ARTICLE: Despite tough conditions at home and abroad, the economy did manage to impress Moody's Investors Service, which has confirmed Pakistan's rating at B3 with stable outlook. Earlier in May, the rating was under review for a possible downgrade.
Recently, despite the coronavirus pandemic, appreciate policies have helped, which is why the economy has shown some stability. But risk still looms, as steps taken so far are only corrective measures.
It is true that the present government inherited a balance of payment (BoP) crisis due to depleting foreign exchange reserves and is still not out of the woods. The BoP number (current account deficit) is down due to fall in import demand caused partly by a shift in policy stance, partly due to a fall in demand from consumers and retail sector and because of unfriendly conditions to obtain bank credit.
This is why growth in exports is low and fiscal revenue is weak. Despite job losses in the Gulf caused by slump in oil prices, home remittances inflows have so far provided good support. Disbursement of USD 1.386 billion in Rapid Financing Instrument by the IMF to address Covid-19 pandemic is a blessing in disguise. Negative growth in the large-scale manufacturing sector (LSM) will support this writer's argument. Unemployment is soaring, as Covid-19 has led to a massive decline in employment opportunities.
It is quite normal and usual for any incoming government to discredit the performance of the previous government and claim to have offered effective stimulus to turnaround the economy. Only useful programs in the true sense can effectively push growth higher and create new job opportunities to offset rising unemployment.
The truth is that if we look at the macro numbers, the economy is sinking deeper. It is because the economy is unable to generate enough profit to pay its annual interest cost and the principal amount at the time of maturity. How can the economy flourish with outdated business structure, obsolete practice/technology and without funding facilities to new businesses? Which is why the economy has to constantly borrow from external sources.
Though Policy/Discount Rate has been slashed by 625 basis points (bps), the cost to run a business is still around 10% due to credit risk and bank charges. Hopefully, the PM's housing initiative will help. We have to seriously understand that the housing initiative is a positive step in the right direction, but it is too little with a lot of hindrances that can hinder its ability to make the difference.
EXCHAGE RATE CHALLENGES
Recently, the market saw the release of supportive economic numbers that should have helped Rupee to make gains. At various fora, the SBP Governor has shown his discomfort with the past policy of maintaining overvalued domestic currency and with special reference to REER. He is of view that holding Rupee artificially high is like subsidizing imports and taxing of exports, which in theory could be true.
In SBP's view, exchange rate policy should reflect the true picture of demand supply gap of foreign exchange inflows and outflows that should decide the PKR/USD rate, which makes sense. If based on SBP Governor Dr Reza Baqir's argument, Rs/USD parity should have been around 160, unless economic numbers deteriorate.
Pakistan's current account and budget deficit narrowed sharply. It was mainly due to a sharp reduction in imports, though exports too fell, but was small in proportion. According to the Ministry of Commerce's July trade figures, exports grew at 5.8% and import numbers fell by $156 million, which is a healthy sign after a few disappointing months due to the suffering caused by Covid-19.
Further, if we take a look at the SBP Foreign Exchange weekly data, net reserves with SBP are $ 12.542 billion and total liquid FX RESERVES are $ 19.562 billion. The upward trend at the end of FY20, since fiscal year 2018-19 suggests stability. And more importantly, the Real Effective Exchange Rate Index (REER) decreased by 4.3 percent in June 2020 to a provisional value of 93.02 from the revised value of 97.20 in May 2020, which is well below and best since August 2019.
Based on the above data facts, current level of 167.8794 does not match with the economic numbers. Pak Rupee should be trading around 160-162. This writer not be surprised to see Rupee making short-term gains in the coming days.
What may have stopped the PKR from gaining strength is anybody's guess. But, despite supportive numbers if the PKR does not make gains this month, then there is surely a good reason behind its weakness.
Moody's upgrading to stable may not make much of a difference in giving advantage to Euro-dollar pricing as rating remains B3. But this should give a good feeling to the domestic market.
Another probable cause could be that since we couldn't achieve the USD 12 billion foreign exchange reserves target; rupee could not make gains. It could not be said with certainty whether or no Pakistan's Forex Reserves for 3rd quarter or September end would close above USD 13 billion.
It is very important for the market to understand that when foreign currency is borrowed from another country, the borrowing country has to repay on maturity as seen recently. The borrowing amount cannot be rolled over; it will be considered default if rolled over. Though fresh borrowing is allowed. (The writer is former Country Treasurer of Chase Manhattan Bank)
Copyright Business Recorder, 2020