The state of the Pakistani Economy – part ii
(This post follows on the comments made in my previous post “The rise and fall of the Pakistani Rupee“)
Entrepreneurs are the most irrational of all creatures. We see hope and optimism, when the rest of the world sees doom and gloom. While our internal outlook at times may turn to despair (we never have enough cash), our external outlook is always positive (you can’t short optimism and work for yourself). In the long run we always expect to make money; in the short run, every now and then, we lose our shirts.
Having now qualified my opinion, here is my outlook on the Pakistani Economy. In the long run, if we stick to it, we will all make money; more than enough to compensate us for the minor inconveniences we face for working in a country whose official motto is “we are in the news again.” In the short run, there is going to be pain and suffering.
Let’s take a closer look on this anticipated pain and suffering.
The political outlook is uncertain. The political outlook has been uncertain now for more than 18 months. Technically speaking it has been uncertain all the way from 1948 when Mr. Jinnah died inconveniently for all of us. Since that day in September, things have never been really clear on this front. Let’s not expect that our national character which has held true now for more than six decades will suddenly change for the better. But then this is just one more variable that we have all learnt to live with. Once we accept that it become easier to manage. Don’t get me wrong; it is inconvenient; it is irritating and it is really bad for business. But if there is not much that you can do to control it, you shouldn’t let it nitro your blood pressure.
The primary impact of an uncertain political outlook is an uncertain economic outlook. The uncertainty doesn’t short circuit the economy but it certainly makes everyone rethink their investment preferences. Cash gets pulled out and converted into more liquid and portable instruments. Investment decisions get deferred and delayed and that big colossal purchase order you were counting on to make your yearend numbers doesn’t close. Capital inflows reverse and turn into capital flight. If it was capital you were counting on you can wave it goodbye.
But the core economy still chugs on. 160 million souls have to eat, drink, work, commute and consume. Somebody has to feed and clothe them. If you are part of the core economy, you survive. You are stretched but you make enough to put food on the table. Exotic vacations are out; austerity is in and if you can still quote a stable price in rupees for something that everyone needs, you are hot.
Inflation is at a 10 year high. Have you ever really thought about where does inflation come from and who does it really hurt? Inflation is an indirect, misunderstood government tax that the government uses to depreciate its liabilities. And the biggest chunk of government liabilities is the money it borrows in the form of long term bonds and savings certificates. So if the government borrowed a 100 rupees from you and inflation is running at 25% a year, effectively the government needs to only pay back 75% of the amount borrowed not the full 100. Of the many sources of inflation the most common in our economy is liquidity and excess cash generated by printing of notes by the government. This happens when we don’t bear our fair share of taxes and there literally isn’t enough money in the coffers in Islamabad to cover expenses.
How and where do you hide undocumented gains? Amongst other tools, you buy bearer bonds (a no questions asked money whitening/cleansing instrument), national savings certificates, you keep liquid cash under your mattress and stay away from asset classes that document your invisible wealth or lock you down for good. And where does inflation hits the hardest? That is right, liquid and portable instruments in the local currency. If you bought real estate, gold or diamonds you are safe from inflation but create a security or liquidity (true for real estate) nightmare. Historically speaking if you bought foreign currency you could save part of the pain, but with the entire globe suffering from an economic meltdown and rising prices, it is no longer such a sure bet. To this add the woes of a depreciating dollar and you have a double whammy.
If you had been sleeping over mattresses full of currency notes (any denomination) the government just stole a full 25% with a tool called inflationary adjustment.
To be fair, there are other buyers of long term bonds and liquid instruments (widows, trust funds, pensioners, employee benefit plans and insurance companies) who suffer side by side with the first category. But inflation steals equally from the poor and the needy as well as from the crooked. It is the only universal tax from which you cannot run or hide or cheat. It works. This is why it is so popular in developing countries and emerging markets.
The only way to fight inflation is to invest and build businesses that create real assets and inflation adjusted capital.
The rupee is at historic lows. There are a number of reasons why we are in such deep dodo right now on the currency front. To begin with we have had a terrible year. Imagine if immediately after the 2000 elections the tiff between George W. Bush and Al Gore over Florida had run all the way into September 2001. Besides the fact that we would have been sitting in a completely different world today, it wouldn’t have done wonders for the US economy. A much smaller tiff between President Clinton and the US Congress caused delays in the approval of the federal budget and effectively shut the US government down.
We have had more than our fair share of these tiffs. First our new Finance minister within a few weeks of his arrival went off and settled his score with the previous government by announcing to the world that the Pakistani economy had been a smoke and mirror show (effectively the US Treasury secretary standing up and proclaiming that you should sell the US dollar). There went a decade of stability and any impression of growth and future prosperity. By the time he left and the powers that be woke up the rupee had already breached the magic number of 70 to a dollar. Once you remove currency stability and create doubts about your intentions to defend your currency you open up flood gates of capital flight and lockdown capital inflow. When the central bank tried to defend the rupee, it was second guessed and resisted at every step. Policy debates and conflicts were not uncommon in the last ten years but they were never as counterproductive as they were in the last three months. We then fell to our traditional diplomatic resort of asking everyone in sight to come and help us with our balance of payment issues.
To be fair the one thing the gentleman in question did get right was the issue of removing fuel and grain subsidies. This is the brightest thing any government in Pakistan has ever done, including the one run by our ex premier, Mr. Shaukat Aziz.
