Where will the rupee stop?
By Dr Pervez Tahir

A dollar and a litre of petrol cost the same, i.e., Rs109. All this has happened in about the same number of days. The consequences for the common man are extremely serious. All imports will now cost more. Inflation, which had come down to 5.1 per cent in May 2013, rose sharply to 8.5 per cent in August. Accelerating depreciation will make the number far worse for September. Add the impact of the 30 per cent jump in power tariff to be imposed on residential consumers using 301-700 units per month on October 1, and the dreaded double-digit will return with a vengeance. All this is without accounting for the borrowing from the State Bank — Rs547 billion in two months and still rising.
In the entire fiscal year 2012-13, the depreciation was 5.1 per cent. What led to the dollar on the wing? The explanation coming from the government is that speculators are the culprits. Some measures were taken to restrict import of gold but to no avail. Speculation made partial sense when the State Bank was selling dollars in the market to stabilise the exchange rate. Sensing a troubled rupee, the market would want the State Bank to do more. Since the agreement with the IMF, however, the State Bank has been doing the opposite. It has been buying dollars in the market to build reserves. For some odd reason, the former is described as intervention in the working of the market forces, but the latter is not. It may be that some foreign banks and multinationals are indulging in arbitrage by buying dollar-rupee forwards locally and selling them offshore. To some extent, the spot rate in Pakistan may be influenced by the high forward rate resulting from the increased demand for it.

The State Bank has given several of its own explanations at various times. At the global level, it was attributed to the expected tapering-off of the quantitative easing by the US Federal Reserve that would adversely influence the flow of capital to emerging markets, including Pakistan. This did not happen. It was said that the balance of payments is under stress because of higher debt servicing and repayments to the IMF. The agreement with the IMF, according to the finance minister, was made to borrow from the IMF to return its money. Post agreement, the stress should have decreased rather than increase. The emphasis is on boosting up reserves. Besides the $125 million picked up from the market as a prior condition of the IMF, the IMF’s first tranche, $133 million from the Islamic Development Bank and currency swap with China valued at $1.6 billion and some access to the market, the scramble continues.
The State Bank governor also maintains that the fall of the rupee is due to the market forces, not the IMF loan. The agreement is clear in ensuring that the emphasis of policy, to begin with at least, is on rebuilding foreign exchange reserves, not inflation. “Reserve losses exceeding $500 million in any 30-day period during the programme will trigger consultation with the IMF Staff”, says the agreement. In the language of monetary economics, the monetary policy is now anchored in exchange rate, not interest rate. This means inflation has been left not just to market forces, but to the vagaries of global market forces. All the adjustment must come though the costlier imports and debt servicing, as exports have been failing to pick up. There is nothing in the hands of the monetary authority to cushion the rupee. Where will it stop, only God and the IMF know.

Published in The Express Tribune, September 27th, 2013.