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Shoring up value of rupee

December 23, 2012

A free-fall in the rupee value between December 10 and 17 surprised not only common people but also policymakers who have a fair idea of the country’s external account situation.

The rupee had shed 120 paisa or more than 1.2 per cent of its value against the dollar in just seven days before the ministry of finance and the State Bank of Pakistan realised the gravity of the situation.

It was on December 17 that State Minister for Finance Saleem Mandviwala and SBP Governor Yaseen Anwar met representative of foreign exchange companies at the SBP head office in Karachi to seek their input on what was going on.

After the meeting things really changed: “SBP injected tens of millions of dollars into the (interbank) market and unscrupulous elements in exchange companies were contained from within,” according to a senior central banker. “A few banks that had made quick bucks through excessive dollar selling to some clients immediately sensed what is in store for them and their over-ambitious treasury boys behaved.” All this helped the rupee swiftly recover a large part of its lost value both in the interbank as well as in open market.

In interbank transactions, the rupee climbed back to 97.38 on December 20 from an all-time low of 98.14 on December 17. And in the open market the local currency shot up again to 97.90 on December 20 from 99.70 four days ago.

Sources privy to the aforesaid meeting told Dawn that the central bank had also indicated tightening of rules for forward dollar bookings by importers if speculative forces tried again to undermine the rupee value. The central bank was also scanning records of interbank transactions to see if any bank had made any unusual sales of forward dollars to importers during the time when the rupee was constantly shedding value against the greenback.

During the meeting the issue of boosting home remittances was also discussed in detail and Mr Mandviwala informed the participants that the government would extend all support to exchange companies if they could ensure an immediate and speedy rise in remittances. Representatives of exchange companies including Haji Haroon and Malik Bostan told the minister that yearly inflow of remittances could reach $20 billion from the current $13 billion level if these companies are provided a level playing field with banks in handling of remittances.

By the time of filing of this report (on December 20), the dollar-buying spree was almost over in the open market and according to Haji Haroon, president, Exchange Companies Association of Pakistan “the rupee was heading towards 97 a dollar by the end of this month.”

Foreign exchange dealers at two of the six largest commercial banks admitted that while the rupee was under speculative attack at least one local and one foreign bank was seen overselling dollars. But they also said the current account deficit in November (reported by the mid of this month) from a small surplus in October had created some panic among importers. Many of them rushed on forward dollar bookings fearing depreciation of the rupee.

“That had a natural impact on ready dollar buying as well,” one of them said explaining why the rupee slumped to 98.14 per dollar on December 17 from 96.94 as on December 10. The rupee has remained under pressure right from the beginning of this fiscal year in July on external debt payments in the absence of any substantial inflow of foreign capital inflows. And this has also led to lowering of foreign exchange reserves.

But a recent big recovery in export earnings (about 24 per cent in November) and steady growth in home remittances plus ongoing foreign investment portfolio on local bourses continue to fuel optimism in otherwise uncertain external environment.

One aspect of the declining rupee (down three per cent versus the dollar since July 1) is that it has contained growth of imports and that, together with increase in export earnings, has reduced the trade deficit by about 10 per cent in five months to November 2012 (see table).

Exports growth is being fuelled by a diverse range of products including traditional textiles and non-traditional items like jewellery and cement. Whereas textile exports in July-November this year went up eight per cent year-on-year to $5.4 billion, jewellery exports exceeded $1 billion registering more than 330 per cent growth over the same period of the last fiscal year. And exports of cement also surged about 28 per cent to fetch $245 million. Food items’ exports also showed a modest rise of 2.3 per cent to $1.6 billion in five months to November 2012.

Up to three per cent rupee depreciation so far this fiscal year, 100 basis-points cut in State Bank’s policy rate in two equal instalments (in August and December), trade concessions from the European Union and a modest growth in large-scale manufacturing suggest that export growth momentum may continue in the second half of the fiscal year as well.

But a recent uptick in cotton prices due to slight decline in cotton output (up to December 15) compared to the same period of the last year, anticipated worsening of energy crisis after winter, and poor law and order situation in Karachi may continue to worry exporters.

Higher than earlier estimated output of food crops have improved food supplies and brought down not only food inflation but overall consumer inflation as well. A sharp decline in inflation in five months to November created space for the central bank to continue a lax monetary policy without fearing any major impact on the price line but it also led to weakening of the local currency.

However, the fallout of interest rates easing on the exchange rate is expected to remain minimal if the government can manage to keep within limits its borrowing from the central bank which is just currency printing.

Latest data show that between July 1 and December 7 of this year, combined borrowings of the federal and provincial governments from SBP have rather remained negative (minus Rs24.5bn) against net borrowings of Rs107.7 billion in the same period of the last year.

Whether this trend is sustainable is not sure. Revenue collections of Rs691 billion (in July-November 2012) have fallen short of the target of Rs779 billion set for these five months and one cannot expect any big cut in government spending in the election year.