and incurring other kinds of debt to bridge the widening gap in the external sector, are temporary and expensive devices to tide over the situation and cannot be relied upon as a long-term solution to the problem.
Interest subsidy is already available to the export sector. Subsidy packages to the textile sector have not been able to bring about the desired results so far. In our view, it is now time for the authorities not to rule out devaluation as a more effective instrument to expand exports and curtail imports. This has become all the more necessary because inflation rate is much higher in Pakistan than among its competitors and trading partners.
We know that this could have an adverse impact in certain other areas of the economy but the country cannot afford to postpone this harsh measure for an indefinite period of time. It also needs to be stressed in this context that the value of the currency cannot be fixed for all times to come. Pakistan could again raise the value of the rupee if and when it experiences the desired improvement in its external sector account.
As for the argument of the failure of the past devaluations in yielding satisfactory results, it is to be recognised that the medicine administered to cure the disease was too little and too late. We believe the Commerce Minister has done a lot in facilitating exports by increasing their access to the international market and no harm would be done if he now seriously contemplated other effective measures to reverse the rapidly deteriorating trend in the external sector. Devaluation is not some kind of a curse but a universally known and tried measure to rectify a highly risky imbalance in the economy.
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