The rupee remained stable in the inter-bank market during the week under review. It gained five paisas, rising to 60.74 per dollar on May 25 from 60.79 on May 18.
However, the rupee has lost about one per cent of its value so far this fiscal year due to the weakening in the external account.
At end-March this year, Pakistan’s overall balance of payments (BOP) shrank to $373 million from $745 million a year ago. The launch of the $750 million Eurobond last week will, however, improve it to some extent. The fact that the Eurobond, issued for the fourth time since 2004, was oversubscribed by seven times and at an interest rate of less than seven per cent indicates increased ability of Pakistan to raise debt from the international market.
But how effectively the bond issue would improve the balance of payments depends on how other components of BOP behave in coming months, the most notable being the current account deficit.
At end-March, the current account deficit reached $6 billion, up from $4.3 billion a year earlier. A fast rising trade deficit is bound to expand the current account deficit and depreciate the rupee further.
In ten months to April, the trade deficit swelled to $11 billion. Indications are that the full year deficit would be $13.5-$14 billion, against the target of $9.4 billion. In case of further deterioration in the current account it may shed a few more basis points.
But that depends on whether the State Bank would defend the rupee—and if so at what level. Senior bankers say the central bank is not defending the local currency as aggressively now as earlier this year.
Obviously, the launch of the Eurobond would keep the balance of payments from turning negative amidst this zooming of trade deficit and an abrupt slowdown in privatisation programme (See Chart).
The privatisation process came to a halt after mishandling of Steel Mills sell-off and the Supreme Court’s subsequent ruling on it.
Political instability has also dampened investors’ interest. And the May 12 killings in Karachi—its images watched across the world—is bound to make privatisation plan all the more difficult to sell.
It is in this context that raising foreign exchange through the Eurobonds seems a bit more practical. Even otherwise, acquiring debt from the market is better than privatising profitable units on throwaway prices to manage trade or current account deficits..
However, as external debt drains out on a country’s resources in future, it is preferable to raise foreign funds through non-debt creating sources.
Exports, being the largest source of foreign exchange earning has a special significance in this context. But in ten months our exports grew only 3.4 per cent to $13.9 billion. Full year growth might be less than five per cent against the target of 13 per cent.
Home remittances, however, have grown 23 per cent between July-April FY07 and the growth rate might remain the same at the year-end in June.
Whether the remittances would grow at the same pace in the next year is a million-dollar question.
Experts say remittances from overseas Pakistanis, likely to reach $5.5 billion this year, have a potential to grow 25 per cent per annum at least for the next five years. But realising that growth requires a lot of efforts both on the part of the government as well as on the expatriate Pakistanis.
Foreign direct investment has also shown an impressive growth this year, contributing substantially to the balance of payments despite a huge current account deficit.
But in the next year it might not show an impressive growth due to a high-base effect and also because of the growing political uncertainty ahead of elections. The same holds true for foreign portfolio investment, particularly investment in our stock markets.
Another worry for the next fiscal year is keeping inflation in check. In ten months of this fiscal year, inflation has increased at an average rate of 7.9 per cent with food inflation shooting up to 10.2 per cent.
Full year inflation might close at 7.5 per cent or a little over that against the target of 6.5 per cent. But food inflation still would be 9-10 per cent.
The next year inflation target is being set at 6 or 6.5 per cent. But that would not be achievable if food inflation were allowed to keep its current pace. The task of lowering food inflation would not be too difficult, however, because of enough stocks of food items and a better prospect of agricultural sector growth.
That the country has enough wheat stocks is evident from the government decision to allow its export (though later on it reversed the decision to stabilse domestic prices of wheat flour). Sugarcane production of 54 million tonnes this year has risen 23 per cent over the last year’s 44 million tonnes. And production of rice at 5.4 million tonnes is quite close to the target of 5.6 million tonnes.
However, if international oil prices continue to rise it would fuel both inflation and inflationary expectations. And central bankers know that the handling of the later would be more difficult. That is one of the many reasons that call for a tighter monetary policy.
The question is will the State Bank of Pakistan go for further tightening while framing the monetary policy for July-December 2007? Indications are that it would. “We cannot curb inflationary expectations next year without a bit of further tightening,” said a senior central banker.
He said, however, that concerns about growth might compel the central bank to keep a neutral stance.
But would further tightening stifle growth? That really bothers the policy makers. The GDP growth this year might be lower than the targeted seven per cent and further tightening of monetary policy carries the risk of dampening it further. The best choice then seems to lie in a monetary policy that keeps its present tight stance and signals SBP’s readiness through inching up T-bills rates to curb inflationary pressure. Lately, SBP has been doing this effectively.
Due to monetary tightening, the weighted average lending rate of banks rose to 11.29 per cent at end-March from 10.04 per cent a year earlier.
Businesses meanwhile, are not happy with this situation and cite it as a reason for a decline in large-scale manufacturing. The LSM seems heading towards a less than 10 per cent growth this fiscal year against the target of 13 per cent.
The Federal Bureau of Statistics has not released LSM data beyond September 2006 but inquiries made at the Ministry of Industries show that in July-January FY07 LSM growth was a little below 10 per cent.— Mohiuddin Aazim
