Shabbir Ahmed
A double-digit yield on currency is a good value
trade. The State Bank of Pakistan (SBP)
doubled the main benchmark interest rate to 13.25% this year, which is now the highest in Asia. That is why global investors, mainly from the United States and the United Kingdom, have invested over $600 million into Pakistani currency bonds in November. This figure is expected to reach beyond $3 billion by the end of ongoing fiscal year. Pakistani Rupee lost its value significantly this year due to which the SBP has made the current managed-float system more flexible. It has led to a lower real effective exchange rate. It means foreigners can earn far higher returns on local currency bonds. Financial Advisors are suggesting investors to pump money in Pakistani bonds on account of these factors. But the question is whether this strategy is sustainable. Is it going to last for long or the short-term boom will be followed by an economic downturn again?
Earlier this month Moody’s Investors Service affirmed the government’s local and foreign currency long-term issuer and senior unsecured debt ratings from B3 negative to B3 stable on account of progressive economic stability. It expects Pakistan’s balance of payments to improve on the back of fiscal policy reforms and currency flexibility. This improvement in ratings will help attract foreign investment. However, it all depends on the financial reforms that government has promised. The ratings may be downgraded if there is a renewed deterioration in Pakistan’s external position or an increase in the government’s debt burden.At the moment, we are seeing some ominous signs of economic revival. The current policy choices of Pakistan offer the country the best chance of getting onto a sustainable growth path. Borrowing costs are lower; thanks to foreign investors buying government debt. Karachi Stock Index is up 13% over the past month, making it the best-performing Stock Exchange of 94 tracked by Bloomberg.
In order to highlight the economic progress, the government officials have pointed to progress in some macroeconomic indicators like current account deficit, currency stability, surge in foreign direct investment and so on. However, some of these indicators might be misleading. Devaluation of the currency has helped increasing exports and discouraged imports. It has led to a decline in the current account deficit. Similarly, foreign direct investment surged by 78% in the period July-November. It is mainly due to two leading foreign mobile phone firms that paid licence renewal fee which they were bound to pay anyway. Despite having a relatively positive outlook, Pakistan’s economy is far from stable. Higher interest rate is a part of efforts to rein in inflation and show willingness to reform public finances to gain IMF support. The Central Bank usually increase interest rates when inflation is predicted to rise above their inflation target. Higher interest rates tend to lower economic growth and increase unemployment rate. It increases the cost of borrowing, reduce disposable income and therefore limit the growth in consumer spending. Higher interest rates tend to reduce inflationary pressures and cause an appreciation in the exchange rate. However, there is an ugly side to this approach. With higher interest rates, interest payments on loans are more expensive. People who already have loans will have less disposable income because they spend more on interest payments. Therefore, other areas of consumption will fall. It will also have a significant impact on consumer spending. Car sales have reportedly plunged 44% this year so far is one such example. Moreover, in future when we reduce interest rates, these foreign investors are likely to take out their money from Pakistan. It’s important to see our exports built up over time, so that we’re in shape to manage future demands on our foreign-currency reserves.
It is worth mentioning here that since 2003, the global market share of Pakistan’s neighbouring countries China, India and Bangladesh has increased by over 200% and that of the South Asian Association for Regional Cooperation (SAARC) region by over 150%. In the same period, however, Pakistan’s share in the global market has decreased by 19%. Had Pakistan’s exports grown at the pace of its neighbours, the country’s annual exports in FY’19 would have been over $50 billion. The long war against terrorism may be regarded as one of the main reasons behind it but the failure of economic policies cannot be overlooked in this regard. Energy crisis, tariffs on imported inputs, flawed exports promotion policies along with a lack of will had a long-lasting cumulative impact on a deteriorating balance of trade. Pakistan has low sources of revenues and high non-development expenditures, which is a recipe for a financial disaster. The country has one of the lowest tax-to-GDP ratios in the world. The major chunk of tax burden in Pakistan falls overwhelmingly on the poor who pay in various indirect ways and who already struggle to make both ends meet. If the country is to avoid the looming economic disaster, it must revise current spending and prioritise expenditure that will actually generate social and economic development and uplift the poor.
—The writer is freelance columnist.
