EDITORIAL: A few days back, the State Bank of Pakistan (SBP) tightened the foreign exchange regime for individuals at a time when the demand and supply situation in the foreign exchange market became quite erratic, and the PKR slipped against the dollar by 16 percent in a few months. This was indeed a much needed step.
Since the Pakistan foreign exchange market was deregulated for individuals in the early nineties, an estimated $150-175 billion has flown out of the country on gross-basis through official channels. There is no record of unofficial outflows. The new step of limiting cash-buying by individuals or remitting outward to $100,000 per year and $10,000 per transaction appears to be aimed at reducing the outflow of currency and speculative buying of dollars.
Historically, Pakistan has been one of the most liberal foreign exchange regimes in the region for individuals while taking money out for companies has not been easy. It’s the other way round in other countries. Also, the domestic economic protection in Pakistan is one of the highest in the region.
The World Bank in its recent report mentioned that import substitution in Pakistan has substituted the exports, i.e., the returns on import substitution sectors are so attractive that it is making investing in export sector unattractive. Businesses make high returns, and their individual owners can repatriate their dividends out of Pakistan without any limits. However, for foreign companies, at times, dividends must wait in a queue, and if in the process the currency depreciates, their respective returns suffer dilution.
The incentive structure, without question, is lopsided but no government has been able to correct it. The problem becomes acute when there is a flexible exchange rate regime in place. Prior to 2019 when this regime was implemented, the currency was moving in straight lines with sudden falls. Speculative activities had some inherent check. Now with drip-by-drip currency depreciation, the confidence of individuals is eroding and anyone with some liquid savings is rushing to buy dollars. That has been putting further pressure on the currency and has created a self-feeding loop.
No doubt, the SBP is attempting to arrest this by limiting the withdrawal limits. There are additional limits for health and education-related remittances which are enough to cover tuition fees. The external account vulnerabilities are mounting in Pakistan. Domestic demand is growing with continued reliance on imported items while exports have largely stagnated and in fact have dipped in terms of GDP (Gross Domestic Product). No matter how much the currency depreciation is, Pakistani exports are not becoming competitive.
The Afghanistan situation after the withdrawal of US coalition forces is also a factor behind increased pressure on the PKR. Afghanistan’s imports from last year were close to $6 billion, which were financed by dollars from within the country. Now most of the Afghan imports are being routed through Pakistan with traders in Pakistan importing in USD and exporting to Afghanistan in PKR. There is an additional pressure on the currency to feed Afghani imports.
Hopefully, the measures instituted by SBP will take account of all dynamics and would be able to reduce the growing dollarization in the country. But dollarization can effectively be stopped by making PKR attractive. Seeing the downward flight of PKR, no FDI is willing to come in. People may pay premium in the grey market to buy dollars. The pressure will keep on building due to limits and this could explode eventually. To put an end to this cycle, the economic managers must take stock of the situation and should incentivize foreign investment in productive sectors.
The protection in the domestic sectors should be reduced to let them compete with foreign markets and that may divert the investment to exporting sectors. For all these measures to yield results stability in the currency is warranted. That SBP is not complacent at all is a fact. But more is needed in the form of structural reforms and competitive environment to generate trust in the PKR.
Copyright Business Recorder, 2021
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