THE most striking feature of the State Bank’s performance in FY13 was the drastic decline in its net earnings on foreign exchange holdings, which went down to Rs6.7bn from Rs42.8bn in FY12 — a drop of 85pc.

The rate of return on the SBP’s foreign exchange reserves during FY13 was just 1pc, against 4.1pc in FY12 and 4pc of the Reserve Bank of India. Earnings on foreign placements, deposits and securities declined by 62pc to Rs25.8bn in FY13 from Rs67.6bn in FY12, and earnings from exchange rate risks coverage scheme fell by almost 70pc to Rs5.7bn.

This sharp fall occurred during FY13 despite a 4.5pc rupee devaluation, which should have raised the rupee value of our foreign exchange earnings.

In FY12, net foreign exchange earnings had risen to Rs42.8bn from Rs1.9bn in FY11. Why did we achieve this remarkable success and why was it followed by such a catastrophic failure? For this, no explanations were presented in the State Bank’s annual reports of FY12 or FY13, which merely record changes in values and offer no explanation for these changes. Who manages placements and how? A long form audit of foreign exchange transactions and drastic changes of external market agents involved in determining the placements is long overdue.

It is the responsibility of the State Bank of Pakistan’s top management to ensure that the forex management process is both transparent and accountable

The SBP’s passive approach to foreign exchange management — involving merely accepting rises and falls in foreign exchange rates as beyond their control, and characterising changes in foreign exchange earnings as unavoidable responses to rupee valuation in dollars and SDRs and changes in payment obligations — is not plausible. An immediate and drastic institutional restructuring of the foreign exchange management function is urgently needed. It is the responsibility of the SBP’s top management to ensure that the forex management process is both transparent and accountable. This purpose is, at present, not served by the annual reports or other documents or a mere recording of decisions as annexures.

The work of the SBP’s International Markets and Investments department and its procedures for appointing, monitoring and evaluating the performance of its global market agents needs to be thoroughly investigated by professional Pakistani consultants. Besides, an appropriate dynamic resolve management and placement strategy needs to be urgently finalised and articulated during FY15 so that the success of FY12, when the SBP’s foreign exchange earnings rose from Rs2bn to nearly 43bn, can be replicated.

In FY12, forex earnings accounted for 14.5pc of the central bank’s total income, and the 10pc decline in the total income in FY13 over FY12 is mainly due to the fall in foreign exchange gains.

Another cause of declining income in FY13 was the loss on the value of domestic securities held for trading. This, again, reflects its professional incompetence in making capital market transactions. There was a net loss of Rs3.7bn in FY13 on this item.

And while total income fell by 10pc in FY13, total expenditure was held constant exclusively by reversing provisions against loans and advances — for which no explanation was offered. Without these provisioning reversals, the SBP’s total expenditure rose 17.5pc to Rs34.3bn from Rs29.2bn in FY11 — the rise was significantly higher than any measure of price inflation that year.

Administrative expenditure rose 11pc to Rs22.3bn in FY13 from Rs20.1bn in FY12. Retirement and compensated absence benefits went up by 22pc despite the fact that there was a net loss of only 10 full-time employees of officer grade category in FY13, out of a total officer grade staff of 1,393 in FY12. Salary and other benefits to staff increased from Rs7.5bn to Rs7.6bn. No information is provided in the report about the total staff strength of the SBP. Six-figure salaries are now the norm in all officer grade categories at the SBP and its subsidiaries.

The total number of recipients of retirement and compensated absence benefits is not provided in the report. But given that the bank spent Rs10.7bn (48pc of total administrative expenditure) in FY13 up from Rs8.6bn (43pc of total expenditure in FY12) on this, the annual compensation package of each beneficiary would surely have run into several millions.

This indicates that the human resource management and compensation policy also needs a drastic overhaul. An organisation which devoted 0.2pc of administrative expenditure to training and 48pc to compensating those who left it surely has the wrong priorities.

The continued exorbitant rise in salaries and retirement and absence compensations is a grotesque anomaly given the SBP’s weak and declining operational and financial performance.

It’s profit for the year declined by 4pc or Rs27bn. This was again mainly due to the big decline in foreign exchange earnings. There was a net loss of Rs1bn on other operating income, against a profit of Rs9bn in FY12 (due to decline in value of securities held for trading). Commission income dipped by about 8pc in FY13.

The SBP’s operational performance too has been lacklustre. Most importantly, it has been able to do nothing which can stimulate savings and investment in the country. As the report admits, Pakistan has the lowest savings and investment rates in South Asia, both of which have been hovering around 13pc of GDP for several years. India typically saves 35pc of its GDP, while the investment-to-GDP ratio is 30pc in Bangladesh. In Pakistan, large-scale manufacturing’s gross capital formation is less than 1pc of GDP, again by far the lowest in Asia.

There is also no evidence that anything that the SBP did have any impact on CPI inflation, which fell to 7.4pc in FY13 against the target of 9.5pc. With the exception of FY2006, the SBP has missed its inflation target either positively or negatively by an average of about 13pc during FY2005 to FY13.

The SBP has been quite ineffective in checking government borrowing as well. The government’s borrowing limit, as specified in the SBP Act, was breached throughout FY13. The irrelevance of monetary policy in influencing inflation is shown by the fact that while CPI rose by 7.4pc, reserve money grew by 15.8pc, the SBP’s net domestic assets by 29.7pc and broad money (M2) by 16pc — all significantly higher than when CPI was much higher in FY13.

The ineffectiveness of the interest rate policy is demonstrated by the fact that while the policy rate fell by 300 basis points in FY12, the lending rate to the private sector rose in many loan categories. Core inflation remained at 9.6pc. There is no evidence of an effective pass-through of policy rates to rates on deposits or advances.

The SBP, which is supposed to be at the forefront of economic modernisation, is suffering severely from rising operational and financial inefficiencies and is in dire needs of a major structural overhaul.

The writer heads the Centre for Development Studies, Institute of Business Management (IoBM) Karachi

Published in Dawn, Economic & Business, July 7th, 2014