Thread by @Ali_Ghaznavi

Thread: An attempt at explaining Pakistan's Economic Woes

Let's start the discussion by looking at the exchange rate . We always hear people saying that Ishaq Dar kept the rupee at an over valued rate which created difficulties for the incoming PTI Govt in 2018.
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Lets look at the REER (real effective exchange rate).

Let me first explain REER. In simple words REER shows the buying power of a currency at home vs abroad compared to a base year.

In the graph below 2010 is set as the base year.

Now if the index goes above 100 that means PKR's buying power abroad is more than buying power at home, in other words the currency is over valued and its cheaper to import products rather than buying local made products. The opposite if true if the index goes below 100.

Now looking at the REER graph for Pakistan it is quite visible that the currency was indeed over valued during Ishaq Dar's term.

This was also confirmed by Miftah Ismail in 2018 while giving an interview to Bloomberg.

As a result of an over valued currency Pakistan's import rose sharply from $44.6B in 2013 to $60.1B in 2018 & at the same time our exports fell from $25B in 2013 to a low of $20.3B in 2016 and slowly rising again to $23.3B in 2018 after devaluation by Miftah Ismail

Owing to lower exports and a sharp increase in imports Pakistan's trade deficit worsened from $15.7B in 2013 to $34.9B in 2018.
Current account Deficit went form $2.5B in 2013 to $19.9B in 2018.

So far I've covered PMLN's economic performance in from 2013 till 2018. I will continue this thread soon (with more yellow graph's) to try and explain to a common man what challenges this created for the incoming government in 2018.

(Continuation of the thread)

When PTI assumed power in 2018, Pakistan's Net Foreign Reserves held by the SBP had fallen to $7.2B after reaching a high of $18.1B in 2015. As the graph's above show, a sharp increase in imports and REER around 2015 and a decline in exports

Pakistan's Current Account deficit was at $19.9B in 2018, which means the country had less than 6 months of $ to meet its external payments and was at the verge of bankruptcy. We needed a bail out and we needed it quick.

Pakistan looked towards IMF once again for a bail out but IMF doesn't just hand out money, they ask you to correct the mistakes that brought you in the position where you had to seek a bail out.

Pakistan's biggest mistake was maintaining an over valued rupee and IMF asked Pakistan to adopt a flexible exchange rate instead of a fixed one.

This meant that rupee was to be devalued to bring the REER down.

An expensive USD meant that all our imports cost a lot more now and since we import a lot of necessities like lentils (daal) this created a very bad effect on all of Pakistan's population and reduced the buying power of a consumer in Pakistan.

It created a sharp increase in inflation and wages could not keep up with the increase hence reducing real wages.

To curb inflation SBP had to increase interest rate which also increased the cost of doing business.

To explain why SBP had to increase interest rate we need to understand that banks lend based on real interest rates not on nominal interest rates. Real interest rate is nominal interest rate - inflation. The next tweet gives an example of why that is.

Lets say bread costs Rs.100 & u come to me asking for a Rs.100 loan and promise to pay me Rs.105 next year (5% interest). A year later when you pay me back, inflation turns out to be 10% and bread is now 110. Even though you gave me more money than you borrowed...

...my buying power has gone down. I could buy bread a year ago but I can not buy bread now. This is why real interest rates need to be positive other wise banks would not lend money to anyone.

High interest rates also slow down business activity which contributes to bringing down inflation.

In other words we had to shut our whole economy down, fix the factors that were pushing us towards bankruptcy and start again.

This is a very painful process but lets not forget that we wouldn't have had to go through all this if we hadn't over valued the rupee to begin with.

If anyone tries to tell you otherwise just ask them how else could Pakistan have been saved from bankruptcy?

Now moving to the advantage of keeping the currency at its actual value.

First of all it decreases unnecessary imports while at the same time making Pakistani products more competitive in the global market, hence increasing exports.

A boost in the export sector creates more employment as more labour is needed to manufacture rather than importing goods. So not only does it result in wealth creation it also does a better job of wealth distribution.

This also increases our FX reserves and puts us in a better condition to honor our FX payments. Creating more stability and increasing the confidence of a foreigner to invest in Pakistan.

There are a lot more things which are too long to discuss in a thread. I will be making a more detailed video soon in Urdu. For now I am going to be writing another thread soon on how despite doing everything wrong PMLN managed to keep GDP growth high.

A thread that talks about high GDP growth rate in PMLN tenure: