The Pakistani rupee is under pressure, having depreciated 15 per cent against the dollar over the last seven months. Pakistan’s net international reserves are negative now while the country continues to run a very high current account deficit of over five per cent of Gross Domestic Product (GDP). The demand for dollars for imports, loan repayments and speculative capital flight continues to far exceed the country’s capacity to earn dollars through exports and remittances.

It is expected that Pakistan will have to seek assistance from the International Monetary Fund (IMF) ­— yet again. The last time this happened was in July 2013, when then finance minister Ishaq Dar defended the IMF plan with the promise that “a better tomorrow dawns only when requisite pains are borne today”. Unfortunately, it looks like Pakistan must suffer a bit more before any new dawn breaks.

Why is Pakistan back in trouble with balance of payment? The Pakistan Muslim League-Nawaz (PMLN) government received a big break early in its tenure when the price of oil fell from around 100 US dollars a barrel to less than half that amount. Since almost a third of Pakistan’s imports are based on oil, the decline in oil prices provided the government some significant breathing room to plan for the future and put its financial house in order. Unfortunately, the opportunity was squandered as the PMLN government failed to take the steps necessary to put Pakistan’s balance of payment position in order.

There were three basic issues that needed to be addressed. First, the government should have taken advantage of low oil prices by building up foreign currency reserves to offset the impact of future increase in oil prices. A good example to follow is that of Chile, a country that actively saves foreign currency when copper prices (its main export) rise. Since this was not done, the subsequent rise in oil prices since July of last year has put predictable pressure on Pakistan’s balance of payment.

Second, Pakistan faces the chronic problem of a poorly regulated financial system that facilitates tax evasion and helps launder money out of Pakistan. This lack of financial supervision by the government creates the twin problem of fiscal and current account deficits that are directly responsible for the balance of payment crisis. Unfortunately, the previous government made little to no headway in improving its ability to monitor the financial system.

Third, and most importantly, Pakistan’s anemic performance in the export sector is directly responsible for its perpetual balance of payment concerns. For example, since 1980, exports from India and Bangladesh have grown at a rate that is more than five times that of the growth of Pakistan’s exports. Unfortunately, the PMLN government failed to make any improvement in export performance. In fact, Pakistan’s total exports actually decreased in real terms during the PMLN tenure.

One reason for Pakistan’s poor export performance was Dar’s strange infatuation with keeping the rupee at or below the rate of 100 per US dollar — something he openly acknowledged in December 2013. The rupee exchange rate, like any other price in the economy, is ultimately a function of demand and supply. Dar’s insistence on keeping an overvalued exchange rate disproportionately hurt exports.

To make matters worse, the government engaged in an import-led growth strategy by borrowing from abroad to finance large-scale infrastructure projects — the China-Pakistan Economic Corridor (CPEC) being the most prominent example. It is well known that high net borrowing from abroad leads to real exchange rate appreciation which further restricts export growth. All of these elements have combined to generate the current balance of payment crisis. The new government that comes to power must address these issues in order to address the problem of rapid depreciation of the rupee.

The writer is a professor of economics, public policy and finance at Princeton University and Director of Julis-Rabinowitz Center for Public Policy and Finance at the Woodrow Wilson School.

This article was originally published in the July 2018 issue of the Herald. To read more, subscribe to the Herald in print.