Steep fall of ru­pee

The Pak Banker - - FRONT PAGE -

Re­mark­able dep­re­ca­tion in the Pak­istani has been wit­nessed in only 100 days since the new govern­ment had come to power and the econ­omy had gone into a free fall.

The rise or fall of the Ru­pee - or any other cur­rency for that mat­ter - is not sub­ject to the whims and wishes of the pol­i­cy­mak­ers, or even the Cen­tral Bank. It's con­strained by a va­ri­ety of fac­tors. As it hap­pens on our planet, any­thing may be un­der- or over-val­ued in the short run, but it may be ar­gued that in the long run, ev­ery­thing - ev­ery com­mod­ity, ev­ery idea, ev­ery per­son, con­verges to their 'true' value. This ap­plies even to the murky world of cur­ren­cies. The Ru­pee had to ad­just to its true value ul­ti­mately and it did. It did not 'fall' - it was al­lowed to ad­just, some­thing that should have hap­pened way ear­lier.

For some time now, the Ru­pee had been grossly over­val­ued. In July 14, 2007 Ar­ti­cle IV con­sul­ta­tion, the In­ter­na­tional Mone­tary Fund (IMF) pointed out the over­val­u­a­tion to be around 10 to 20% with re­spect to the Real Ef­fec­tive Ex­change Rate and it­er­ated its stance in the Staff Re­port of March 2018. Many in­de­pen­dent econ­o­mists also kept ring­ing alarm bells. But the out­go­ing govern­ment did not want to pur­sue the highly un­pop­u­lar pol­icy of de­val­u­a­tion with the elec­tions around the cor­ner. And some ex­perts backed the govern­ment's stance on some­what ques­tion­able grounds. They pointed out that the Ru­pee will re­sult in a rise in dol­lar-de­nom­i­nated debt and in­crease the cost of im­ports which have be­come even more im­por­tant since the China-Pak­istan Eco­nomic Cor­ri­dor has kicked off. Re­sul­tantly, Ru­pee was not al­lowed to take on its ac­tual value.

The Ru­pee was kept 'strong' as the econ­omy kept weak­en­ing. But is the strong Ru­pee - come what may - such a good thing? Not re­ally.

China is one coun­try which keeps an un­der­val­ued (weaker?) cur­rency. In­stead of fret­ting about a 'weak' cur­rency, they revel in be­ing the lead­ing ex­porters in the world. The un­der­val­ued yuan helps this. A per­son in, say, the United States, will be able to buy dou­ble the amount of any prod­uct, say Chi­nese ap­ples, if $1 equals 6 yuans in­stead of 3. This will shift the de­mand for ap­ples from other coun­tries to China. What was hap­pen­ing in Pak­istan was an in­verted im­age of the above pic­ture. It is easy to see why an over­val­ued Ru­pee meant lesser ex­ports and more im­ports. A 'stronger' ru­pee meant im­ports ap­peared cheaper to Pak­ista­nis. This im­ports over ex­ports im­bal­ance caused a run on the for­eign re­serves in the coun­try. Im­ports were us­ing up the for­eign cur­rency re­serves and there weren't as much ex­ports to fi­nance them. This sent the re­serves into a free fall.

When the re­serves dried up, the Cen­tral Bank lost its pri­mary tool to keep the Ru­pee afloat - sell­ing for­eign cur­rency in the cur­rency mar­ket. The State Bank could have bought Ru­pees in the cur­rency mar­ket, us­ing forex re­serves, caus­ing the Ru­pee to (nom­i­nally) ap­pre­ci­ate. This is sim­ply the re­sult of the (ar­ti­fi­cial) in­crease in de­mand for Ru­pee. It's ba­sic eco­nomic logic that any­thing that is in-de­mand fetches a higher price, and the same is true for the Ru­pee.

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