On the edge of a cliff

How politicking overrides all other considerations was proved yet again; while the government and the opposition remained focused on the presidential election, the exchange value of the rupee kept sliding rapidly. The government reacted only after the dollar crossed Rs 101 level in the interbank market. The Election Commission of Pakistan (ECP) knew on July 11 (when the month of Ramazan commenced), that August 6, will coincide with 27th of Ramazan and Eid could be either on August 9 or 10; it therefore had time to announce a non-controversial date for the presidential election.

However, it did otherwise, creating a situation in which the Supreme Court had to intervene, and to the delight of the PPP, the issue became one wherein it could again claim being victimised though, only to gain lost public sympathy. This reflects badly on the ECP.

Meanwhile, what went on unabated was the slide of the rupee, and shows no signs of being contained. The fact is that the Rupee was bound to slide courtesy trade deficit of $20.75bn recorded back in June 2007 (highest-until-then) that hasn’t contracted significantly ever since. Given the deteriorating law and order situation courtesy political in-fighting, rising incidents of extortion and kidnapping for ransom, terrorism and pervasive lawlessness, flight of capital too went on unabated; rise in the KSE-100 index was merely a sponsored show.

The exchange rate scenario worsened due to periodic repayments to the IMF and to other foreign lenders because effective January 1, 2008 repayment of instalments of the entire external debt (re-scheduled in 2001) had became due. The rise in global oil prices made it tougher.

Trade deficit was already high; it escalated courtesy the oil price rise. The only (grossly ill-advised) way of perking up the Rupee was to sell chunks of the fast depleting exchange reserves-a policy that couldn’t continue indefinitely, nor stabilise the rupee’s exchange rate. In the last five years, the occasional spurts in the rupee’s exchange rate were caused either by the release of the tranches of IMF’s Standby Facility (SBF), overdue payments by the ISAF, but more often, by SBP’s sale of dollars to perk up the consistently sliding Rupee.

Given a reckless mode of governance of the state, containing inflation in an import-oriented economy like Pakistan left the SBP with no other option, though it failed and the stand that “globally applicable economic principles don’t apply to Pakistan” was a poor excuse. What needed to be pointed out to (the all-knowing?) politicians was that selling scarce exchange reserves to temporarily stabilise the rupee and contain inflation, was wrong because a currency backed by inadequate reserves (courtesy their frequent sale) was bound to slide.

In the past, some SBP governors set admirable examples of taking principled stands on critical issues at the cost of annoying the in-power regimes. But that tradition has become a part of history. Perhaps, the principle being practised now is “compromise is man’s best friend.” Now that the tranches of IMF’s new facility may be disbursed by mid-September (by the time when more instalments of its SBF will become due), the SBP can’t go on selling its depleted exchange reserves to perk up the Rupee. That’s why the Rupee is sliding faster than before.

In the interbank market, the rupee has depreciated by 4.4 percent over its December 31, 2012 level and in the open market by over 6 percent, prompting the SBP to issue tougher reporting requirements for the exchange companies, besides requiring them to surrender a far larger portion of incoming remittances to the SBP.

In the last five weeks the rupee’s slide in the open market was particularly worrying because, despite the slide of the Rupee, according to the Chairman, Exchange Companies Association of Pakistan (ECAP), since February, gold imports increased by 500 percent. It is possible that the excess gold being imported is going to India because, while Pakistan continues to allow its duty-free import, India has substantially increased the import duty thereon. But equally true is the fact that smugglers are accumulating the gold sale proceeds abroad.

The ongoing developments in Pakistan’s currency market were inevitable and called for action in early 2013, but since the PPP government did its best to delay the general elections and the IMF insisted on dealing with the next government, the deterioration lasted for a lethally long period. The outcome thereof is that the government is kneeling before a sector – exchange companies – that has long been suspected of helping money laundering. The mere fact that the current estimates of black money stashed abroad now exceed $200bn hints at their role.

Yet the finance minister was forced to hold a meeting with the ECAP on July 26, to express his ‘appreciation’ of the role of exchange companies in the economy and hoped that they would continue that role, and then discussed the situation with the SBP governor. The next day, ECAP presented its recommendations to the SBP wherein it sought the repeal of SBP’s tougher regulations on money laundering, a ban on duty-free import of gold, and allowing ECAP members to enter into agreements with foreign money transfer bureaus.

Smuggling gold into Pakistan, whether or not there was an import duty thereon, has gone on for decades in both India and Pakistan. Imposing an import duty (at par with India?) is okay since it won’t hurt the poor, but won’t it induce those importing it legally to again smuggle it in? Until Pakistan develops the capacity to effectively check smuggling, especially via its highly porous borders with Afghanistan and India, levying high ‘import duty’ or ‘banning’ import of an item, will not serve the purpose; it will require a more clever strategy than adopting such measures.

The harsh reality is that we face a situation in which the foreign exchange reserves are simply inadequate to back the rupee – a reality the speculators know – which is the result of ‘assuming’ that the rupee can be stabilised without mustering the where withal for it. It amounts to the self-deception that Ghalib had warned about saying “Dil ke khush rakhney ko Ghalib yeh khayal Achcha hai” (Ghalib, believing in ideas that don’t reflect the reality is to keep you happy, nothing more). This attitude hardly befits the governors of the state.

Besides an Extended Fund Facility from the IMF, Pakistan also needs rescheduling of its other external debt, and then a radical restructuring of its economy to substantially increase its import substitution capacity, and revamping its internal security apparatus. That’s how it can steadily contract its annual trade deficit and induce a rise in its population growth-incompatible investment to GDP ratio.