Pakistan’s economic landscape is currently marred by a worrisome decline in its foreign exchange earnings, primarily stemming from diminishing exports and remittances. Despite the depreciation of the rupee, exports have fallen significantly, and remittances have also dwindled, forcing the nation to increasingly rely on foreign borrowing.

The rupee’s depreciation in the open market is a consequence rather than the root cause of Pakistan’s current economic challenges. On June 29, a staff-level agreement (SLA) was reached with the International Monetary Fund (IMF) regarding the Stand-By Arrangement (SBA). This agreement successfully averted the imminent threat of default. One of its conditions, grounded in sound economic principles, stipulated that the government would no longer manipulate the interbank rupee-dollar exchange rate but would instead allow market forces to determine it. This condition had originally been agreed upon in the 2019 Extended Fund Facility program but had been violated by the economic team led by Ishaq Dar during their sixteen-month tenure.

The implementation of the SBA resulted in approximately $5 billion in inflows last month, which were crucial for meeting timely obligations to international creditors and ensuring payments for essential imports like fuel and cooking oil. Additionally, it helped bolster foreign exchange reserves that had dangerously dwindled, with insufficient reserves to cover even a month’s worth of imports.

Due to past breaches of this condition, the SBA now mandates that the difference between the interbank and open market exchange rates should not exceed plus/minus 1.25 percent for five consecutive days. Unfortunately, in recent days, the rupee has breached this threshold, leading to a rapidly deteriorating situation. The caretaker finance minister has attributed this to speculators in the open market and instructed relevant authorities to take appropriate administrative measures to address the issue.

While it is true that speculators are active participants in the open forex market, their concerns are legitimate. Pakistan faces mounting external and internal debts and is grappling with contractionary fiscal and monetary policies that have significantly dampened private sector output, exacerbating unemployment levels. It is important to distinguish these speculators from the eight banks identified as responsible for market turmoil in August of the previous year. While pressuring open market currency players has yielded short-term results in the past and may do so again, it remains limited in its effectiveness, especially considering the substantial differential between the open market rate and the rate offered by the illegal hundi/hawala system.

It is imperative to recognize that the rupee’s decline in the open market is primarily a reflection of the prevailing macroeconomic conditions, not solely driven by speculators seeking to exploit the state of the economy.

Pakistan’s essential foreign exchange earnings come from exports and remittances, and regrettably, both have been on a declining trajectory over the past several months. According to the Pakistan Bureau of Statistics, exports decreased from $31.782 billion in July-June 2021-22 to $27.735 billion in July-June 2022-23, marking a 12.7 percent decline. This trend persisted into July 2023 compared to June 2023.

Surprisingly, this decline occurred despite the rupee’s depreciation, which, according to economic theory, should have made Pakistani exports more competitive. Additionally, remittances, as reported by the State Bank of Pakistan, fell from $31,278.8 million in 2022 to $27,027.6 million in 2023, constituting a decline of $4.25 billion or 13.5 percent. Consequently, with the primary sources of foreign exchange earnings dwindling, Pakistan’s reliance on foreign borrowing has surged.

Simultaneously, there has been a widespread outcry against the conditions associated with the Stand-By Arrangement (SBA), particularly concerning administered prices, specifically in the electricity and petroleum sectors. The caretaker government’s defence, echoed by previous administrations, asserting that these are pass-through prices, has failed to resonate with the general public for two main reasons, disproportionate wage increases and indirect taxes impact.

Public sector employees have seen their capacity to absorb the persistently high inflation rate of over 28 percent in recent months bolstered through the current year’s budget, with wage hikes exceeding the rate of inflation, funded by taxpayers. This strengthening has not been mirrored for private sector employees, who lack, and arguably should not have, the job security enjoyed by government employees in a free-market economy.

Taxes on electricity bills include a 17 percent sales tax and a petroleum levy of 55 rupees per liter on High-Speed Diesel (HSD) and 50 rupees per liter on petroleum fuel. These indirect taxes disproportionately affect low-income households more than the affluent. The technocrats in the caretaker administration must implement several changes before gaining the public’s cooperation in adhering to the SBA conditions.

Firstly, structural reforms are urgently needed in the poorly managed energy sector and the Federal Board of Revenue, which currently relies on easily collectible taxes, often through withholding agents. There should be an effort to broaden the tax base. Then, an immediate solution is to reduce current expenditure and put an end to the budgetary capture by the elite, which the general public is no longer willing to tolerate or subsidize.

As the country grapples with declining foreign exchange earnings, it faces a critical juncture in its economic trajectory. The diminishing exports and remittances, despite the rupee’s depreciation, demand immediate attention and strategic interventions. Moreover, the discontent surrounding the conditions of international agreements, particularly related to administered prices, underscores the need for comprehensive reform. To secure a stable economic future, Pakistan must embark on structural changes, address issues in the energy sector and revenue collection, and reduce current expenditure. Only through such measures can Pakistan hope to navigate these challenging economic waters and regain its footing on a path to prosperity.