Economic impact of stronger rupee against the dollar

Pakistan has been witnessing devaluation year after year ever since one can remember. People in general longed to see a stronger rupee. Depreciation was resulting in constant increase in price pushing more people below the poverty line. Currently the Rupee is trading between PKR98. No one can say for sure where the exchange rate will be in the future. Some predict devaluation to previous levels other claim another round of revaluation. It is also said that the existing government will bring the dollar back to levels where the PPP government started to govern in 2008. Importers expect PKR will be stronger.

There is also a theory that until Pakistan remains under the International Monetary Fund (IMF) program, devaluation is imminent. State Bank of Pakistan (SBP) on the other hand is also has its hands tied since there remains pressure on reserves due to budgetary deficits and imports. Devaluation or appreciation in the currency is considered a natural process for any country where managing the fluctuation and variance in short period of times is paramount. Governments around the world, including Pakistan at times resort to devaluation as a tool to protect their trade balances. It is unfortunate that even with current law and order situation, increased country risk in the eyes of foreign countries and slowdown in growth, Pakistan has struggled to increase its export base in relative to imports. Pakistan has not made any significant efforts to promote import substitute industries, which would help the country procure suppliers from within the country rather resort to heavy reliance on imports. Pakistan being a net importer has put further pressure on reserves for import payments with the devaluation.

According to Pakistan Bureau of Statistics, imports were US$29.40 billion from July-Feb FY14 as compared to US$29.06 billion in July-Feb FY13. Exports marginally increased from US$15.88 billion from July-Feb FY13 to US$16.86 billion in July-Feb FY14. Balance of trade due to marginal strengthening of exports reduced from US$13.18 billion from July-Feb FY13 to US$12.54 billion from July-Feb FY14. The core advantage for Pakistan to devaluate the exchange rate is the effort to increase the export base. Devaluation results in domestic production being cheaper for foreign buyers thereby resulting in an increase in exports. Through this is what economics teaches us, there has not been any significant change in the export figures. With the appreciation, this gap is expected to widen as imports will be cheaper than export for foreign buyers will be expensive.

Pakistan already faces issues with respect to high costs associated with raw materials, power, electricity, gas, fuel including finance cost, which has negated any advantage that devaluation would have brought by making domestic production expensive to foreign buyers in terms of price. Appreciation will give manufactures a chance to procure at a lower cost and reduce the price, which most definitely will lower the inflation.

Political unrest in the country and law and order issues further result in reduction and cancellation of export orders. The industrial sector is most affected with increase in costs and reduction in export orders and the present case has been the textile industry being the only fallback for Pakistan to be able to increase exports. Exports help develop the industry leading to higher GDP. Based on a recent report published by World Bank titled “Country Partnership Strategy Progress Report FY2010-14, the way forward for Pakistan to increase GDP is to enhance its reliance on industrial growth to ensure long term sustainable development. The industrial growth should be geared through ease in availability of credit and confidence of both foreign and domestic investors to invest in development projects to create employment. Unfortunately, this methodology cannot be seen in isolation with impending law and order situation along with political uncertainly, which shakes investor confidence to invest in export-oriented industries. The consumer demand due to high inflation is highly skewed towards meeting monthly food requirements than expenditure on luxuries or necessities of that matter.

With Pakistan being a net importer, the benefit to consumers seem logical. Imports with consistent devaluation become more expensive consequently increasing costs, which have to be passed on to the consumers resulting in inflation seen until recently. It is important for the government to reverse these affects to cushion household expenses. There is also a theory that population creates inflation and hence put pressure on rupee due to demand of currency. Pakistan with a population of 180 million people is a natural component for inflation with a need to constantly increase food supplies for the masses. Oil prices should decrease on account of appreciation. Furthermore, population can be given respite through removal of taxation charged on fuel which will lower the inflation.

The CPI was recorded at 7.9 percent in February 2014 showing an increase from 7.4 percent in February 2013 even as base was changed from 2001 to 2008. Considering the commodity prices at current levels, it is difficult to believe the numbers in its entirety. Appreciation of the exchange rate can only benefit Pakistan if costs are reduced to lower the inflation. Imports are required to be reduced through setting up industries, which can manufacture products as a substitute to imports. The value of PKR against the dollar may only show improvement if reserves remain healthy and that exports exceed imports through tight cost controls, Greenfield projects, private sector credit to boost export industries and increasing tax base of the country. The long term impact, which seems likely will be reduction in exports, however, industries which rely on imported raw material should be able to retain their margins and export through dollar value of exports will reduce. The most important thing is control over costs and reduction in inflation, which will be achieved through reduction in prices. As time progresses, industries will adjust to a stronger rupee. Big players will most likely survive and remain in the market. Appreciation should not be a concern if costs are managed effectively, case in point India with a stronger rupee and yet is competitive over price and major player in the global export market.