Pakistan’s case for a gradual rupee adjustment

There are increasing voices in both services and manufacturing businesses that Pakistan is losing global competitiveness, mainly in export-oriented sectors, due to a sticky exchange rate.

The challenges are rising because of the current commodity price shock, mainly energy.

Regional currencies, including India’s, have been adjusting to changing realities. However, Pakistani authorities, as always, remain sensitive about exchange rate adjustment. It appears there are no lessons from the past.

PKR has appreciated by a few percentage points against the USD over the past three years. The rupee depreciation was sharp in the year prior to that, and the adjustment was higher than what inflation and interest rate differentials suggested, which was evident from the Real Effective Exchange Rate (REER) value of 85-87 in the first half of 2023.

The next two years were a catching-up period. SBP kept real interest rates positive, and inflation cooled amid declining international commodity prices after the supercycle. However, lately, with a recent inflation surge due to the global oil price shock, the exchange rate again appears overvalued. REER moved up to 105.2 in March 2026, the highest level since September 2018.

It needs gradual adjustment. Otherwise, within a few months or quarters, the currency could depreciate with a sharp jerk. That is not healthy and could create panic. It is better to make timely adjustments, which would help restore competitiveness. Some may argue that exports do not grow merely because of currency depreciation. That is partially correct, but an overvalued currency reduces the existing export base and makes imports cheaper, thereby putting pressure on the trade deficit.

Over the last three years, on a 12-month rolling basis, inward remittances have increased by $13 billion, or almost 50 percent, to reach $40 billion. That has helped contain the current account deficit, even as the trade balance worsened by $12 billion during the same period.

Now, a dent in remittances is expected due to a slowdown in GCC economies in the aftermath of the US-Iran war, from where Pakistan receives 50 percent of its inward flows. This, coupled with upward pressure on imports due to higher prices, would strain the current account balance. That, in turn, would limit SBP’s ability to build forex reserves.

To curb imported demand, SBP has increased the policy rate by 1 percent and may announce another hike in June, as inflation is expected to remain around 13-15 percent in May and June. It is advisable to use the exchange rate as a line of defence, which would also help exports remain steady. Remittances are not very currency-sensitive, but exports are.

Pakistan’s textile exports have two segments. One is low value-added yarn and fabric, whose share is falling and being replaced by the growing high value-added segment of garments and apparel. That is positive, but the growing segment is losing competitiveness. According to leading textile exporter Musadaq Zulqarnain, 20-25 percent of costs consist of wages, which have increased by over 30 percent in dollar terms over the last three years, as minimum wages in PKR terms have risen by 25 percent in two years. This has resulted in a 5-6 percent reduction in margins in an industry where margins are already thin.

The increase in wages was necessary to counter inflation, but at the same time, PKR should be adjusted to keep exporters’ margins intact. A similar situation exists for IT exporters, where labour accounts for 70-80 percent of costs. They are facing pressure as well. One player argues that there should be a defined exchange rate policy linked to a certain REER level.

Treasury officers in leading banks also believe that PKR needs adjustment, but according to one banker, SBP is too touchy about changing currency parity. Well, SBP, or authorities in the twin cities, should not get married to a particular level.

The SBP governor recently said that the central bank bought $27 billion from the interbank market over the last three and a half years. He perhaps implied that had SBP not bought these dollars, the currency could have appreciated further. That may not be entirely true. The current account has cumulatively shown a mere $0.3 billion surplus since January 2023, while SBP reserves, net of external debt and liabilities, have risen by only $3.3 billion. (SBP forex reserves increased by $13.3 billion, while total external debt and liabilities rose by $10 billion during the same period.) If we also add the $3 billion reduction in forward liabilities, overall net reserves, adjusted for forward liabilities, increased by $6.3 billion.

This means that around $20 billion out of SBP’s $27 billion purchases was effectively used to finance the current account, as SBP pays interest on government debt, which forms part of the current account. Moreover, SBP has an unstated rule requiring banks not to buy dollars from one another and instead finance outflows through their own inflows. Any surplus dollars are then absorbed by SBP.

That strategy may not work going forward, as the current account could slip into deficit in FY27, halting reserve accumulation. It is best to act before panic hits in the coming months or quarters.

The doctor’s prescription is a gradual depreciation of 3-5 percent, implemented in a well-communicated manner to avoid panic, restore competitiveness, and prevent a far more disruptive adjustment later.

Copyright Business Recorder, 2026