Currency is in equilibrium

The IMF’s stick is out. The words IMF mission used last week in Islamabad echoed what the economists, policymakers and analysts have been saying for months here. And it clearly exhibits the inability and lack of capability of the current economic regime to take the necessary reforms imperative for the economy to be back on the growth track.
The Fund’s assertion that the currency is overvalued by five percent is misinterpreted and misunderstood by many. The model IMF is using might be the right one in depicting the under pricing of currency in the medium to long term but in the short-term, market forces are driving rupee’s fate which is not undervalued by any means.
This column earlier emphasised the mystery of sharp depreciation of rupee (15 percent in last two years) which is not matched by a relatively less fall in the foreign reserves and subdued inflation. The overall macroeconomic picture is improving, though not to the liking of many, a few indicators are much improved than what they were couple of years back.
The current account performance has surprised many. It’s in a good shape for the past 18 months, and showed a surplus of 250 million dollars in 1HFY13 - thanks to relatively low oil prices and continued bonanza in the home remittances. These factors along with overall low commodity prices are helping inflation to be in single digit. This has enabled the State Bank to run a softening monetary policy as the interest rates have come down significantly.
It has also helped restore the business confidence to an extent. The currency market is driven by market forces with all the major payments including oil payments, done through the banking system. There is little room for the central bank to manage the dirty flow.
Then the gap between the open market and the curb market has not, on average, widened to its historic levels. That also suggests sanity has prevailed in the currency market which is at equilibrium. The direction is to be derived from the interbank market which creates the trade of 350 million dollars a day.
There is no immediate threat on the balance of payment front as healthy inflows arrived against the pending Coalition Support Fund and the surplus in sugar stock is ensuring another inflow of around 200 million dollars. The biggest worry is IMF payment and the central bank is assuring cushion for those payments.
That said, dying FDIs is threatening the balance of payment crises in the medium term and deficits in energy and fiscal house are creating doubts over the sustainability of improved current account conditions. Hence, a further devaluation is on the cards but that would likely be a gradual process than a hastened one.