Pakistan’s foreign exchange reserves continue to fall. It’s a signal to the government to avoid further dilly-delaying on finding ways to steer the country out of the current crisis.

Reserves held by the State Bank of Pakistan (SBP) declined on Sept 28 to $8.41 billion, barely enough to cover imports of 53 days, from $9.79bn at the end of June.

The fall of $1.38bn or 14.1 per cent in official liquid reserves during the first quarter of this fiscal year is troubling. When reserves cannot finance two months of imports, they are considered too low.

The external account is under considerable stress, but the SBP is not letting the rupee fall further

It means the SBP kept using reserves to settle external debt servicing claims. But the perilously low level of reserves cannot allow the repeat of the past practice in this quarter.

The rupee is bound to come under renewed pressure unless reserves get fatter. With just 1pc year-on-year increase, imports for July-August stood at $9.73bn. If SBP reserves fail to climb back to that level, renewed panic may grip financial markets, bank treasurers and executives of foreign exchange companies warn.

In the open market, the rupee began falling even before the release of foreign exchange data on Oct 4. It lost about 1pc value in a single trading session on Oct 1 on newspaper reports that the International Monetary Fund (IMF) sees room for further rupee depreciation in this fiscal year.

But in the interbank market, the rupee remained stable till Oct 4. Bank treasurers say payments against large import bills were being deferred. Some leading banks with better foreign exchange positions were selling dollars to others.

The federal government has twice postponed increasing the electricity tariff presumably to avoid a political backlash that could upset the ruling party’s chances of winning the Oct 14 by-elections. But the tariff will eventually rise by 15-61pc if the recommendation of the relevant authorities is taken into full consideration. A hike in gas prices has been notified and, as expected, the new prices represent a 10-143pc increase for different segments of users. One can imagine the extent of inflationary pressure the domestic economy will experience in the days to come as a result of gas and electricity price hikes.

Seen in this backdrop, a 1pc increase in the SBP’s key interest rate makes sense, more so because international oil prices are up and the consumer price index (CPI) in the first two months of this fiscal year has already averaged at 5.8pc against 3.9pc for 2017-18. Further interest rate tightening in the remaining three quarters of the current fiscal year is not only possible, it looks quite inevitable.

The reason: containing the fiscal deficit at the desired level is becoming too difficult for the government: fuel oil prices are up, further depreciation of the rupee is not a matter of if but when, parallel economy is not going to shrink anytime soon despite all efforts and inflationary expectations remain high.

The rupee is also going to remain under pressure for obvious reasons: a high current account deficit, low growth in exports, large import bills, an insufficient increase in remittances, no huge foreign direct investment in the short run, foreign funds in no mood to invest in our stock market and rising official repatriation of foreign exchange.

Dilly-delaying on when to go the IMF for balance-of-payments support is adding to the uncertainty regarding external-sector management. The government’s impulsive decision-making and subsequent backtracking are keeping financial markets confused. The economic team has reportedly told Prime Minister Imran Khan that under the present circumstances the IMF is the only option. It is not clear as yet how he feels about it and when he will give Finance Minister Asad Umar the go-ahead to initiate the process for IMF borrowing.

For smooth sailing of the economy and financial markets, firm signalling and timely decision-making are necessary. But the government clearly lacks both. The external account is under considerable stress, but the SBP is not letting the rupee fall further and is somehow supporting it in the interbank market, bank treasurers say.

But then the central bank increased its discount rate by one percentage point in one go, somewhat confirming the markets’ view on the rupee and an imminent depreciation once more.

The government removed the ban on the purchase of property and automobiles by non-tax filers, but reintroduced it with certain exemptions after a political backlash.

People at large can afford this state of confusion, but bankers are a different breed.

Did you notice that in the latest treasury bills auction, no bank came up to invest in the bills of six-month and one-year tenors? All bids were for three-month bills.

What does it suggest?

“It means two things: first, previously auctioned three-month treasury bills were due to mature and the current investment in the same tenor was to roll them over,” says the treasurer of a large local bank.

“But if you want to read more into it, yes, it also means that banks are unable to predict the interest rate movement beyond three months. They don’t want to get exposed to interest rate shocks. They fear that in order to pre-qualify for an IMF loan, the SBP can go for an interest rate hike, bigger than what we at banks are projecting.”

Increasing the key interest rate to double digits from currently 8.5pc and letting the “over-valued” rupee fall further during this fiscal year are two important things that the IMF sees as monetary panacea for Pakistan.

The SBP and the Ministry of Finance do not challenge the underlying rationale: they differ with the Fund assessment on the extent of further interest rate tightening and rupee depreciation, central bankers and government officials say.

Published in Dawn, The Business and Finance Weekly, October 8th, 2018