EDITORIAL: Trade deficit widened to 3.104 billion dollars in the first month of the current fiscal year - a rise of 85.5 percent in comparison to July 2020. This, so goes the argument, is the major reason behind the ongoing rupee depreciation which was, on average, 152 rupees to the dollar in May 2021, and registered at 163.8 rupees in the inter-bank market this Monday past, reflecting a disturbing decline of around 7.7 percent in just two and a half months. This indicates that State Bank of Pakistan (SBP) has not intervened in the market to shore up the rupee value - a decision in consonance with the rupee value determination within a market-based system, and unlike the previous practice in which the central bank would give a range in which treasuries of banks would operate. It is important to note that the rupee depreciation to-date displaces the budget projections given that the rate of 153 rupees to the dollar was used to project repayment of debt, including equity debt through issuance of Eurobonds/sukuk - interest and principal as and when due.
Exports may have not kept pace with the Prime Minister's Special Advisor on Commerce Razzak Dawood's optimistic projections given that India and Bangladesh have begun to emerge from the onslaught of Covid-19 and commenced execution of export orders which were previously diverted to Pakistan though Eid as a traditional booster to remittance inflows, also a desired form of foreign exchange earnings, was in July - an occasion when remittances increase. While remittance data for July has not yet been uploaded on the government websites yet it is relevant to note that remittances rose to 29.4 billion dollars, a historic high during July-June 2020-21, a trend that partly reflects the cessation of hundi/hawala due to lockdowns, partly due to the tax amnesty scheme on offer for the construction sector and partly due to incentives given to remitters to use the official channels to send their money back home and reduced travel.
Most other indicators, which impact on the rupee-dollar parity, are positive including the foreign exchange reserve position which registered a healthy 17.8 billion dollars on 30 July 2021. The Monetary Policy Statement (MPS) dated 27 July 2021 noted that "with the contained current account deficit and healthy commercial, official, portfolio and FDI inflows Pakistan's external financing needs of around 20 billion dollars are expected to be more than fully met in FY22. As a result foreign exchange reserves are projected to rise further." The source of this significant amount of external financing and, more importantly, the rate at which it is borrowed would depend on whether the country is able to demonstrate to the Fund that the alternate reform agenda that has yet to be finalized - alternate to the February 2021 agreement with respect to the power sector and tax sectors - has yielded positive results. And while the power sector continues to remain intractable yet the government has surpassed the July 2021 tax collection target, sourced partly to inflation of 8.4 percent in July - 0.2 percent higher than budgeted - with the focus remaining visibly on raising collections rather than on reforming the tax structure with the Finance Minister's enforcement measures, including the gift scheme not yet on board.
Portfolio investment, widely considered to be a primary objective of the central bank in 2019, requires a high rate of return relative to other countries and can leave the country hostage at a press of a button as the 1997 Asian financial crisis revealed. In addition, reliance on incurring domestic debt continued in July till 5 August 2021 with Pakistan Investment Bonds of a little over 300 billion rupees issued at rates ranging from 7 percent (for three-year maturity) to 10.50 percent (up to 15 years maturity).
The real effective exchange rate (REER) is widely considered to have been at its market value in June 2021. SBP, during the last two and half years, has insisted that it will intervene in the market only if disorderly market conditions prevail - a reasonable policy thrust though it has been reticent about defining these conditions. Perhaps a review is required at this time.
The pressure on the rupee cannot be solely placed at the doorstep of the widening trade deficit. Market perceptions are also at play with the source of foreign financing not confirmed as the sixth review talks with the IMF loom large on the horizon with the government yet to demonstrate that its alternate strategy which is definitely more people-friendly than that followed by the previous finance minister will succeed. But till such a time the eroding rupee will make the budget 2021-22 calculations less relevant and fuel inflation (due to the rise in the price of oil which impacts on energy prices and transport costs) with consequent political repercussions.
Copyright Business Recorder, 2021
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