PAKISTAN’s economy has routinely oscillated between periods of relative stability and busts brought about by external payments crises. Failure of successive governments to push through structural reforms when the economy is stable typically drives this volatility. In the last few years, Pakistan has failed to push through these reforms, raising the likelihood of economic turbulence in the midst of global economic headwinds.
Increased interest rates in the US, strengthening dollar, and rising oil prices will drive the turbulence faced by emerging and frontier economies. The expected interest rate hike in the US will draw liquidity away from emerging market debt, having a negative impact on countries that rely on the international bond market to meet their external financing needs.
Rising oil prices in the wake of the deal between Opec and non-Opec countries will increase the import bill for oil-importing economies, leading to inflationary pressures and a greater need of foreign currency to pay for oil imports. A strengthening dollar will boost exports for competitive economies, but oil-importing countries will face increased pressures on their foreign currency reserves.
Pakistan has binged on cheap dollar debt to raise over $35 billion in external debt since 2013. Oil prices, which fell to under $50 a barrel from over $100, brought about annual savings of over $7bn during this period. A stable rupee allowed the country to import greater amounts of capital goods required for generating power and building public infrastructure. The increased spending on infrastructure, rising foreign currency reserves, and benefits of the IMF programme restored stability and brought about a rise in GDP growth.
Pakistan could find itself back in the arms of the IMF.
The US dollar has been on a tear since the Nov 8 presidential elections in the US. The Turkish lira has been the worst hit, losing over 10 per cent against the greenback since the elections. The Mexican peso, Brazilian real, Malaysian ringgit, and the Indian rupee are among a whole host of currencies that have also lost value during this period. The Pakistani rupee has also depreciated with the exchange rate of the dollar crossing Rs109 in recent days, causing dollar shortages in the open market.
On Nov 30, Opec members agreed to reduce output by 1.2 million barrels a day in the first production cuts by Opec in over eight years. Non-OPEC members joined in on Dec 10, with Russia leading the way in cutting 300,000 barrels out of a total 528,000 barrels a day cut. Oil prices have sharply rebounded and crossed the $56 a barrel mark following these agreements. Following the 1.8m barrels a day cut, experts have updated their price forecasts and now expect the price of oil to hover closer to the $70 a barrel in 2017.
Higher oil prices will increase Pakistan’s import bill and increased petroleum prices will intensify inflationary pressures. The rupee, which is already under pressure, will face further depreciation in the market as Pakistan reckons with both a resurgent dollar and rising import bill. Under such a scenario the State Bank would have to dip into its foreign currency reserves to stabilise the rupee and pay for oil imports.
The current government has allowed an appreciation in the real exchange rate of the rupee —the IMF has raised this issue in numerous reports about the state of the economy. An unintended consequence of this policy has been deterioration in export competitiveness as other emerging economies have allowed their currencies to depreciate in the international market. The depreciation of the rupee could restore some competitiveness to Pakistan’s exports. However, this positive impact would not be as extensive due to the fact that Pakistan’s exports suffer from a general lack of competitiveness and that other currencies have and are depreciating.
Recovering finances in the Gulf could raise remittance inflows into Pakistan. These inflows have been stagnant in recent months as economic activity in oil-exporting economies of the Gulf has slowed down. The rebound, however, could take months as countries such as Saudi Arabia rebuild their balance sheets after years of low oil prices.
In the coming years Pakistan will also face rising external financing needs — these cannot be met by the current inflow of dollars from exports and remittances. According to IMF data, the country will require over $13bn a year from 2017 to 2020. This estimate does not take into account the depletion of foreign currency reserves that could occur under the scenario highlighted above. Given this reality, one can expect that Pakistan will struggle to meet its external financing needs and could find itself back in the arms of the IMF.
As Sakib Sherani articulated in his Dec 9 article titled ‘Post-IMF or pre-IMF?’, Pakistan’s economy is “enjoying the sun in a brief interlude between two Fund programmes”. With the government entering the tail-end of its term in 2017, the gathering storm could not come at a more inopportune time.
The writer is a South Asia analyst at Albright Stonebridge Group in Washington DC.
Published in Dawn, December 23rd, 2016