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The IMF conditions to devalue the rupee by 7 to 8% is not a feasible solution

By Syed Jamil Ahmed Rizvi, FCMA
Oct 02 - 08, 2000

According to the United Nations Industrial Development Organization (UNIDO), depreciation of the rupee by 120% between l991 to l999 associated with the exchange rate liberalization resulted in sharp increases of cost of imported raw material and capital goods. 4% depreciation against US $ within a month has been experienced since the de-control of inter-bank rate by SBP. Rupee has been in trouble since the start of worsening situation in early 1990s. IMF conditionalities for devaluation of the rupee can not help at all to give boost to export. Accumulated effect of devaluation has been experienced as mutual dimensional range from high cost of import to higher debt liability for foreign debt when converted into rupee. Pakistan economy is badly caught in a vicious circle of depreciating rupee, lost growth momentum, high foreign debt and growing balance of payment deficit. Indigenous solution to resolve economic crisis are not in sight and the government is heavily depending in implementing IMF conditionalities. It has been seen in developing countries economy that every country in the Asian region which have to devalue its currency had something fundamentally wrong in macro economy making policies. Real problem for the rupee started in post nuclear explosions. Second quarter of 1998-99 was volatile for the rupee which kept it under high pressure. Three things happened simultaneously First, the US-led economic sanctions almost stopped the inflow of dollar from donor countries. Second, suspension of ESAF programme also blocked any financial assistance from donor Agencies. Third, a very disastrous and unwise decision for freezing foreign currency accounts by the previous government shook the confidence of overseas Pakistanis and investors substantially. There is a sharp decline in the remittances by the overseas Pakistanis. Due to cumulative effect of these three factors forex reserves 1.5 billion dollar which dropped to $ 412 million in November 1998. This amount could hardly meet the imports not more than 3 weeks.

The SBP responded the multifaceted problems faced by the rupee by introducing multiple exchange rate to preserve forex reserves, restrict unnecessary imports and safeguard rupee which had for a short duration touched the low of 67 to a dollar. Speculators wanted to jack up parity Rs. 100 to 1 dollar. The SBP strict control to maintain rupee - dollar parity despite reservations helped the rupee to stabilise and it did not depreciate to a collapse value. Soon after the revival of ESAF programme in January 1999 the government came under pressure from IMF to dispense with multiple exchange rate. The IMF wanted the rupee to be floated in open market in order to establish a natural parity with dollar. Before the budget 1999-2000 the government changed over from multiple exchange rate to controlled inter bank rate and to discourage speculative and other negative market forces brought forex business under strict administrative control. The previous government ensured that inter bank and kerb market remained within the maximum limit of Rs. 2. The rupee came once again under a lot of pressure due to Kargil war. Pakistan economy suffers from a number of problems such as foreign debt amounting to 38 billion US dollar. High balance of payment which will be around $ 5 billion by the end of this financial year, a low growth rate 4.5% of GDP for the year 2000, 5% of GDP for 2001 against an average growth rate of 4% of GDP in 1990s. The fiscal deficit is 6.5% of GDP. Stagnated exports of around $ 8 billion with a trade deficit of around $ 2 billion and low tax revenue of 11% of GDP. In the month of July, the SBP made an artificial parity by de-controlling inter bank rate and floating the rupee in the open market.

Impact of Devaluation in the Past: In Pakistan for the last few years the devaluation is thought to be necessary in the growth of economy. Several time Pakistani rupee had been devalued. The key reason behind the devaluation was to restore export competitiveness. Meeting export target is critical to lower the external imbalances and to improve the foreign exchange position. For this purpose devaluation can not be treated as the only tool to achieve the target as it has more negative impacts on the economy than the benefits it provides.


Pakistan heavily rely on the imports. Major items include Petroleum, chemicals, high tech machinery, edible oil, tea which constitutes about 60% of the total imports.

Pakistan is an agrarian country. The main export of Pakistan are cotton, leather and rice. Moreover, Pakistan has been facing cut throat competition in manufactured, semi-manufactured items and raw material in the foreign market. Unfortunately devaluation has not played its anticipated role. It could be seen during the period of 1992-97, although the devaluation was 10.11% on average while the export increased at a diminishing rate of 6.69% on average.

