The Pakistani rupee has sunk to an all-time low following the central bank’s withdrawal of support for the currency against the US dollar last week.
The rupee fell to Rs 110.52 on Wednesday, amid concern about the country’s trade deficit and meager foreign reserves.
The State Bank of Pakistan (SBP) has been the primary player trying to maintain control over the currency via a managed float system for the value of the rupee.
The value of the currency has remained relatively stable since 2015, trading in a range of 104-105 rupees to the dollar. But it has devalued by about 5% a year over the past decade.
A brief devaluation occurred in July this year after intervention by the central bank, but the rupee’s value against the dollar was managed. However, the latest round of devaluation hit the Pakistani currency hard, with the rupee declining as much as 2.6% in a single day.
But analysts argued that the local currency was overdue for a fall, especially after considering its stability over the past two years. Moreover, the country’s external account position has also weakened from a deficit of $2.6 billion in the 2016 fiscal year to $12.2 billion in the 2017 fiscal year.
Exports have grown from July to October in the 2018 fiscal year, and the foreign direct investment is now at an all-time high for the past nine years. There were also moderate improvements in foreign remittances during that period.
However, experts say the accelerated growth in imports has put Pakistan’s current account position in a “red zone”, as this has depleted the SBP’s foreign exchange reserves.
“The immediate reason is the increasing current account deficit, which is fueled by a trade deficit which is becoming very heavy for the economy,” former caretaker Finance Minister Salman Shah said to Asia Times.
“Also many things, like debt servicing, have to be rolled over. But ultimately, since the government hadn’t adjusted the price for a long time, the pressure became too much for them to continue to defend the currency – hence they decided to let the market play its role,” he said.
Meanwhile, the central bank has maintained that allowing the market to determine the exchange rate for the local currency could be one way in which the external account imbalance could be contained.
Sources within the Finance Ministry claim it was Finance Minister Ishaq Dar’s idea to “fix” the value of the rupee this way. Dar is currently on three months leave – allegedly in a hospital in London due to a heart condition. The ministry was recently put under the oversight of the prime minister, amid reports that Dar was relieved of his duties last month because of corruption charges.
‘Confusion’ at Finance Ministry
“There has been confusion in the ministry given Mr Ishaq Dar’s absence, but we’ve managed to get the act together,” an official at the Finance Ministry said to Asia Times.
“Devaluation is the first step towards addressing the current account deficit. We are looking further at controlling imports and increasing exports.”
Ishaq Dar has been accused of “amassing wealth beyond his known sources of income”, and an accountability court declared him an absconder last week.
Salman Shah says the ministry is clearly suffering from the finance minister’s absence.
“Naturally, the finance minister would’ve had his own strategy for the exchange rate, and now that he’s not there, there is a change in policy. We don’t know what will happen, if and when he returns.”
However, Mohammed Sohail, an analyst at Invest Cap Securities, believes that Dar’s absence might have actually forced the finance ministry to take long overdue action to counter the current account deficit.
“Even though economists were repeatedly saying that the currency is overvalued, which was echoed by the IMF and the central bank’s indicators, the finance minister had his own ideas. Now, with changes in the ministry, they have decided to devalue the rupee,” Sohail said while talking to Asia Times.
He believed the value of the rupee would drop a further 5% over the next six months.
“This is just the first phase of the devaluation, and if the current account deficit doesn’t improve we might see another phase,” he said.
Experts maintain that with the central bank keeping a close eye on the matter, it may intervene if the rupee falls further.