Enough dollar reserves?

EDITORIAL: Governor State Bank of Pakistan Jameel Ahmed while speaking to media on the sidelines of a ceremony at the Institute of Business Administration in Karachi baldly stated that Pakistan’s “reserves are over 7.9 billion dollars.

They are more than sufficient to meet any obligations” – a statement that is simply unfathomable from an economic perspective as the reserves currently held by the SBP are sufficient to only meet 1.14 months of imports instead of the three months considered appropriate globally (backed by an empirical analysis undertaken by the International Monetary Fund).

In addition, the coverage of 1.14 months of imports is in spite of restrictions on imports that include limitation on advance payments for imports against letters of credit and advance payments up to the certain amount per invoice (without LCs) for the import of eligible items.

In his defence the Governor may aver that his statement took account of only the country’s debt obligations and not imports – an argument that would, without doubt, baffle economists.

It is relevant to note that Pakistan’s risk of default, measured through the five-year currency default swap index, rose 4.2 percentage points on Monday to a high of 64.2 percent which indicates that the country’s reserves are simply not sufficient to meet imports and foreign debt repayments on time.

It is important to note that foreign exchange reserves held by any apex bank of any country act as a shock absorber against factors that weaken the local currency. In Pakistan’s case it is relevant to note that the rupee-dollar parity rose to a high of 240 in the third week of September, prompting the Cabinet to direct that an inquiry be held on the matter.

It was widely reported that eight banks were found responsible for speculating on the dollar to generate windfall profits, which subsequently led to unilaterally corrective action by these banks and the rupee strengthened.

However, since then the rupee has hovered between 220 and 221.70 to the dollar – a far cry from finance minister Dar’s claim soon after he took oath on 28 September that as per his calculations the parity should be around 200 rupees to the dollar.

To appreciate the rupee to that level would require massive interventions in the market, for which the reserves are simply not sufficient; and such measures would be opposed by the IMF (International Monetary Fund) on the grounds that the SBP has flouted its advice to give more prominence to exchange rate flexibility as a means to address balance of payments (BoP) pressures rather than to administrative and exchange measures.

And as the constant delay in the success of the past three mandatory quarterly reviews have shown during the ongoing Fund programme not implementing the agreed reforms/structural benchmarks within the stipulated time leads to delays in the tranche release.

Ahmed further stated during his address at IBA that the central bank has expanded the scope of its investigation beyond the eight banks allegedly involved with the deadline for the completion of the investigation end-November 2022 and that the banks found guilty will face regulatory actions in December 2022. While the guilty banks should face regulatory actions yet the reserves remain a source of serious concern.

The rupee-dollar parity between 220 and 221.70 appears to reflect a natural equilibrium and any attempt to strengthen the rupee at this stage would require a scale of intervention which would have serious negative repercussions on the country’s key macroeconomic variables.

What is a source of serious concern to local economists is that during his previous tenure as the country’s finance minister Ishaq Dar was held responsible for an unsustainable real effective exchange rate of 121 or gross overvaluation that crippled the country’s export sector, and while borrowing from abroad was cheaper yet once the rupee was allowed to reach its equilibrium in December 2017 it made repayment prohibitively high – a factor that continues to plague the economy to this day.

Copyright Business Recorder, 2022