DECLINING RUPEE VALUE ESCALATING COST OF FOREIGN DEBT
Aug 13 - 19, 2012
Hugely indebted Pakistan is nearing a default on domestic as well as external debt. Pakistan's public debt is rising due to the continuous erosion of rupee value against the greenback ; while the country's external debt has crossed $61 billion mark. A sliding rupee has increased the amount owed on foreign loans. The country has to repay $2.3 billion foreign debt in the current fiscal year, which will end on June 30, 2013. Local experts estimate that the country would have to bear an additional amount of Rs 109.48 billion for paying regular installment to the International Monetary Fund (IMF) in the current fiscal year 2012-13 for the retirement of IMF loan. In the last fiscal year, the government continued to borrow from commercial banks particularly through Term Finance Certificates (TFCs), Pakistan Investment Bonds (PIBs) and treasury bills (T-bills).
The erosion of rupee is likely to have repercussions for the government's total debt, which would automatically increase because the public debt is presented in the rupee terms. The experts believe that devaluation of Rs1 causes Rs60 billion jump in the public debt burden. A hugely indebted nation could face serious problem in meeting its budgetary targets and the interest repayments in the current fiscal year ending June 30, 2013.
The large fiscal deficit has resulted in a sharp increase in government's domestic debt, which recorded an increase of Rs1.2 trillion during July-March 2012 to reach Rs7.2 trillion. The central bank in its third quarterly (January-March) report issued last month warned that persistent high inflation and pressure on fiscal and current accounts would remain key challenges for economy, which grew by 3.7% during fiscal year 2011-12.
"The persistently high fiscal deficit remains a major risk to the macro-economy," said the SBP report. "There is greater reliance on short-term borrowing, which is creating liquidity management problems for the central bank, and rollover and interest rate risks for the government."
The new prime minister Raja Pervez Ashraf is following the same approach and policy to deal with an economic mess created by his predecessor Yousuf Raza Gilani, who was disqualified on June 19 in contempt of court case by the country's apex court. The government plans to borrow a huge amount of Rs 1.6 trillion in the first quarter of current fiscal year, which has started from July 1, from banking sector to meet the rising fiscal deficit that reached 8% of GDP, against the original target of 4% set for the last fiscal year 2011-12. The analysts warn that the government's persistent reliance on costlier domestic resources for financing its fiscal deficit may push the country into a debt trap. Gilani government betrayed its commitment to keep borrowing from the central bank at zero level on quarterly basis as its borrowing increased from the central bank by end of third quarter of the last fiscal year. The frequent money injections by the central bank to settle liquidity issues of the banking system are an indirect borrowing from the central bank, which has the same inflationary effect as borrowing from the central bank.
The analysts predict that the government is likely to continue printing currency equivalent or more than 2.4 percent of Gross Domestic Product (GDP) in the absence of revenue generation resources from taxes, privatization and foreign aid to meet its expenses in the current financial year. The government printed new currency notes of Rs 592 billion, during June 2011 to July 25, 2012. On one hand the country's external debt dynamics are challenging with $4.6 billion of debt repayment due in the current fiscal year, while on the other hand the dwindling level of foreign exchange reserves have also increased the probability of a default.
The country has already repaid $1.2 billion to IMF in the last fiscal year 2011-12 ended on June 30, out of the total loan of around $8 billion. After receiving $1.18 billion in Coalition Support Fund from the US, the government has planned to repay $2.9 billion to the IMF in the current fiscal year in 12 monthly instalment of $241 million each. The country received some fiscal space to repay IMF loan in monthly installments after the release of CSF payment, which was withheld by the US linking it to resumption of Nato supplies blocked following a cross-border Nato attack on Pakistan army post in November last year. The country expects some inflows from other donors after improvement in its relations with the US, which plunged in deep crisis after November incident in which 24 Pakistani soldiers were killed in the Nato attack. Local analysts however fear that the country may have to negotiate another loan programme with the Fund in the next fiscal year to ensure smooth repayment of the remaining instalments to the IMF.
Washington recently released the CSF amount under a deal signed by the two countries in the garrison city of Rawalpindi on the reopening of Nato supply routes through the country. The country received CSF amount at a time when its dwindling level of foreign exchange reserves increased the probability of a default on its foreign debt repayments. The reserves have been reduced by debt repayments in recent months, including for an $8 billion loan from the IMF.
The country's foreign exchange reserves dropped to $14.57 billion in week ending July 27, against a record level of $18.313 billion by the week ended July 30, 2011. The reserves will rise following the CSF payment of $1.18 billion. The US pays CSF to reimburse the troubled nation for fighting terrorists within its borders. Islamabad decided to reopen Nato supply lines into Afghanistan after the US Secretary of State Hillary Clinton on July 3 apologized for the November incident.
The rupee came under pressure due to the stand-off between Pakistan and the US, which could block not only the US assistance but also mar the country's relations with multilateral financial institutions.
Some local analysts believe that the improvement in Pakistan-US relations is good news for local currency market where the US dollar has witnessed a continuous appreciation against Pakistani rupee, which is presently in a free fall. Pakistan-US relations have an impact on relationship between the rupee and the greenback, as demand for the US dollar increases in the local currency market when their bilateral relations reach the lowest ebb.
The country's current account deficit continues to widen keeping the rupee under pressure. The current account deficit is widening because of dwindling exports and the growing trade imbalance. The current account deficit widened to $4.51 billion in the fiscal year 2011-12, against the current account position that was in surplus at $214 million in 2010-11. The huge trade gap raises concerns about the country's deteriorating external account, which could lead to drawdown of foreign currency reserves.
In 2008, the country agreed to $11.3 billion loan with the IMF to avert a balance of payment crisis. It received $7.6 billion but failed to get the remaining $3.7 billion due to slippages in performance criteria, leading to suspension of the programme in May 2010. The programme was extended in December 2010 for nine months, but disbursements were not resumed owing to the government's failure to take fiscal measures as demanded by the Fund.