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All the credit goes to present

May 20 -June 02, 2002

The Foreign Exchange Reserves (FER) today exceed $5.4 billion and government intends to raise it to over 5 billion by the close of the current financial year in June. Never before in Pakistan's history the country has been blessed with so much FER. The present government which inherited about $400 million when it seized power in Oct. 99 fully deserves credit for this big achievement.

However, there are critics who are not prepared to give any credit to the present government for its sound economic policies for this phenomenal improvement. Instead they allege that these reserves have been built up by the State Bank through purchase of dollars from the open market without explaining as to where from the rupee equivalent came from as according to the financial data there has been no increase in the amount of domestic debt (on the contrary there has been a reduction of about Rs140 billion) nor there has been any increase in the currency notes in circulation.

A part of FER is also made up of remittances which have suddenly jumped since 9.11 and some of it reflects the dole that we have received from various sources for services rendered in the cause of international war against terror. So, all of it is in fact unearned except the remittances which too is broadly speaking made up of mostly hot dollars chased away from the international banks by the world campaign against the so-called terrorist tainted money. However, those who take credit for this 'huge' accumulation of FER dismiss this perception by asking, if it was all so easy then why didn't the previous government do it." This theme has been picked up by some other biased writers as well.

Clarifying the position the Ministry of Finance maintains that it is totally misleading that the reserves have been built up only through the purchases of the SBP. Reserves build-up is due to the macroeconomic policies pursued by the government, which have succeeded in reducing fiscal and current account deficits. Fiscal deficit which averaged 7.0 per cent of GDP in the 1990s has been reduced to 5.2 per cent last year. The current account deficit which averaged 5.2 per cent of GDP during 1995-99 has been reduced to an average of 2.0 per cent during the last two years. It is in surplus to the extent of $1.66 billion or 2.8 per cent of the projected GDP during the first eight months of the current fiscal year.

Workers remittances during the first nine months of the current fiscal year amounted to $1.63 billion which are up by $772 million over the same period last year and are likely to cross $2.0 billion by the end of the current fiscal year. Foreign investment during the same period amounted to $284 million and is up by $ 180 million over the same period of last year.

The critics suggests that the reserves should be built up by increasing exports and not through various other flows. This is not correct. No developing country can build reserves by simply increasing exports because its imports will always be higher than its exports. In other words, its exports will not be sufficient to finance its imports or its net export will be negative. What the country can do is to minimize the gap between its exports and imports, keeping in view the macroeconomic objectives of its policy.

It is well-known that a country builds up its foreign exchange reserves through a combination of measures. Most important are improvements in the trade and current account balance, private inflows which include remittances and foreign investment, assistance from donor agencies, grants from friendly countries, and purchases from the inter bank and open markets. All these elements have helped Pakistan build its foreign exchange reserves. Therefore creating an impression that the government has built up its reserves by purchases alone is highly misleading.

Second, the amount of $4.0 billion represents the cumulative purchases of the SBP during the last two years, i.e. $1.7 billion in 1999-2000 and $2.3 billion in 2000-2001. These purchases were utilized to make debt service payments and thus the contribution to net accumulation of reserves was almost zero. It is important to note that despite three rounds of debt rescheduling Pakistan has made debt payments from its own resources amounting to $3.8 billion in 1999-2000 and $5.1 billion in 2000-01 as per Annual Report of State Bank for 2000-01.

Third, the foreign exchange market has been liberalized since April, 2001. Under the free float exchange rate system which is prevalent now, all supplies of foreign exchange (exports, FDI) remittances) are sold in the inter bank market and all demand is met by this market. The State Bank purchases foreign currency which is in excess to the requirements of the private sector and by doing so, it maintains stability in the exchange rate consistent with the overall macroeconomic objectives. If the State Bank does not intervene in the market the excess supply of foreign currency will make Pakistani rupee stronger. In other words, Pakistani rupee will appreciate further, thereby affecting our exports. This is a normal practice followed by all central banks either directly or through their agent banks. Thus, these purchases are in fact mopping up the country's foreign exchange earnings by the central bank. These purchase are not coming out of thin air. Before September 11, 2001, the open market was mobilizing workers' remittances from the Middle East and the USA and excess supplies of the remittances were purchased by the State Bank.