Amid volatile political situation in the country, the $3.9 billion decline in the State Bank of Pakistan (SBP)’s reserves paints a not so rosy picture of the country’s financial condition. With no minister in sight, for now, these matters call for serious attention of those at the helms of affairs. It is sad state of affairs that despite commercial borrowing of more than $4.4 billion, the dip in the reserves couldn’t be tackled.
This has brought the country back to July-5-like situation when a sharp decline of almost 3 percent in the Pakistani rupee value, due to SBP’s strong influence, it fell from Rs. 108 to Rs. 105.4. However, financial analysts are of the view that the declining reserves have again exerted pressure on the exchange rate and if the prevalent situation persists, the currency is more likely to depreciate even more.
According to the data substantiated by official sources, the government managed to receive around $4.4 billion through commercial borrowings. This kind of borrowing is costlier as compared to other bilateral and multilateral sources because rates for commercial borrowings are usually high. The figure for debt servicing is still unknown, however, the figure for the first three quarters stands somewhere above the bloated $5.2 billion.
Using weighted average method, it can be said that for the current quarter, debt servicing might be close to $2 billion, indicating that the outflow of cash in the future will be huge.
In the year 2015-2016, debt servicing stood at $5.31 billion. Under the present circumstances when already current account deficit is widening at a fast pace and reserves are declining in an even more aggressive manner, the increase in debt financing can lead to something worse that the July 5 Pakistani rupee debacle.
Why are the Reserves Falling?
Experts believe that the country doesn’t introduce diversified options to increase export. The heavy reliance on the export of low-priced textile products has deterred the country from exploring other options, a problem first identified by an Asian Development Bank (ADB) in 2008. The report published ADB used the term, ‘lack of export sophistication’ to reason the weak export performance.
The 2008 report also concluded that in comparison with country’s GDP growth, the country’s exports grew lesser, because of being of poor quality. It is appalling that even after the lapse of a little less than ten years, the quality aspect of exports couldn’t be taken care of.
Pakistan’s fruit and leather goods used to be unparalleled in the international market. However, when a sudden energy crisis engulfed the country into its tentacles, the country’s industries suffered a massive set back. Operations were heavily affected and the country failed to meet the heavy demand.
As of now, the only saving grace for narrowing current account remittance is foreign remittance which has, to some extent, contributed to the stabilization of current account.
Implications on the Currency
The usual economic remedy available for stabilizing a trade imbalance is currency depreciation. This is also what the IMF suggested when it pointed out that the country’s currency is overvalued by a good 10 to 12 percent.
Many economists believe that the impact of currency depreciation will not either be permanent or significant. They argue, and rightly so, that the depreciation will only play a vital role in helping the country finance its debt. It will not be beneficial for resolving the problems faced by the export sector which, by all means, need concrete measures for its overhaul.
The other reason for not readily agreeing to a weaker currency is the country’s widening debt. The depreciation will ultimately make it difficult for the country to repay its debt. For example, if a dollar amounts Rs. 100 in X year and after the depreciation, it equals Rs. 150, the country will have to pay more currency notes to pay its loan back. Then a loan worth $200 would have totaled at Rs. 20,000, while after having a weaker rupee, the country would have to pay Rs. 30,000 to settle its debt. In the given example, the loan amount increased by almost 50 percent. Hence, an increase in export will not be fruitful when the widening foreign debt will continue to keep the economy under pressure.
The same could be said for imports. Currency depreciation will call for higher local currency prices for import, leading to the penetration of cost-push inflationary pressures. Higher prices will definitely affect the domestic cost of production and domestic and local products will also be sold at high prices.
In an attempt to deal with the situation effectively, government should take timely measures to resolve the problem of current account deficit. Otherwise, the economy will crumble and come on the verge of being a failed economy with another burdening IMF loan package being the only option to steer the economy back to its track.