THE rupee’s fall to an all-time low of 168.19 against the dollar on June 29 on external debt payments and its quick bounceback to 166.89 on July 2 after Pakistan received a $1.3 billion loan from Chinese banks indicate how watchful the central bank will have to be in managing the exchange rate volatility in the new fiscal year.

Political instability in Pakistan is high with opposition parties demanding the resignation of Prime Minister Imran Khan and Mr Khan asserting that his party is the only choice. The Indo-Chinese military conflict may lead to a full-scale war — and it will be a miracle if Pakistan is not drawn into it, more so because India refuses to restore the pre–August 5, 2019 status of occupied Jammu and Kashmir.

Globally, Covid-19 is still spreading fast and domestically it is yet to peak. Among major economies, only China is predicted to grow at one per cent at best in 2020 and the world as a whole is doomed for a sharp 5pc recession, according to the International Monetary Fund (IMF).

Pakistan will still need billions of dollars for external debt servicing despite foreign debt rollovers

The economic growth process hates uncertainties — and mitigating such risks is a must. Uncertainties around national defence and foreign diplomacy are being mitigated behind closed doors. The powerful civil-military establishment is also handling political uncertainty discreetly.

Avoiding an economic slowdown in the second consecutive fiscal year — after a 0.4pc fall in 2019-20 — should be at the heart of fiscal and monetary policies.

In 2019-20, Pakistan’s external sector witnessed a few signs of improvement at the cost of a build-up in external debts. Authorities are now finding ways to sustain that improvement — with smaller debts — in 2020-21. It is a real big challenge that needs tactful handling with adequate coordination of fiscal and monetary policies.

Such coordination was missing when a massive increase in petrol prices in the last week of June, ahead of the scheduled re-pricing due on July 1, followed the central bank’s decision to cut the interest rate. Whereas the latest rate cut, which brought down the policy rate to 7pc from 13pc until the middle of March, promised some reduction in the cost of production of businesses, the oil price hike did the opposite.

A repeat of such poor coordination can be detrimental to the efforts to revive the industry and boost exports. Increasing exports in a global recessionary environment is in itself a herculean task. And if exports don’t grow as much as targeted, curtailing the fiscal deficit further will be too difficult. A nation cannot reduce strategic imports amidst growing regional military conflicts and a threat of war. Heightened regional conflicts also halt inflows of foreign direct investment (FDI) for the time being. So there is not much for Pakistan on that account, more so because of a global recession. The foreign portfolio investment is regarded as hot money. With Pakistan’s interest rate now 625 basis points down since March, chances of sizable inflows in once high-yield treasury bills and bonds are bleak. Portfolio investment in the stock market also evaporates once political instability rises or a country is caught in a regional military conflict.

What is left then? Remittances. The growth rate of remittances has already slumped to 2.7pc in July-May 2019-20 from 9.9pc in July-May 2018-19. With joblessness rising in the economies that host Pakistan’s diaspora, there is no chance of a reversal. Almost all of these economies, particularly the United States and Gulf countries, are limiting the import of labour from around the world.

There is no reason for Pakistan to be optimistic in the foreseeable future. On the other hand, despite foreign debt rollovers, Pakistan will still need billions of dollars for external debt servicing and outward flows of foreign exchange on other accounts like the repatriation of funds by multinational companies will continue. All this will likely keep the exchange rate under pressure and make it difficult for Islamabad to build foreign exchange reserves as fast as it desires. Foreign exchange reserves with the State Bank of Pakistan (SBP) are currently at $11.23bn, enough to cover the merchandise import bill of about three months.

Even during peace time, this level of reserves is considered minimum. If regional peace is disturbed, which remains a possibility during 2020-21, larger reserves will be needed. That requirement may force Islamabad to borrow more foreign exchange from China and other friendly countries or seek from the IMF an enlarged lending programme.

But a cursory look at key indicators of the external sector shows that in the last fiscal year, Pakistan made some gains despite all challenges, including the outbreak of Covid-19. The overall balance of payment turned negative though, which means the external sector’s health still remains poor.

Published in Dawn, The Business and Finance Weekly, July 6th, 2020