On July 6, the rupee closed at 60.37 a dollar in the inter-bank market, unchanged at its end-June level.

Foreign exchange inflows accelerated notably in June as NIB Bank paid $339 million for acquiring PICIC and United Bank Ltd. launched $650 million global depository receipts. This enabled the rupee to gain 36 paisa or roughly 0.6 per cent value against the US dollar within a month. It closed at 60.37 a dollar on June 30, up from 60.73 on May 31.

Pakistan’s foreign exchange reserves also surged accordingly, to $15.6 billion at the end of June, from $13.78 billion at the start of the month. In the entire FY07, foreign exchange reserves saw a 19 per cent increase over the FY06 reserves of $13.1 billion.

Throughout the last fiscal year, the rupee remained strong and shed only or 0.3 per cent value against the dollar, rising to 60.37 at the end of FY07 from 60.16 at the end of FY06. It was hefty inflows in the capital account that compensated the current account deficit in FY07 leaving the balance of payments in surplus and strengthening the rupee. The State Bank also kept pouring in foreign exchange in the inter-bank market to energise the rupee, though at times it also sold dollars to keep the local currency from rising too fast.

Bankers say that the strength of the rupee during the current year would depend on whether the capital flows would continue to offset the current account deficit. Sources close to the State Bank say that the central bank would also adopt a more neutral stance towards the health of the rupee than in the recent past.

During July-April Fy07, the SBP had made a net selling of $433 million into the inter-bank market to keep the rupee stable.

But now the central bank would try not to remain a net seller for two reasons. First, top SBP officials have now realised that when the central bank remains a net seller or net buyer of foreign exchange for an extended period, it distorts the exchange rates. And secondly, the IMF is becoming less tolerant of this practice.

The Fund’s revised policy on foreign exchange surveillance calls on member countries in clearer terms to avoid keeping their currencies overvalued or undervalued by manipulating exchange rates. And for a central bank one way of manipulating exchange rates could be to remain a net buyer or net seller of foreign currencies for an extended period, say at least a year or two.

Whereas the rupee remained firm vis-a-vis the dollar, its value against the euro and pound sterling plunged in FY07—thanks to the weakening of the dollar itself because of the weakening of US external account.

The rupee closed at 81.70 per euro and 121 per pound in June 2007, down from 76.2 per euro and 121.2 per pound in June 2006, depicting a decline of 7.2 per cent and nine per cent respectively.

During the week ending on June 29, the State Bank conducted the first auction of treasury bills of the current fiscal year and picked up Rs56 billion from the market against the target of Rs45 billion. Bankers invested heavily particularly in one-year T-bills (Rs53.98bn) at an attractive average yield of 9.16 per cent.

Additional rupee liquidity created through surging inflows of foreign exchange had made it possible for banks to make huge investment in T-bills. The liquidity level, however, fell as the central bank conducted an open market operation to siphon off excess funds from the system. And on July 6, banks had to make overnight borrowing of Rs2 billion through SBP discount window at 9.5 per cent. Within the inter-bank market overnight funds changed hands at 9.40 per cent.

As the State Bank pursued a tight monetary policy in the last fiscal year, interest rates remained high. The average lending rate of banks rose to 11.32 per cent in May 2007 from 10.40 per cent in June 2006, showing 92 basis points increase in the private sector’s cost of borrowing.

On the other hand, weighted average yield of benchmark six-month treasury bills rose to 8.90 per cent in FY07 from 8.49 per cent in FY06 depicting an increase of 51 basis points in the cost of government borrowing.

Up to June 23 FY07, the government borrowing totalled Rs138 billion from the banking system against the full year target of Rs120 billion. And the private sector’s borrowing, during this period, stood at Rs291 billion against the full year target of Rs390 billion. Bankers and businessmen say that private sector’s borrowing might have reached Rs300 billion at the end of FY07 on June 30.

A good thing about the government borrowing was a change in its composition: whereas the government borrowed Rs174 billion from banks it retired Rs36 billion worth of inflationary SBP credit up to June 23, FY07. This was in sharp contrast to its practice in a year-ago period when its borrowing from the central bank stood at Rs120 billion and its net credit retirement of banks totalled Rs63 billion.—Mohiuddin Aazim