Sep 1 - 7, 2008

Depreciation of Pakistani rupee against the US dollar is continuously sending ripple of anxiety to local importers and manufacturers, who are facing double inflationary pressure also from soaring prices of goods and services in the country. On the other hand, speculative forces in the market earned huge profits from the phenomenon of daily devaluation of rupee. This year, the rupee has so far lost almost 20 per cent against the US dollar. During the last four months, the parity of US dollar against the rupee has gone up from Rs60 to Rs77. Analysts believe that the rupee is under pressure because of the depleting foreign exchange reserves and massive outflow of portfolio investment.

Weakening rupee value is also making imports costlier. The curtailed purchasing power of the local currency has driven the prices of all imported items and the profit margin higher. The steep fall of rupee has put importers out from the cost-effective trading arena and it may convince them to stop doing business in the country where cost of doing business is continuously rising. According to the Federal Bureau of Statistics (FBS), the country's import bill of petroleum products has increased by 87.41 per cent to $1.287 billion in July 2008 against $0.686 billion in the same month last year. Figures show that the import of products manufactured from petroleum increased by 135.62 per cent to $752.618 million in July 2008 against $319.417 million over the same month last year. The import bill of petroleum crude increased by 45 per cent to $534.625 million during the month under review as against $367.438 million over the same month last year. Food items import was up by 8.68 per cent to $239.088 million in July 2008 as against $219.994 million in the corresponding month of the last year. The import of milk products increased by 88.92 per cent, wheat 473.69 per cent, pulses 76.54 per cent, tea 52.09 per cent, and spices 40.38 per cent.

The rupee devaluation has brought a wave of imported inflation, which would be counter-productive for the export-oriented industry, as it essentially depends on imported constituents for the exportable production of goods. Massive devaluation of local currency has seriously hurt a lot of textile mills in the country, according to the All Pakistan Textile Mills Association (Aptma). The Aptma members complain of getting stuck up in currency swapping of their loans under a State Bank of Pakistan policy directive A large number of mills have kept their position open against import order under letters of credit for raw material and machinery and many have entered into cross currency swap under the central bank's Financial Derivatives Business Regulation.

Depreciation of rupee against the US dollar and the flight of capital have been having negative bearing on the share values. The stock market has gone upward, as the political uncertainty is over with the resignation of Musharraf, according to the local analysts. The benchmark Karachi Stock Exchange (KSE)-100 index gained more than 6 percent in two trading days after President Musharraf ultimately announced to step down. While the KSE-100 index witnessed on August 18 a rise of 461 points or 4.5 percent closing at 10719 points, it gained 1.86 per cent or 200 points on August 19 closing at 10,919 points. Local analysts had hoped that the market could grow more and the rupee could get stronger against the dollar if the country saw good governance in future.

In two days after Musharraf's resignation, the inter-bank market witnessed appreciation of rupee against the value of US dollar that fell on August 19 by 3.4 per cent against the rupee in the inter-bank market. However, the rise in stocks and appreciation of local currency proved a short-term and temporary phenomenon after Musharraf's exit. The KSE 100 index is now continuously declining and so is the value of currency. Presently, the rupee is being sold at Rs77 to a dollar in the open market. Local bankers and currency dealers believe that the stability of exchange rate depends upon building the country's foreign exchange reserves, which can only give sound backing to the local currency against the dollar.

On August 22, the State Bank entered the market and pumped millions of dollars to support the local currency. The central bank reportedly pumped at least $50 million through two large banks. . As the central bank's reserves are not enough to sell in the market, only a big inflow of foreign exchange can strengthen the rupee or at least save it from further weakening against major currencies. Present government expects about $3.5 billion foreign exchange inflow by end of this month, according to the Federal Minister for Finance Naveed Qamar. The government expects $1 billion flow from the World Bank and other international financial institutions and foreign funds from some other sources.

Devaluation of rupee against all major international currencies is the reflection of weakness of the economy. The rupee will continue to fall till the government comes out to help the local currency. The government does not seem to take the currency devaluation serious, as it looks more focused on politics. Political uncertainty is the main cause of fuelling depressing market sentiment. While political chaos is growing over restoration of Supreme Court judges deposed last November when former President Musharraf had proclaimed state of emergency in the country, the incidents of suicide attacks last month further aggravated law and order situation in the country. The ruling coalition has split after the isolation of PML (N).

Weakening rupee is the immediate challenges for the country's economic managers. Every thing is expected to be in order once the investor's worry with regard to the prevailing political uncertainty ends. The most serious credit challenge would probably arise from further political infighting and soaring inflation and fiscal fundamentals that could further worsen macroeconomic stability. Rating agencies, Standard & Poor's and Moody's Investors Service have both warned of a potential rating downgrade. The analysts believe that lower credit ratings can increase the country's borrowing costs and hamper its efforts to tap international credit markets.