Even the IMF is conceding that the fruits of its last bailout “have begun to erode” and that “macroeconomic vulnerabilities are reemerging”. As this column has been highlighting, the current account deficit (CAD) reaching 3 percent in FY17 is ominous of things to come in FY18.
“Over the medium term, the current account deficit is expected to peak at 3.4 percent of GDP in 2019 as CPEC-related imports gather steam, and could subsequently moderate as exports recover, supported by the elimination of supply-side bottlenecks and the implementation of business climate reforms,” the latest IMF Staff Report noted.
A higher CAD will need rethink on the exchange-rate ‘management’ as well as the sources of financing the deficit.
The stubborn exchange-rate policy response to falling exports and rising capital and material imports has been referred to by the fund euphemistically as “stable rupee/dollar exchange rate”.
How was it possible for the PKR to remain stable despite visible decline in non-debt creating inflows such as exports and remittances? Well, it cost roughly $2 billion in forex wiped out from central bank reserves in FY17. Now the fund deems Pakistan’s external buffers “below adequate levels”.
The real effective exchange rate appreciated 18 percent cumulatively over past three years, the report noted. Earlier this month one saw a belated realization that something had to be done vis-à-vis an overvalued rupee. But instead of a gradual adjustment, a shock therapy was administered.
Needless to say the results were chaotic, and the exercise uncalled for. The forex market makers need coherent signals, not some confused, once-in-a-blue-moon directive from the top. Let’s see how independently the new SBP chief approaches what IMF directors call “exchange rate flexibility”.
On the issue of financing CAD, with recovery in exports and remittances under a cloud, the two funding sources that the fund has singled out are FDI inflows and government’s external borrowing. But even there, the situation is not encouraging.
Latest available data show net FDI has visibly improved in FY17. The figure has crossed $2 billion in FY17. However, the improvement is mainly on account of lower gross outflows year-on-year. When it comes to gross inflows – a key barometer for investment attractiveness – the $2.39 billion received in the period under review are pretty much flat at levels seen in previous years. Nearly a billion dollar came from China.
On the external financing front, Pakistan could tap international bond markets. But it would likely do so at higher rates, given the shift in yield appetite following rate-rise indications from Federal Reserve as well as the European Central Bank. And this time around, the fund’s incubation will be missing, even as political stability declines with the country entering an election year. In that backdrop, the government might continue to tap BOP support from Chinese loans – as it did in FY17.
The fund expects external financing needs to rise to 7.5 percent of GDP in the medium term, as repayments increase on account of CPEC projects as well as government borrowing. Competitiveness needs to be boosted. But how? Fiscal incentives to exporters haven’t really worked. Big exporting houses seem more interested to cater local retail demand.
Whether it is investment or debt issuance, it will be ba tie China who will loom large over Pakistan’s external sector.
Comments
Comments are closed for this article.