Rupee’s Devaluation – An Analysis By Dr Kamal Monnoo

Pakistani Rupee (PRs) has been tumbling over the last few weeks, ending at almost 124 (to a US Dollar) in inter-bank trading on Thursday’s close before the Eid holidays. This free fall of almost 19% in a very short span of time should have troubled most governments, but then in Pakistan everything is taken in its stride – After all, every dark cloud has a silver lining! With not much fuss being raised by the interim government or the SBP (State Bank of Pakistan), one can only suppose they are reconciled to the fact that nothing much can be done as the PRs finds its balance in a free floating currency market (driven by market forces). As for the PML-N, which managed the economy over the last 5 years and should have been most embarrassed, its reaction comes as no surprise. True to the prevailing national political culture, its (former) finance minister, Mr. Miftah Ismail, shamelessly defends the Rupee’s depreciation on evening TV talk shows, citing it as perhaps the best thing to happen to the Pak economy! And his arguments: Essentially two, 1) Since the difference between the curb and the inter-bank value of the Rupee against the US Dollar had gone up artificially, it essentially meant that the SBP was having to subsidize the true value of the PRs and now after devaluation will no longer need to do so, & 2) It will help Pakistan grow Pak exports. Obviously, these arguments and counter arguments, have left the ordinary person confused on the real merits and demerits of a currency’s devaluation and that is why one feels the need to put the record straight on some key aspects of any devaluation exercise.
One would not like to elaborate too much on Mr. Ismail’s first argument, as the underlying difference between the curb and the inter-bank is largely perception driven and will always remain so. The second one however, requires a holistic answer. To start with, let there be no mistake that devaluation is almost always accompanied by a lot of pain for an average citizen. It is the worst kind of tax a government can impose on an individual that ironically bears no correlation to his income, but instead to mismanagement of the economy by the very government imposing it. The pain does not stop here as not only in a single stroke does it diminish a person’s ability to connect internationally, but also because it is invariably followed by high inflation (especially in countries with a high trade deficit, and comparatively in-elastic imports e.g. Pakistan), and high interest rates; which once in motion, in-turn retard investment and job creation leading thereby to a vicious economic trap. One does not have to look too far back to see when interest rates in Pakistan were as high as nearly 24% and what it was doing to investment, development and job creation in the country! The rot started with the skewed policies of Mr. Ishaq Dar, who squandered the God given opportunity of a unique global cycle in low oil prices and a relatively easy cum low-cost access to international capital. Instead of using the period to shore up national manufacturing competitiveness he instead preferred to borrow extensively for the government in order to fund its ill conceived public sector projects. Populist policies were pursued (like unnecessarily passing oil savings to domestic users) and imports in general were given preference over home industry.
Now the chicken have come home to roost: With industrial output compromised, public sector projects posting heavy losses, mounting internal and external debt and the import genie out of the bottle, the economy is suddenly finding it difficult to hold its own amidst a changed global environment of rising oil prices (in fact rising commodity prices in general), dearness in access to international capital, and due to a general wave of protectionism, which is bound to even challenge Pakistani exports sooner than later (i.e. despite the small & limited base that our exports represent).
Back to devaluation, the argument that one is trying to make is that a currency’s value is in effect nothing but a reflection of how well an economy is being managed. Contrary to the argument being presented by the incumbent finance minister, devaluations retard development. History tells us that time and again countries that have graduated to the developed world have done so on back of a stronger national currency. The most glaring recent example is that of the Central and Eastern European countries after the iron curtain fell. Most of them, like Austria, Poland, Hungry, Slovakia, etc. changed their destiny by directly becoming a part of a stronger currency in Euro and for others like the Czech Republic, etc. they in-turn ensured that their respective currencies in fact remain on strengthening course which is even more robust than that of Euro itself, and nearly all these economies now find themselves counted in the first world.
As to whether or not devaluation boosts exports, actually there exists no empirical evidence (or data) to establish a real correlation between devaluation and sustainable growth in a country’s exports. Yes, in the short-term a country may show an increasing trend in exports, as it becomes a more price attractive sourcing destination for the customers, but in the long-term ‘significant and excessive devaluations’ become counter productive. Not only do such devaluation exercises negatively affect the very ability to invest in balancing and modernization, technology up gradation or in new projects per se, they also ultimately hurt a business’s drive towards achieving higher operational efficiencies and value addition, in the process killing the very motivation of an entrepreneur to innovate. Again, a cursory look on the exporting champions around us and one finds that almost all of them have succeeded not on the back of devaluations, but have done so during periods where their respective currencies have been stable. Also, as pointed out above, even the story of countries climbing the value added chain over the last decade comes out as being no different. Some western economies though may like to argue here that this may not be entirely true as China’s currency has been consistently under valued by around 40%. However, it is of little relevance to devaluation itself, since in essence all that China did was that once (after joining the WTO in 1989) it established its currency’s parity with the leading reserve currencies of the world, it simply endeavored to maintain it. And as to the classical argument on the responsibility of a government to provide a level playing field at home – meaning if your competitors have devalued their currencies you are left with no choice but to follow suit – once again, one finds this to not be the case with our immediate competitors.
Over the last 3 years (up to first quarter 2018), in a like-to-like comparison to the devaluation of the Pak Rupee (against the US Dollar), China has instead posted an increase of about 2%, Indian Rupee also gained by around 4%, Bangladesh lost by about 6%, and Vietnam lost value by about 8%. So clearly, a devaluation of about 8% at best should have sufficed. But in case, if despite the 8% devaluation, there still remain some competitive anomalies, then these can only be attributed to policy making and should be addressed as such.
The important thing is that a country needs to undertake measures that are driven by self-interest and not debt-necessities, as its long-term objectives may not always fully align with those of the lending institution. While in essence the financial lending institutions would be looking to secure and maximize the return on lending, the country itself would want to achieve self-reliance by ensuring job creation, growth and its equitable distribution. Subsequently, for every further 1% Rupee devaluation the national debt will climb by approximately Rs125 billion!
The writer is an entrepreneur and economic analyst.

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