THE inevitable has happened. The rupee has been allowed, though belatedly, to shed some extra weight.

The exchange rate uncertainty — which engulfed markets in July after the then finance minister, Ishaq Dar, audaciously reversed the central bank’s move to depreciate the local currency — ended on Dec 8. On that day, the State Bank of Pakistan (SBP) once again withdrew rupee support through a market mechanism, leading to a fall of 4.3 per cent in the currency’s value against the dollar in the next six days.

Bankers and analysts have long been saying that the depreciation of the rupee was not a question of ‘why’, but ‘when’ and ‘how’. So here it is — a new rate band of Rs110-110.50 per dollar that the SBP may now defend until the full impact of the readjusted exchange rate becomes clear, top bankers say.

In fact, the central bank did intervene in the market twice last week, warded some undue pressure off the rupee and helped it close at Rs110.09 at the end of the day on Dec 14. “Had two large local banks not pumped in greenbacks in the market (which forex dealers suspected was done on SBP’s advice), the rupee would have closed at around Rs111 a dollar,” treasurers of a local bank told this writer.

But another bank treasurer said the pressure on the rupee seen on Dec 13 and Dec 14 was also in response to a rise in the dollar’s value across Asia after a decision by the US Fed to increase its policy rate for the third time in 2017.

Regardless of whether the SBP defends a new rate band or leaves it completely in the hands of market forces, the rupee may continue to remain under pressure for some time because of soaring trade and current-account deficits.

Pakistan’s trade deficit shot up to $15 billion (with exports at $9bn and imports at $24bn) in the first five months of this fiscal year, according to the Pakistan Bureau of Statistics. And according to the SBP, the current account deficit in the first four months of this fiscal year totalled $5bn, more than double the $2.26bn figure in the year-ago period.

Regardless of whether the SBP defends a new rate band or leaves it to market forces, the rupee may continue to remain under pressure for some time because of soaring trade and current-account deficits

A weakening rupee may provide some support to exports, which have already started growing this fiscal year. But fixing the trade deficit will remain elusive unless imports slow down.

The rupee depreciation can make a dent in import growth in the areas of non-machinery, non-oil groups of food, luxuries and automobile, where the imposition of regulatory duties in August is also expected to make an impact.

But the sixty-four thousand dollar question is: how well will the rupee depreciation support export growth? Emboldened by an incentive package, less-interrupted supply of energy and growth in the large-scale manufacturing, our main export — textiles — is already growing.

And while a weaker rupee can increase the pace of growth of overall exports, exporters are also trying to improve their own manufacturing and marketing capabilities to become more competitive in the world market.

“The rupee depreciation is sure to boost the cost of external debt financing. But the prospects of a 6pc economic growth in the current fiscal year and the ongoing fiscal belt-tightening and plugging in revenue losses can offset its impact,” says a senior official of the Ministry of Finance.

Central bankers say they would keep watching the impact of the rupee decline on inflation, but hope it would not to be too problematic because domestic supplies of both food and non-food items are sufficient at the moment.

They privately admit that imports of industrial raw materials would become more expensive after the exchange rate adjustment. How the new rates will affect essential imports and how industries using those raw materials will respond to it should be watched closely.

While most local bankers and analysts are apparently satisfied with the new exchange rate, some of them insist the rupee is still overvalued.

Describing the recent rupee depreciation a welcome move, London-based Pakistani economist Raza A. Agha said in an emailed comment that “more needs to be done”, considering the still prevailing weakness of the external sector.

“The real effective exchange rate model suggests the rupee was 14.5pc overvalued in end-November, implying a rate of Rs121 per dollar. (But) whether the rupee will … get to Rs121 is another question,” said Mr Agha, who works as the chief economist for the Middle East and Africa at VTB Capital.

He and other analysts believe that after the rupee’s decline, there is a need to raise domestic fuel and power tariffs, “otherwise there will be a fiscal impact.”

SBP officials point out that in addition to maintaining the interest and exchange rates at adequate levels, their mandate also includes promoting economic growth.

“That is why you see we don’t always buy pure technical arguments for rupee depreciation beyond a certain level, even when the pressure comes from the IMF,” one official told this writer, implying that the IMF, too, had called for more depreciation of the rupee value than allowed by the central bank.

Published in Dawn, The Business and Finance Weekly, December 18th, 2017