We have all along been urging our economic managers for taking a realistic view of the behaviour of exchange rate and inflation in the country in the recent months and formulation of appropriate policies to counter the deteriorating trend.
Thankfully, official quarters seem to have finally recognised the problem and are prepared to act accordingly.
The Governor of the State Bank, in an interview with a wire service, negated the perception that the central bank had tried to stop the rupee from falling to three-year lows and emphasised that there was no defence of the rupee at all.
According to Ishrat Hussain, the central bank would, of course, check the volatility in the currency market but had not tried to set its level and resist rupee depreciation.
The State Bank only intervenes when there is too much volatility and there is a need to smooth it. The recent slide in the currency's value had been mainly due to the widening trade gap primarily because of high oil prices.
The trade deficit during July-September 2004 was $839 million as against $145 million in the corresponding period last year. The current account during the year was expected to be balanced or slightly in deficit and the gap could be financed through foreign direct investment, inflows from a planned Islamic bond issue and disbursement from international financial institutions.
However, high oil prices would be putting pressure on prices. The Governor was of the view that although it was too early in the year to make reliable projections, inflation was likely to exceed the target of 5.0 percent slightly. Rising world oil prices, surging food prices and rents were mainly to blame for climbing inflation this year, which was only 4.57 percent last year.
"If the market conditions suggest that there is an increase in inflationary expectations, the central bank will try to neutralise those expectations." Monetary policy stance of the State Bank, according to the Governor, would be a measured response according to the market conditions.
So far as growth prospects were concerned, there was no need to revise the target of 6.6 percent, with good news from both the industrial and agricultural sectors.
The observations of the State Bank Governor with regard to exchange rate, inflation and growth prospects are, in our view, very comforting, raising the hope that necessary measures would be undertaken to appropriately deal with the situation.
His remarks assume even greater significance when seen against the general impression that the authorities of the country were not waking up to the reality or in certain cases the response was not suitable.
For instance, there was a wide-spread belief in the market that the State Bank was bent upon defending the rupee at around Rs 60 to a dollar whatever the cost in terms of loss of competitiveness and depletion in foreign exchange reserves just to show that all the economic indicators during the tenure of the new government of Shaukat Aziz were marked by positive trends.
Similarly, the State Bank was not prepared to accept that inflation was likely to exceed the target and this lack of realisation on its part was a binding factor in implementing the right measures in time.
Now that the Governor has shown his awareness about the emerging problems and stated the policy thrust of the Central Bank openly, there remains no ambiguity about the competence and sincerity of the authorities to manage the situation properly.
Having said this, we are still of the view that it would have been better to initiate the process earlier, at least on the inflation front in order to neutralise inflationary expectations and provide a measure of relief to the common man.
Nonetheless, better late than never and hopefully bold actions would now be taken to counter the emerging inflationary pressures and let the Pak rupee find its own value in the currency market in a smooth manner without heavy doses of intervention or unnecessary advice to the interbank market players.
In any event, it needs to be particularly ensured that political expediency does not dictate economic imperatives and officials of the Ministry of Finance do not influence the well-thought-out decision of an autonomous State Bank.
Also, the practice of depicting different variables like a rise in the stock exchange indices, decline in interest rates and sharp expansion in private sector credit as indicators of improved health of the economy should be avoided because their trends are not a true barometer of the direction of the economy.
For instance, adjustment in interest rates and containment in credit and liquidity are just tools at the disposal of the central bank which, depending on the evolving situation, could be manipulated in one way or the other.
Given the situation in Pakistan, it might have been better not to let the interest rates fall so drastically and encourage the growth of private sector credit and money supply so sharply.
We would also like to urge the people in general and the opposition parties in particular not to raise unnecessary fuss over depreciation of exchange rate or upward adjustment in interest rates.
There is no economy in the world which could show consistent improvement in all the areas indefinitely.
Further, exogenous factors like record increase in oil prices resulting in widening the trade deficit, exacerbating price pressures and upsetting fiscal projections, are entirely outside the control of the government and their effect has to be tolerated whether we like it or not.
Such signs are not always indications of domestic policy failures. However, the government would be lacking in its duty if it failed to implement appropriate policy actions on the domestic front.