Limited FDI and external account imbalances exert pressure on PKR: MOF

December 17, 2018 (MLN): PKR has depreciated by 12.5 percent against USD in the current fiscal year i.e. FY19, as compared to depreciation of 13.7 percent during FY18. As on December 07, 2018, PKR-US$ exchange rate closed at PKR 138.89 per US$ compared to PKR 121.50 per US$ as on June 30, 2018.

According to a report by Ministry of Finance, this depreciation of PKR against US dollar reflects the demand-supply gap in the foreign exchange market resulting from large current account deficit.

The main issue is the strong domestic demand, which is clearly visible from the twin deficits (fiscal and external current accounts) over the last two years, especially in FY2017-18. External account posted deficit due to high volume of imports. Beside other factors, increase in international oil prices contributed towards increase in import bill. The country’s exports are less than half of the total imports. Remittances, another source of financing for imports, grew slowly while the income and services account registered excess payments over inflows. Foreign direct investment (FDI) flows have remained limited.

Due to limited private financial flows, the current account deficit is largely financed through government’s multilateral or bilateral loans (which result in debt accumulation) or by using the country’s foreign exchange reserves. The falling reserves along with external account imbalances are exerting pressure on Pak Rupee.

It may be noted that regional currencies have also witnessed depreciating trend against US dollar. This depreciation in regional currencies had an adverse effect on Pakistan’s export competitiveness. The recent depreciation in PKR exchange rate would not only help contain external current account deficit, but also maintain the country’s export competitiveness.

With healthy global demand, improving domestic supply conditions, and continuation of GSP plus status by EU, the recent PKR depreciation would support exports to continue its current upward momentum. This, along with projected deceleration in import growth translates into lesser pressure on countries foreign exchange position in the coming period.

The recent PBS trade data indicate the imports marginally declined by 0.1 percent in JULY to October FY2018-19 as compared to 21.7 percent growth during the same period last year.

Regarding the impact on prices, it is to be noted that the CPI inflation has remained low in recent years. Specifically, CPI inflation was well below its annual target for the fourth consecutive year in FY2017-18. Average CPI inflation stood at 3.9 percent in FY17-18 lower than 4.2 percent during FY16-17. However, inflationary pressures stated to emerge in 2018-19 and average CPI inflation is 5.9 percent during July-October FY18.19. Furthermore, tightening of monetary policy as evident from 275 bps increase in the policy rate during January to September 2018 would help contain inflationary impact of the recent PKR depreciation.