USD vs PKR and Financial Wizards ~~~***~~~ Currency market behavior is lot more complex when compared with goods and services market, especially when more than two currencies are involved. Thats why I will try to simplify for novice; experts however already know what lies behind the mist of asymmetric information. In order to understand current surge in the value of Pak-rupee against dollar we need to understand couple of fundamentals first and their influence on Pak-economy. To begin with, what defines an international currency? Blinder (1996) offers a good definition blending four characteristics which encompasses the three classical functions of money (a medium of exchange, a unit of account, and store of value): an international currency accounting for a preponderant share of the official reserves of central banks; a currency used hand-to-hand in foreign countries; a currency in which a disproportionate share of international trade is denominated; and a dominant currency in international financial markets. (Source: WTO Staff Working Paper ERSD-2012-10) Over the course of past century Dollar has emerged as worlds reserve currency, store of value; trade currency, currency used hand-to-hand in foreign countries; and as unit of account in global markets. As per the data provided by Bank of International Settlements (BIS) 60% of the reserves held at world central banks are in Dollars. In Pakistans case almost all of the reserve assets are denominated in dollars excluding gold and IMF SDRs. Pak-economic data, in the light of the definition of International currency given above, suggest that Pakistan is using US Dollar for all three fundamental purposes at macro level. This is the reason that slightest volatility in USD/PKR exchange rate makes headline in Pakistan and debate over devaluation of Pak-rupee against dollar was in vogue on leading TV talk shows, lately. For the fiscal year 2012-13 our economy suffered $15431 Million (M) Trade account deficit. Which means we as a nation Imported $40226M worth of goods and exported $24795M which translated into trade deficit of $15431M. Our cumulative current account deficit stood at $2496 M. For past seven months of current fiscal year (2013-14) these numbers were as follows: Imports $24500 M; Exports $14704M; Trade Balance $-9796M; Current account balance $-2055M. This clearly shows that the performance of present political regime isnt much different when compared with the previous. One the other hand to fill up this deficit a government/central bank has primarily two tools at its disposal. First Current transfers of which foreign remittances is a major part, in Pakistans case, and second Financial Account surplus which only can only be achieved by borrowing abroad, primarily. Its needless to explain Pakistans domestic as well as foreign debt position at length; however, Foreign remittances deserve a quick review. During fiscal year 2012-13 overseas Pakistanis sent $13922M home while total current transfers were recorded at $ 18183M. Whereas, during July13-Jan14 Foreign remittances and current transfers remained $ 9033M , $ 11588M, respectively. Without theses indispensable remittances Pakistans economy will collapse within weeks if not in days. Nevertheless, all these numbers, mentioned above, are of primary importance when UDS/PKR exchange rate comes under consideration. Imports are synonym to USD demand, export of Dollars out of Pakistan, and Exports mean supply of Dollars or say import of Dollars into Pakistan. Whereas, supply and demand forces set a price of Dollars in terms of Pak-Rupee, given there is no government intervention in national currency markets. Now, without intervention of monitory authorities and on exchange rate must be higher than what it was few days ago let alone todays, based on pure economic fundamentals. there are two primary reasons of the inference which I just mentioned. First, We can fairly assume that these remittances will sustain at current levels for at least ten more years. But this wont result in technological or industrial growth of Pakistan. Because we have sent most of skilled and educated fellow nationals abroad (More than 5 million, excluding illegal immigrants) to build other nations. Second, even these huge remittances are not enough to bridge the gap between expenditure and income. To fill it up public sector spending is financed with domestic and foreign (IMF, World Bank) borrowing. Which is unsustainable at present levels. This fiscal year Pakistan will pay Rs 1,153,539M to settle just the interest portion of its debt; which will eat up more than 30% of federal budget, a budget of which 1/3 is financed with deficit, already. There is a method, however, through which government can cause appreciation of rupee against dollar and that is dumping dollars in open market. This is like giving an 1000ml steroid injection to the markets. What kind of side effects such enormous quantity of steroids can produce? Ask a doctor! As per unconfirmed market news Mr. Sharifs very own financial wizard has ordered SBP, which supposedly is an autonomous body, to inject 1 billion dollars given by his KSA friends inject the market. How long they can keep the economy on these seductive thats arguable; however, its certain that detoxification period will be prolonged and will take its due toll on the economy. The macroeconomic analysis given above shows, first, demand of Dollars in Pakistani economy is much higher than the supply of Dollars; second, Government borrowing is one of the primary reasons of inflation. It is noteworthy that a good portion of domestic borrowing is pure seigniorage. Cumulatively all these variables will translate into Rupee depreciation in future until and unless a fundamental change does not occur. Where, fundamental change means substantial increase in exports, which can only be achieved through development of industry, diversification, law and order and revolutionizing education sector. Other than that politician can always raise a storm in a teacup and which they do daily. Author~ Asad Ikram Finance Secretary Al Ilm Trust
Posted on: Wed, 12 Mar 2014 16:26:19 +0000
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