Federal Board of Revenue (FBR) Chairman has used a story about yogurt to explain why simply weakening the Pakistani rupee (PKR) may not be enough to fix the country’s trade deficit.
The central message of his argument was simple: a weaker rupee alone cannot fix Pakistan’s trade deficit. The economy first needs the productive capacity to turn a cheaper currency into stronger exports.
Yoghurt story
In a detailed note, the FBR chairman compared Pakistan’s economy to a lake where someone is trying to make yogurt by mixing a spoonful of yogurt into water.
He said supporters of rupee devaluation think a weaker currency will make exports cheaper, reduce imports and eventually eliminate the trade deficit. He said this approach only works when the economy has the right conditions to benefit from a weaker currency.
FBR chairman said a strong export economy needs to produce a large share of the goods it sells abroad using domestic raw materials, energy and skills.
He pointed to Pakistan’s textile sector. Much of its cotton, dyes, machinery components and fuel are imported. As a result, a weaker rupee also increases the cost of inputs used to produce export goods.
He also said Pakistan cannot easily reduce several major imports because the country depends heavily on imported oil, gas, food items and medicines. At the same time, a large portion of exports is concentrated in textiles.
FBR chairman further argued that the benefits of a weaker currency can quickly disappear as domestic prices rise. Higher costs for food, fuel and electricity can eventually offset the initial price advantage given to exporters.
Remittances have become a major source of foreign exchange. A weaker rupee increases the value of remittances received in dollars and other foreign currencies, but much of that money is spent on imported consumer goods.
Langrial gave examples from Britain, South Korea, Egypt and Pakistan to explain why currency depreciation produced different results depending on the structure of each economy.
Economy for Exports so PKR Thrives
He said Pakistan needs to build an economy that produces more of what it exports, reduce the imported component of production, lower barriers that protect the domestic market and direct remittances toward productive investment.
He also warned against reacting too quickly to the initial deterioration in the trade balance after a currency depreciation.
In his analogy, the yogurt is the trade balance and the milk pot is the economy needed to make the process work. Simply adding yogurt to a lake of water, he argued, will not produce the desired result.
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