EDITORIAL: Dr Reza Baqir, Governor State Bank of Pakistan, in an interview to Reuters has stated that the authorities are in talks with the International Monetary Fund (IMF) to put its fiscal support programme back on track (fiscal support defined as the release of the second tranche under the 6 billion dollar Extended Fund Facility Programme in support of the dwindling foreign exchange reserves), adding that the only discussion is on the timing of the reform measures which would have contractionary effects on the economy thereby causing more hardship to people already suffering from a loss of livelihood due to the pandemic and inflation.
Baqir’s statement acknowledges two major elements repeatedly highlighted by Business Recorder since the economic team leaders - Governor SBP as well as the then Advisor on Finance and current Finance Minister Hafeez Sheikh – agreed to the IMF conditions (policy reforms) on 12 May 2019: (i) that the upfront contractionary measures agreed would stifle economic activity, envisaged by the Fund as it projected a growth of 1.5 percent (endorsed in the budget for 2019-20) and lead to large scale unemployment. The onslaught of the pandemic began mid-March 2020, which reduced the growth rate to negative 0.4 percent or by around a percentage point which implies 448 billion rupees contraction of the GDP; a more phased approach was recommended by this newspaper and also independent economists in terms of both fiscal and monetary policy measures which were not put into effect till after the pandemic; and (ii) there was a net lending outflow (July-November 2020) of 1.74 billion dollars with IMF documents noting that 13.5 billion dollars would be required in the current year to repay loans as and when due and interest payable (with negative 1.7 billion dollars deferment by the G-20). Thus the foreign exchange reserves claimed by the SBP of slightly over 13 billion dollars are heavily sourced to debt - swap arrangements with China and commercial banks (5.3 billion dollars) which no doubt prompted the Governor to refer to fiscal support measures by the IMF and dwindling foreign exchange reserves.
Thus Baqir’s insistence that the ongoing discussions with the IMF are on the timing of the reform measures - measures critical for the economy - to ensure that the impact of the contractionary policies on the people would be minimized must be welcomed. However, one would urge the Governor to clarify the existing SBP policies that continue to baffle economists. First and foremost, last year Baqir stated that the Consumer Price Index (CPI) was the determinant of the discount rate of 13.25 percent effective from 20 July till March when the epidemic’s onslaught began in Pakistan. This in spite of the fact that SBP’s data indicated that inflation never rose to the IMF projection of 13 percent. Previous to 2019, SBP set the discount rate keeping in mind the core inflation by arguing that CPI contained items that were not sensitive to the discount rate. Today the discount rate is 7 percent, the CPI is 8.8 percent and the core inflation is around 5.6 percent and one would hope that the SBP clarifies preferably through a research paper as to the criteria for setting the current discount rate.
Secondly, the SBP adopted a market-based exchange rate mechanism which is not solely market determined but allows the Bank to intervene in the market in case of need. The real effective exchange rate, as calculated by the SBP, has been consistently under 100 since the staff-level agreement with the IMF on 12 May 2019. It was this policy that contracted imports, including imports of raw materials with a consequent impact on productivity and employment levels, which continues to this day. It is worth noting that since June 2019, REER has consistently been below 100 while it reached a high of 121 in June 2017 when Ishaq Dar was the finance minister in the PML-N government and was held responsible for an artificially over-valued rupee that eroded the country’s exports, made imports attractive and last but not least understated the country’s debt profile. Today, the rupee is undervalued which sadly has marginally raised exports but has significantly curtailed imports and fuelled domestic inflation. The present SBP management argues that the exchange value should not be determined by comparing it to a 100 but has presented no alternate policy paper that would justify a change in approach.
The IMF Resident Representative stated that the fund team remains closely engaged with the government and both are working very hard and non-stop to bring the programme review to a positive conclusion – a view that supports Governor Baqir’s statement that “we hope to have good news for the market and the world that we are putting the programme back on track” - good news that would enable the government to access concessionary loans from abroad. However, the general public hopes that the government’s economic team does not cause further hardship - many of whom are without jobs (pre-Covid-19 due to severe contractionary policies being implemented) or livelihood (those operating in the informal sector) with salaries remaining constant (public servants and defence personnel) in spite of inflation of over 8 percent.
Copyright Business Recorder, 2021
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