USUALLY, floating exchange rates remain vulnerable to speculations. But thanks to a better informed market, underlying fundamentals are beginning to weigh on the rupee-dollar parity, making speculative attacks short-lived.

Speculators’ ability to distort the exchange rate outlook is weakening as fresh statistics and information keep pouring in, enabling individuals and companies to make informed decisions.

Even when some exporters and importers do listen to speculators’ whispering, not all of them act accordingly, as they develop their own realistic exchange rates outlook based on dependable information. The perceptions, however, continue to play tricks.

On August 25, the rupee had plunged to 103.19 against the dollar in the interbank market, from 99.99 on August 13, showing a big decline of 3.26pc in just seven working days. At that time, anti-government protests by the PAT and the PTI created political uncertainty. This, combined with the delay in the disbursement of the IMF loan, gave speculators a chance to switch on the button of the self-fulfilling prophecy cycle against the rupee.

“The SBP’s enhanced in­formation-sharing has helped the markets develop informed perceptions. Well-coordinated market interventions and stricter checks on banks and forex companies have made speculations less effective and short-lived”

Banks and forex companies went short of dollars as importer-led and panic-driven demand went up, resulting in further rise in the dollar’s value, delaying the realisation of export proceeds, faster dollar purchases for import and eventually more enlarged forex buying.

But within the next four days, the rupee regained 1.38pc and closed around 101.76 per dollar. This happened as banks and forex companies that were short-selling dollars squared their positions, realising that fundamentals would not support the rupee’s decline and speculation alone could not keep the rupee from bouncing back, forex dealers recall.

Later on, as the government consolidated its position with the parliament’s support, forex rates saw no second speculative strike throughout September despite several twists and turns in the ongoing, though weakening PAT/PTI protests.

But the rupee lost 1pc of its value against the dollar between September 1-25, reflecting weaknesses in the underlying fundamentals, like the drop in export earnings and FDI, expansion in current account deficit, increase in the import bill, repatriation abroad of profits and dividends by MNCs, and forex-buying by people going for Hajj etc.

The rupee’s swift, though partial recovery after the initial battering in late August and relative stability

in the exchange rates in September indicate that speculation-driven movements are becoming short-lived.

The timing and volumes of net flow of foreign exchange play a decisive role in determining exchange rates. Currently, net flows are drying up, with exports and foreign investment showing a decline and imports and outward repatriation of dollars increasing. Whatever comes in as IMF loan installments is consumed in external debt servicing. That is why forex reserves have not been growing. “So, the fundamentals are against the rupee,” says a local bank treasurer.

“The rupee may not necessarily fall every day or every week due to the timing of forex inflows and outflows. But on a quarterly or six-month basis, the rupee has to shed some value unless inflows rise significantly,” he says, citing the spreads between the current and three-month to one-year forward rupee-dollar parity as an indication of this prospect.

Worries about the next IMF installment, external debt servicing, rising trade deficit and falling FDI keep the rupee’s future health in question.

But continuing double-digit increase in remittances, anticipated inflow of $850m through partial divestment of OGDCL shares next month and scheduled forex inflows under the World Bank-ADB project financing brighten the scope for exchange rate stability.

The IMF wants Pakistan to raise power tariffs by 7pc, whereas the government wants to postpone this action, fearing negative political fallout.

Finance Minister Ishaq Dar says he hopes the fund would understand the government’s position and that this issue would not block the release of the IMF loan tranche.

“Here again, if the market perceives Dar’s hopes as realistic, it can discount this factor. But if doesn’t, then don’t you think a negative view can affect exchange rates again,” asks the treasurer of a foreign bank.

Central bankers say whereas the fundamentals are now weighing more decisively on exchange rate movements, speculation in a free-float exchange rate regime cannot be eliminated.

They, however, point out that the central bank’s role holds the key for minimising the impact of speculation.

“Our enhanced information-sharing, like mentioning the reasons for weekly rise and fall in forex reserves have helped the markets develop informed perceptions,” says a senior SBP official. Similarly, “well-coordinated market interventions and stricter checks on banks and forex companies have made speculations less effective and short-lived”.

Published in Dawn, Economic & Business, September 29th, 2014