Ominous Trends

The external balance of payments position of Pakistan has deteriorated sharply in the first quarter of 2013-14, as per the recently released SBP figures. The overall deficit has been recorded at $1368 million, despite the release of the first tranche of $547 million under the new IMF Programme. This deficit is over $1106 million larger than that projected for the first quarter by the IMF.
The large divergence brings into question the forecasting ability of IMF staff, along with SBP officials. If such a large error can be made even in the first quarter, then projections up to the end of 2013-14 have little or no credibility. More importantly, it highlights that the IMF programme has made no contribution to bolstering market confidence and promoting larger inflows into Pakistan.
Why has the BOP worsened so much? The current account deficit is $330 million larger than anticipated. Exports have shown little growth of only one percent, as opposed to the projected growth rate of over four percent. As opposed to this, the exports according to the Pakistan Bureau of Statistics (PBS) show considerable buoyancy with growth of over nine percent. Why is there such a larger divergence between SBP and PBS figures on export growth? Is this an indication of retention of export proceeds abroad?
Imports have grown fast at close to nine percent, $346 million higher than projected. Here again, the PBS estimate is different, at 3 percent. Is this also an indication that importers are opening L/Cs faster in anticipation of depreciation of the rupee?
The silver lining in the cloud is the faster growth in home remittances of over nine percent, $415 million more than expected. But maybe the IMF had not allowed for larger inflows before the Hajj and Eidul Azha. Hopefully, Pakistani workers abroad will continue to support their country at this difficult time. The danger is that if the gap between the open market and the inter-bank exchange rate widens too much then remittances may be diverted to unofficial channels. Currently, the gap has been restricted to less than one rupee per dollar.
This big disappointment is in net inflows on the financial account of the BOP. Primarily because of the degree of comfort created by Pakistan signing on to an IMF programme, this account was expected to improve fundamentally. But this has not happened.
As opposed to a projected surplus of $565 million in the financial account, the actual outcome is a net outflow of $68 million, a large difference of $ 633 million. Foreign direct investment has been 46 percent below the projected level. Net foreign assistance has been $138 million less than anticipated and there has, in fact, been a negative inflow, with amortisation of past loans exceeding the disbursements. Multilateral agencies like the World Bank and the ADB do not appear to have resumed yet larger programme assistance to Pakistan.
Another worrying development is the flight of money out of the banking system. $270 million has been taken out from the commercial banks, for reasons which are not clear. Further, the net inflow from the IMF continues to be negative. The amount received as the first instalment in September was $547 million. The repayment in the first quarter was $720 million, implying a net outflow of $173 million.
Overall, the BOP deficit in the first quarter is $1368 million, $1106 million higher than anticipated. Along with the net repayment to the IMF, this has implied a massive depletion of foreign exchange reserves of $1541 million, over 25 percent, in only three months.
A comparison with the first quarter of 2012-13 also reveals the extent of deterioration in the BOP.
Last year the current account was actually in surplus in the first quarter due to a large inflow from the Coalition Support Fund (CSF) of the USA. The overall deficit in the BOP was $28 million only as compared to $1368 million in the first quarter of 2013-14. Foreign exchange reserves on September 30, 2012 stood at $10358 million as compared to $4691 million a year later, a drop of 55 percent. It is clear that in the absence of an IMF programme, Pakistan would have defaulted sooner or later.
The depletion of reserves in the first quarter of 2013-14 has brought them down to the precarious level of $4602 million, enough to finance only one month’s imports. But, unfortunately, this is not yet the full bad news. In the first two weeks of October, foreign exchange reserves have fallen further by $527 million. As of October 11, they were $ 4075 million, equivalent to 0.9 months import cover. The recent release of CSF funds by the US of $322 million will help, but only in a small way.
Inexorably, the foreign exchange reserves are reaching a perilously low level. During the month of November, 20013, Pakistan has to repay another $700 million to the IMF, without any releases from the Fund. There is the difficult prospect that foreign exchange reserves could be depleted further to below $3.5 billion, representing an import cover of 0.8 months only.
In fact, there is a clause in the IMF programme document which states the following: ‘Reserve losses of over $500 million in any 30-day period will trigger consultation with the IMF Staff’
Foreign exchange reserves fell by $1208 million from $5162 million on September 6 to $3954 million on October 4. This should activate the above clause and lead to launching of a mission by the IMF staff. The latest news is that such a mission will be arriving on October 28. When the mission is here, Pakistan will have to inform the IMF that the releases under the EFF must be more frontloaded if reserves have to be enhanced to a somewhat safer level and confidence restored in the markets.
The Fund may wish to see if the open market for foreign exchange is operating normally and how far the process of dollarisation has gone in the economy, despite the presence of a Fund programme. Also, the IMF must motivate the multilateral banks for faster disbursement of program assistance to Pakistan.
On top of this, Pakistan may contemplate some ‘home-grown’ moves aimed at compression of non-essential imports by imposition of regulatory import duties and introduction of higher cash financing by importers. The bottom line is that strong and urgent actions are required if a full-blown crisis is to be averted.