Currency depreciation in Pakistan has always been “involuntary”. The authorities did not let the currency depreciate when an adjustment was due. The rupee was overvalued for a long time. Historically it has slipped only when the authorities were unable to control the supply of dollars any longer. Public debt has soared as a result; the foreign exchange reserves have been depleted. A strong rupee has also caused the trade and current account deficits to grow.
Under these conditions, the gains form depreciation are hard to come by. The sudden plunges in the value of the rupee cause panic, further compromising the gains. The impact of depreciation on foreign trade and related sectors depends on three broad factors. One, inflation in other countries particularly main trading partners; two, domestic prices; and three, overall macroeconomic conditions and policies, particularly during the depreciation phase.
The first two factors determine the real effective exchange rate (REER) and thereby external competitiveness. A higher external competitiveness leads to higher gains. The size of gains depends on the nature of exports and imports and the capacity to export. The third factor determines the extent to which depreciation will help boost the economic activity (thus enhancing the capacity to export). If any of these factors is missing, the potential gains from depreciation may be compromised.
The decline in trade and current account deficit was mainly supported by contraction in imports. It is because of this that no significant impact of depreciation on employment and poverty was observed. The fault does not lie with depreciation. The adverse impact of the factors highlighted above outpaced the potential gains from the depreciation.
Any assessment of impact of depreciation on exports, imports and employment must consider the overall state of economy and policies. It must account for two counterfactuals. One, what would have been the situation of exports, imports, trade and current account deficits if rupee was held at the 2017 value? Two, what would have been the gains from depreciation if rupee was allowed to adjust before the balance of payment crisis?
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