Impact on the rising trend of inflation: Each new government has used devaluation medicine as an obvious short term pain reliever. But every time it has failed to cure ailment. The reason being that in Pakistan inflation breads further inflation due to heavy dependence of domestically manufactured goods on a large import content. With an average devaluation of 10.11% during 1992-97, the CPI index increased to 9.26% and W.P.I index to 11.14%. According to a study released by Asian Development Banks it has been concluded that devaluation has not worked to boost the economy in Pakistan.

Impact on budget deficit: Inflation in Pakistan is the result of a number of reasons predominating budgetary deficit.


As Pakistan is an agricultural country it relies heavily on export of agricultural products. Devaluation bears an adverse impact on the foreign debt services. Both repayment and interest charges will increase in terms of rupee. They will remain constant in terms of dollar but debt servicing as a percentage of GDP will increase.

Current situation of money market: The IMF conditions to devalue the rupee by 7 to 8% is not a feasible solution with a number of hard ground realities, which are as follows:

First forex reserve touches this year crucial low. Second exporters had withheld their exports proceeds of around 700 million dollar and have waited till the rupee was devalued to get a better exchange rate. Third, balance of payment position is getting crucial because of high dollar cost of imported oil. Fourth, Pakistan balance payment position will be quite precarious as it will have to shoulder the burden of approximately 5 billion dollar by the end of current fiscal year. It is feared that the central bank will let rupee depreciate that much by the end of the year. It will, however may not allow a free decline of the rupee and will keep on intervening artificially as it did on 21 and 22 August, 2000 by injecting $ 13 million which restrained speculators who wanted to jack up rupee around Rs. 60 to a dollar. The rupee was restrained at Rs. 57.10 in kerb market. The inter bank rate was Rs. 55.10 a dollar. But in case market forces pressurize the rupee further the SBP will have a little leeway to counter market forces because of low forex reserve.

Negative effect of devaluation: The negative effects of devaluation are well known. They include foreign debt liability, costly imports as well as exports because of increase in the production cost and inflationary pressure that might build up. It will be absolutely wrong to anticipate that export might be competitive with India and Bangladesh whose currencies despite being stronger than the Pakistani rupee have shed to 4 to 5% against dollar. We have witnessed this in the past that devaluation did not boost export. In case exports did not pick up and IMF stayed away because of political reasons, decontrolling inter-bank rate might turn out to be an exercise in futility. It will have a negative impact on economy and the target fixed in the current budget will distort badly. This futile exercise will shoot inflation rate and increase the prices in the country.

Money market operations

Universal micro economic principle of supply and demand in context of money market of Pak rupee against US dollar does not apply in Pakistan due to peculiar geo political and cultural conditions prevailing in the country for the last decade viz-a-viz foreign investors have no confidence in the country due to three main factors (as explained against item 10, 11 12 under Money Market scenario A) are responsible for such situation after the nuclear explosion. It is evident from the recent most situation of dollar supply which is explained as follows: Foreign Companies recently purchased about $ 35 million from the open market which pushed the dollar to new peaks. In addition to above, other multinational companies as well as local companies have made heavy purchases amounting to $ 150 million approximately from the open market. Recent buying of dollar had affected the decline in Pak rupee to dollar by about 4%.

Need for forex control: SBP is a central bank and to regulate foreign exchange market is one of their functions and as such they had asked the corporate to offload their dollar holdings back into the system. We estimate that they may offload one to two million dollar which is totally insignificant. Under the forex rules local corporate as well as multinationals are not supposed to buy foreign exchange from the open market unless they are specifically allowed by the Central Bank. It is a hard core fact that many corporate firms made heavy buying using the advantage for deregulation of money market presumably to remit them abroad, which constitutes violation of the rules. They should bring the dollar from kerb and re-circulate into the domestic money market to stop crash or collapse of Pakistani rupee against the dollar as well as providing leverage in the basket of foreign currencies. In order to stop outflow of dollar all banks must give an undertaking from corporate and MNCs that their foreign currency accounts were fed from remittances abroad and not through purchases from open market.

Measures to boost exports: overall impact of devaluation is not in favour of the economy of Pakistan. Devaluation is not prescription for ailing economy.

Following measures should be adopted to achieve self-sustaining Macro economy.

