PAKISTAN’S exports have floundered in the past year and a half. After an increase of nearly 3pc in 2013-14, the US dollar value of exports declined by 5pc in 2014-15. For the first month of 2015-16, export receipts have plummeted nearly 17pc. The fall in exports has been led by large declines in textiles and rice, with significant decreases in exports of jewellery, engineering goods, chemicals, and leather goods as well.

While Pakistan’s exporters have been struggling with various challenges in the past few years, including the energy crisis and an unsettled internal security situation, as well as an unfavourable external environment for textiles and rice exports, their difficulties appear to have been compounded by the finance minister’s decision to allow the rupee to appreciate sharply in December 2013 — and then holding the exchange rate virtually unchanged since.

As a result, the real effective exchange rate (REER), which is an indicator of the international competitiveness of a country’s exchange rate, has appreciated over 20pc between December 2013 and June 2015, according to State Bank data. The steep, and virtually unprecedented in its magnitude, appreciation of the rupee in real terms during this period comes as many other economies across the world have either outright devalued their currencies to provide an advantage to their exporters, or have allowed their exchange rate to depreciate/adjust to market forces.

The ‘strong rupee’ policy has added to the woes of exporters.

Hence, between Jan 1, 2014 and Aug 26, 2015, the Indian rupee as well as the Chinese yuan weakened by approximately 7pc, the Turkish lira by nearly 37pc, the Vietnamese dong by 7.8pc and the South African rand by almost 26pc.

Of course, the most explicit and dramatic policy of competitive devaluation has been followed by Japan under Prime Minister Shinzo Abe’s economic revival policy of the “three arrows”. Hence, since December 2012, the Japanese yen has been weakened by a massive 40pc to boost exports and return the economy to growth.

More recently, China rattled the global financial markets by allowing the yuan’s exchange rate to be more freely determined by market forces. This resulted in a nearly 3.5pc weakening of its currency’s exchange rate versus the US dollar since Aug 11, a move which was initially interpreted by global financial markets to be in the nature of a competitive devaluation.

While questions have been raised about the effect, if any, a weaker rupee will have on our exports, the economic argument for allowing the rupee to finds its ‘truer’ value is clear. The litmus test of whether a country’s exchange rate is misaligned from economic fundamentals is not just its impact on exports — which tend to decline because of having become more expensive for foreign buyers. The corollary of an overvalued exchange rate is that imports into the country become cheaper, thus leading to a spurt. While Pakistan’s exports declined 5pc in 2014-15, non-oil non-food imports rose 13pc, even with the crash in global commodity prices (with a further 17pc year-on-year increase in July), clearly demonstrating the effect of the exchange rate overvaluation.

The knock-on impact of cheaper imports falls on domestic manufacturing. While imported raw materials, intermediate goods and machinery become less expensive with an overvalued exchange rate, domestic manufactured goods that directly compete with finished imports lose out too. This trend of “hollowing out” of Pakistan’s manufacturing base and a stunted industrialisation, if not outright de-industrialisation, has been taking place over a period of time, with policies of successive governments, including the current PML-N one, supportive of imports and trading, instead of local manufacturing.

(On the somewhat ambivalent findings on the effect of exchange rate depreciation on Pakistan’s exports, two things need to be kept in mind. First, many of the studies pertain to the period when Pakistan’s exports were quota-constrained; hence, the effect, if any, was diluted. Second, the counter-factual to a depreciation of the rupee needs to be considered — ie if the rupee had not weakened over the period under consideration, would exports have been lower?)

In the presence of massive under-invoicing of imports, especially under the Free Trade Agreement with China, competitive devaluations by trade competitors, steep increases in domestic energy tariffs even with lower availability, the imposition of the Gas Infrastructure Development Cess, and the blocking of billions of rupees of genuine tax refunds, the deliberate overvaluation of the rupee is near-fatal for a large part of Pakistan’s export sector.

The flip side of the argument is that were Pakistan less dependent on low value-added exports, especially in textiles, it would not have ‘required’ a weaker exchange rate. While largely true, it has to be borne in mind that neither Japan nor Turkey nor South Africa — all countries that have seen substantial depreciation of their respective exchange rates to the US dollar, which have either been deliberate and contrived, or brought about by market forces — have the same composition of exports as Pakistan in terms of value-addition. Yet, with a much higher proportion of value-addition in exports, these and many other countries have gone the path of weakening their currencies.

Nevertheless, even in a longer time frame, Pakistan has not done as well as many of its developing country peers in terms of export performance. In fact, it has been an outright laggard. Its market share of global exports has stagnated for the past four decades, at a measly 0.14pc. Between 2000 and 2015, its exports have increased around two and a half times, while India’s have grown over seven-fold, and China’s nine-fold. Even Bangladesh’s exports are now approaching $30 billion, recording a phenomenal increase during this period.

The foregoing suggests the operation of deep-rooted structural challenges to exports — including the lack of a serious policy orientation and focus towards export-enhancement. While a weaker exchange rate on its own will not be sufficient to prop or propel exports, in the absence of supportive measures and policies, its importance is amplified.

The writer is a former economic adviser to government, and currently heads a macroeconomic consultancy based in Islamabad.

Published in Dawn, September 4th, 2015

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