Sep 6 - 12, 20

Higher foreign exchange reserve is a sign of strength for exchange rate but the Pakistani rupee is still depreciating against US dollar. The country's foreign exchange reserves recently rose to $16.767 billion, higher than the previous record level of October 2007, when the reserves touched $16.45 billion. The rupee has lost 0.99 per cent against the dollar this year after losing 6.17 per cent last year and a 22.12 per cent slide in 2008. To many experts it is actually the huge black economy; money that evades taxes, and used for smuggling and other illegal businesses at large. This is evident from the yawning gap between US dollar's open market rate and inter bank rate versus the rupee. The spread has lately hovered around 170-190 paisas, compared to its historical average band of 15-20 paisas. Some experts believe that reason for demand of foreign currency in cash economy is of changing high denomination rupee notes.

The rupee is presently being traded at over Rs85 for a dollar in the inter bank market. The rupee's previous record low was set in February when it eased to 85.15. The rupee depreciation in February was aggravated by black-marketing of the US dollar, which some businessmen were willing to buy even at a higher price. The demand of the US dollar surged after the central bank made it mandatory for everyone to show personal ID for purchase or sale of greenback. The people have been reluctant to sell the US currency to exchange companies because they do not want to disclose their identity.

Black-marketing of the US dollar not only depreciated the Pakistani rupee against the greenback but it also widened difference in the exchange rate in the country's open and inter-bank markets. The smugglers gain more mileage after devaluation as the impact of government levies on imports increases due to the decline in rupee value. Critics say that the demand of dollar in the open market has surged due to the low vigilance on part of the government's investigative agencies, as addressing the problem of high parallel economy (black economy) is more of an administrative and enforcement issue than that of policy making.

Experts suggest that the domestic undocumented money need to be channelised for fiscal spending and private sector project financing in order to reduce dependence on donors and to regain self-reliance. Amid tight liquidity condition owing to a dearth of foreign inflows, the government is making efforts to spur domestic savings which have declined by 650 bps to mere 14.3 per cent of gross domestic product (GDP) in the span of last six years. Increase in domestic savings will not only help the government plug in its deficit but will also provide much-needed liquidity to the private sector.

The country's central bank kept its interest rates high to attract documented savers' money to help meet government's expenditure needs. In its Monetary Policy Statement (MPS) for August and September, the central bank raised its key policy interest rate by 50 basis points to 13 per cent to sustain growth and keep inflation in check. With this move, the country joined Asian economies including India and Malaysia, which have also raised borrowing costs as the region leads the global economic recovery.

The local currency had largely been stable since November 2008 when the country was forced to turn to the International Monetary Fund (IMF) for a $7.6 billion loan to avoid default on foreign payments. The loan amount was later augmented to $11.3 billion in July last year.

The rupee has lost around 35 per cent against the dollar since February 2008, when the Pakistan Peoples Party-led coalition government came to power. The frequent depreciation of the exchange rate in two years added Rs1125 billion to public debt, significantly increasing the rupee cost of foreign debt servicing. The total foreign and domestic public debt is at 58.1 per cent of the GDP, according to Debt Policy Statement 2009-2010. Under former government of Prime Minister Shaukat Aziz, the foreign exchange rates witnessed stability and the rupee did not lose its value against the US dollar and remained at Rs61 to a dollar, which is presently valued at more than Rs85 to a dollar in the inter-bank market.

The high foreign exchange reserves could not help stabilise the exchange rate and strengthen the local currency. The country will have to pay back the loans by next couple of years, especially the emergency loans of $11.3 billion from IMF.

The consistent depreciation of the local currency against greenback is also contributing factor to inflationary pressures. Rupee's devaluation is fuelling inflation and eroding the purchasing power of the people belonging to the middle class. Soaring prices of essential commodities including foodstuff have made the lives of the poor and the lower middle class increasingly difficult, as they are struggling to meet the minimum standards of living.

Rupee devaluation has raised the cost of doing business due to industries' heavy reliance on imported raw material, according to the local experts. The falling rupee has also failed to increase the country's exports, which have been stagnant for the last two years.

The country's exports constitute about 34 per cent imported material. Local currency dealers contend that the country's imports were almost the same in the fiscal year 2009-10, which ended on June 30, as these were during the previous year, but exports increased by six to eight per cent, reflecting the pressure on dollar demand. The importers have purchased the dollar heavily because of the rising imports which revived economic activities during the second half of the fiscal year 2009-10 because of higher lending by banks to the private sector and the government's decision to revise the economic growth rate from 3.3 to 4.1 per cent.

The growth of per capita income also depends upon stability of the exchange rate. The country' per capita income, calculated on the basis of an exchange rate of Rs61.30 to a US dollar, increased from $926 to $1,085 in the fiscal year 2007-08. The currency's strength against the US dollar was instrumental to push up the per capita income in the year 2007-08. With a population growth at 1.9 per cent per annum, the country's real GDP growth of less than two per cent indicated a negative growth in per capita income in the last fiscal year 2008-09. The rupee dropped from Rs60 a dollar to Rs80 just in a few months in 2008-09.