A BIG 1.8pc slide in the rupee’s value in just nine working days shows how politics can take its toll on the exchange rate, particularly if fundamental pressures are not altogether absent.

The rupee plummeted to a six-month low of 101.70 per dollar in the interbank market on August 22, from 98.87 a dollar on August 8 — the last working day before political temperature began rising in Lahore and later on led to two sit-ins in Islamabad.

The State Bank of Pakistan initially told the heads of banks to try to maintain an unofficial band of 99-99.50 per dollar, but “as importers panicked and exporters slowed down realisation of export proceeds,” the ploy did not work, inquiries made at banks revealed.

Explaining the rupee’s fall, some bankers say the local currency was already overvalued and point out that export inflows had fallen 7.9pc year-on-year in July

Bankers say they were witnessing moderate export dollar flows and receiving enough amount of foreign exchange from expatriate Pakistanis till the first week of August. But threatening voices of agitating politicians, which started getting louder from the second week of the month, made importers nervous, and some of them went for unusually large dollar buying to cover themselves against possible rupee depreciation.

As the rupee began to fall, such buying picked up further and exporters slowed down realisation of their proceeds to reap exchange rate benefits.

Two large local banks also reported lumpy import payments of oil sector companies during the second and third week of the month.

Forex companies that sell dollars to the interbank market felt helpless in collecting cash stocks of foreign exchange from their branches in parts of Punjab, Khyber Pakhtunkhwa and Islamabad. This had an impact on dollar supply not only at cash counters of these companies, but also in the interbank market.

One particular thing that had the most damaging impact on exchange rate was some media reports that said the IMF could withhold its next loan tranche for Pakistan. This created additional panic in the market.

Bankers say whether the rupee will recover its recent loss is hard to predict. Some say the rupee was already overvalued, and cite the IMF’s year-end calculation of the exchange rate of 112 per dollar in support of their view. They also point out that export dollar flows in July had fallen 7.9pc year-on-year, and export proceeds of August, too, were likely to be hit by interruption in the movement of export cargo from Punjab and to the port city of Karachi due to political troubles there.

Besides, a big 30pc year-on-year decline in foreign private investment in July and the decline in forex reserves from $14.307bn on August 1 to $13.926bn on August 15 also signaled mounting pressure on rupee.

But the SBP’s acting chief spokesman Dr Hamza Malik says the underlying fundamentals of the economy (which support the exchange rates) are strong. “Hopefully, things will go back to the relatively normal position once it [heightened political uncertainty] goes away,” he was quoted as having told journalists at the SBP head offices in Karachi. Earlier, he cited this uncertainty as the main reason for “the current movement in the exchange rates”.

Central bankers normally don’t comment on the specifics of the SBP’s intervention in the forex market, and neither did Dr Malik.

He, however, explained that the central bank typically has estimates of expected forex inflows and outflows for the next few weeks, and any sudden movement in exchange rates, deviating from data on these flows, alerts the SBP immediately. The SBP intervenes in such situations “by talking to the market”.

According to bank treasurers, there was no significant quantitative intervention by the central bank during the days of the rupee’s fall. For many of them, it made sense because between this January and June, the rupee had already gained 8.4pc and 10.3pc respectively against the dollar in terms of the nominal effective exchange rate and the real effective exchange rate.

While the recent rupee slide fits this context, it has come at a time when the fall in export earnings in July justifies some exchange rate incentives for exporters, bankers say.

A sound 17pc yearly increase in home remittances and a phenomenal 350pc rise in foreign portfolio investment (despite the decline in total foreign private investment) in July auger well for the rupee’s future health.

Stockbrokers say most foreign investors, lured by high dividend yields of the Pakistani bourses, continued buying stocks even during the two weeks of political turmoil here. That was why the KSE-100 Index swiftly recovered part of the losses it had seen after the initial buildup of the political tension.

This had a favourable impact on the forex markets not only in terms of dollar inflows but also in that it kept most of the investors glued to the bourses despite some initial single-day losses. As a result, speculative dollar buying in the open market remained limited, and the open market exchange rates did not deviate much from the interbank rates.

The SBP’s stricter monitoring of exchange companies was another reason the open market exchange rates moved in line with those of the interbank market. The spread between the buying and selling rates of the dollar in the two markets did not exceed the limit of 50 paisas during the second and third week of this month.

Published in Dawn, Economic & Business, August 25th, 2014