Quality improvement:

High quality product on economical prices.

Attention towards quality improvement and maintenance is further needed.

ISO 9000 application towards the modern methods of production should be increased and properly implemented.

Best service offerer: In the international market not only the product is important but the related offering services are also countable. This includes banking facilities, insurance, transportation and infrastructure benefit. Delivery on time and insuring the products quality are very essential. Foreign relations should be improved for the boosting of export and maintaining the improved trade. This aspect can never be overlooked.

Political stabilization: Conditions for foreign investment should only be created by having stabilized political system and satisfactory law and order situation.

Minimum IMF intervention: Continuous instructions from international donor agencies have badly damaged our own monitory and fiscal policies. These conditions are not at all suitable for the economic sovereignty of Pakistan.

Effective resources utilization: Although our products are somehow competitive but we are not producing at the normal capacity level. Our resources are plenty but utilization are not effective.

Comparative advantage of Pakistan Products: It has become a great challenge for all the developing countries to balance their industrial growth and promote their sales so as to bring harmony to their cost of production and GDP. Input costs of industrial sector in Pakistan are comparatively higher than in other countries of South Asia. The high cost of domestic production has rendered our exports uncompetitive in the international markets. India and Pakistan use the same factors of production due to their similar economic and political circumstances but the cost of all the Indian products is comparatively lower due to achieving cost benefits arising out of opportunity costs of the factors of production. We can only augment the exports of various commodities intensive in its relatively abundant and chief factor and reduce the import due to scarce foreign exchange. We can only compete India as well as other SAARC countries if we have a comparative advantage in cost of production in all industries. We should specialize in the production and exports of various commodities in which its absolute comparative advantage is lesser than Indian and other developing countries. We can only increase the trade if we produce the commodities of their comparative advantage and exchange part of their output with the other nations for commodity of their comparative disadvantage. The export proceeds for July 2000 were estimated at $ 668 million as compared to $ 876 million in June 2000, showing a fall in export earnings by $ 208 million which reflected 24% steep decline in exports. Pakistan is making efforts to boost the exports which are also likely to face a setback as a result of sudden increase in freight charges by the foreign shipping companies affiliated with the India, Pakistan and Bangladesh conference. The increase in freight charges by $ 300 to $ 400 effective 1st September, 2000, would further add to the cost of exports and as such the local exporters would be finding it difficult to lower their export prices for Europe and USA. This situation may result sluggishness in the tempo of exports during the intervening period. In order to offset the adverse impact of freight increase the government would might have to take measure such as appropriate increases in the duty drawback rates. This will be a short-term strategy. Pakistan needs to evolve long-term consistent policies for self-sustaining economic development. The success of economic development in India and their lower competitive cost in the international market is also due to vigilant and implementation of Cost Accounting Record Orders implemented in 44 industries.


To increase exports. Exports cannot be increased due to their high competitive cost of products. Product cost should be controlled. There are controllable and un-controllable factors whose behavior determine the pattern of product cost. Product cost increases due to uncontrollable factors such as increase in inflationary rates compounded by increase in utility charges, increase in tax rates and falling parity of Pak Rupee especially to US $ and other currencies in the international forex basket. Though the above factors are called as uncontrollable but to some extent these are controllable. For example rates of electricity, Gas, water, telephone may not need to increase every year, if utility companies exercise vigilant and effective cost control, which also includes cost savings and cost reduction programmes. Tax rates should consistently be used and increases of yearly tax rates be avoided so that long term corporate plans are not affected and their profitability is not distorted due to inconsistence policies of government. The controllable factors play very important role which every company can control easily especially private sector companies can keep their strength of human resources at a bare minimum level and also keep their wages, salaries and labour related benefits with the absorption limits of their products. Cost pattern for the export of products should be changed from the full absorption method to variable or marginal cost basis and marginal profit should be fixed until such time the situation improves. Capacity utilization should be increased. Productivity should be improved with keeping efficient human resources on market based salaries. In order to achieve the above objectives for controlling the cost of products with their competitive advantage over other countries, professionals such as cost and management accountants can be hired by all industries who will definitely play their pivotal role in this critical juncture. Pakistan is facing problems for export of its products in the international markets due to higher and un- competitive cost of its products.