EDITORIAL: In recent weeks the rupee has strengthened against the dollar, by more than 4 rupees to the dollar, and considering that each rupee gain reduces the country's interest payments plus principal as and when due on external debt by around 100 billion rupees, therefore the rupee gain maybe projected to have reduced public debt repayments by around 400 billion rupees. Add the request by the Pakistan government not to pay official external debt till end December 2020, offered by the creditor nations due to the pandemic, the interest plus principal repayment by Pakistan has been deferred by an amount of 1.2 trillion rupees in the current fiscal year though this rescheduling has been incorporated in the budget documents projecting a deficit of 7 percent in 2020-21. Additionally, creditor nations have further extended the date for interest and repayment of the principal as and when due and further relief from pressure on the scarce foreign exchange reserves would be felt when the actual amount is revealed.
A decline in the budget deficit, estimated at 8.1 percent for last year, which is unsustainable and without doubt contributing to the inflationary spiral, has yet to impact on the rate of inflation in the country (around 9 percent) and especially on food inflation (over 14 percent at last count). The reason could well be that the government has been unable to reduce its own current expenditure raise in the current year notwithstanding claims of belt tightening in the office of the prime minister and president and not raising the salaries of public sector employees - civilian and military. Current expenditure is budgeted the same as last year at 6.3 trillion rupees though one would assume that inflation would compel the government to revisit the 140 billion rupee decline in subsidies it budgeted for the current year.
Be that as it may, till 12 May 2019, the rupee value was set through a managed float system that allowed the State Bank of Pakistan, operating under pressure from the Finance Ministry, to intervene in the market to manipulate the rate. It is on record that the rupee was overvalued during Ishaq Dar's stint as the finance Minister from 2013 to the third quarter of 2017 - in June 2017 the real effective exchange rate (REER) as per the SBP website was as high as 121 - which had disastrous consequences for the country's exports (which became uncompetitive internationally) and encouraged imports that rose to around 60 billion dollars accounting for a historically high current account deficit.
The Shahid Khaqan Abbasi government began to take corrective measures and by June 2018 the REER was 107.4 regarded by former SBP Governors as indicative of still being undervalued. It was on 12 May 2019 that the new economic team of the Khan administration agreed with the International Monetary Fund to adopt a market-based exchange rate that, it was argued, would "help the functioning of the financial sector and contribute to a better resource allocation in the economy."
The REER for June 2019 was 90.9 and the provisional REER for June 2020 is 93 - the last month its value was uploaded on the SBP website - which former governors of the SBP claim implies an undervalued rupee. Notwithstanding SBP's argument that all REER value above 100 is not indicative of the extent of how much the rupee is under-valued and all under a 100 as over-valued as it is a medium-term concept yet it has failed to provide any research paper supporting its claim. Additionally, there is concern amongst local economists that the recent gains in the rupee may be another factor that is causing delay in reaching an agreement with the IMF for the second tranche release.
To conclude, one would hope that the rupee value is set through a market-based exchange rate mechanism that SBP is allowed to be an autonomous entity taking decisions independent from the government and the IMF.
Copyright Business Recorder, 2020
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