Today the rupee stands at 75 and there is not much that we can do about it as individuals, other than not converting everything we own into a foreign currency account. If you are concerned about the falling rupee or inflation do yourself and us a favor and invest in a real asset in Pakistan that adds to national productivity and contributes to the overall GDP. You are a smart individual; I will leave what you buy up to your imagination.
Now that the Rupee has fallen what does that mean for you?
Well, despite my love affair with a stable currency the classical defense to a Balance of Payment problem is a sharp revaluation of domestic currency. Theoretically this is supposed to curtail imports and give a boost to exports.
The export numbers for June 08 and July 08 both indicate that as far as exports are concerned we have seen a sharp pickup. Exports in these two months came in at nearly two billion dollars each; implying that if all bodes well we may see a year-end export number of 24 billion dollars. We also saw a decline in the total import bill (from over 4 billion a month to 3.5 billion) reducing the monthly trade gap from 2 billion dollars a month to 1.6 billion dollars a month. Remittances for July 08 clocked in at 627 million dollars (7.5 billion dollar annualized rate) growing at 26 plus percent year on year. The best news however has been the sharp decline in oil prices from the peak of 147 to 113 dollars per barrel. Combine these two factors with the Pakistani Saudi oil facility and the overall outlook for the rupee is not all that bleak. Of the projected 19 billion dollars of trade deficit, 7.5 will be offset by worker’s remittances, 6 by the Saudi oil facility, and another 2 or 2.5 by the allied total of capital inflows, privatization proceeds and balance of payment support from aid agencies. At best we will be left with a gap of 3 billion US dollars, at worst a number hovering around 6.
It could be better if exports and workers’ remittances grow at a faster clip and worse if the slowdown in imports and the decline in oil prices turn out to be temporary.
Does that mean that the rupee will stay at 75 to a dollar, lose or gain value? I will take you back to my original post on this subject. Not much has changed in the last four months for me to revise that opinion.
Last words. My objective is to not deny or make light of what has happened or what will happen. It is to just restore perspective. We are in a bad way, so is everyone else. This is temporary, not permanent. This has happened before, it will happen again. Remember that at heart you are a nation of commodity producers (grains, cereals, fruits, milk, ore, coal, cement and cotton) in a rising commodity prices world. If you think a dollar deposit will save you from an inflationary bite, think again.
As Jamshaid Khan of OPEN said the other day, a recession is the best opportunity for you to expand since you are the only game in town. Go forth and expand.
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August 14, 2008
Tags: Currency Crisis, Economy, Exchange rate, Pakistan, Rupee Dollar parity Posted in: Desi Back to Desh, Desi Startup, Pakistan, entrepreneurs
9 Responses
Nice post – and the May 08 post was even nicer i’d say.. opened up eyes for me – one of those who are uncertain about many things Pakistan – and now i agree, things that look like ‘gone bad’ have always been around – and might always be around.. so I’d probably run back to my village and become a friend to one of my farmer cousins (how greedy of me)!
In Feb, I asked my partner in crime in Khi to sell every thing and convert it into $ but he did not listen to me, we are 25% down in 6 months … woulda, coulda,shoulda. Lost opportunity
I see $ going 80-82 in next 6-9 months and 90 in next 18 months if world wide economy hits recession.
Never ever make your investment based on your love ….
Think once again, you could have gained 25% in last 6 months ….
Dear Obi
I agree with you on principle that an investment decision should not be based on emotions.
However, there are other ways of protecting your investment and capital than just buying or selling US dollars or pounds. The $ will strengthen till November and then drop again post November. If you are an FX trader, that works well but if you don’t do this for a living, you could end up buying when the market is in complete and total panic as well as sell in midst of one too. I think the key question is if you view your business as a short term trade or a long term investment? What you decide to do depends on this classification.
If you are on the long side, the real assets you own appreciates with currency changes. If the business owns an office, three civics, one 50KV generator and 15 laptops, as the dollar appreciates, the value of these assets goes up also. The 25% gain you spoke about is built in. You drop and take a hit when rather than hard real assets, you own liquid cash.
As a business you can’t operate on liquid cash. And when you finally decide to stop being a trader and settle down, you have to buy these real assets again at their new inflated levels and pay the new increased transaction costs. Ultimately the friction involved in buying and selling will eat into your gains.
All I am advocating is that rather than buying dollars that will not contribute anything to domestic productivity, buy real assets that allow you to protect yourself over the long term as well as help us become more productive as a nation.
Jawwad, I am in US and I have always thought to invest some money in Pakistan but I had only two choices, KSE or real estate. I had no grip on KSE and I was not sure that it was fair market so I did not opt for that. The other choice was real estate but then I knew it would not contribute any thing to society but rather increase houses value for natives so I did not go for it. But now if I plan to buy same house in Karachi then I would get 25% discount due to currency devaluation and 10-15% due to political situation (it would get worse now) so instead of paying 1 crore for house, effectively I would be paying 70 lacs for that house. You talk about increasing value of your assets but your real asset your property has gone down 25% if you have no foreign reserves.
If one is so certain that dollar would go up till US election then why he does not make swing trade and go long now and short $ in Nov.
The forex market does not deal with whole nos for couple of months. Do you really think that some international trader wants to buy up Pak currency. And we have seen in past once dollar has gone up then it always remains there except the time when Mush took over the govt and after 8% of GDP increase for several years, he was able to bring it down from 68 to 60 and sustained it.
We will see but it is not my idea to go long in any Pakistani market right now. Just give Sharifs and Zardari 1-2 more years and see the effects. They would bring down the economy. Oil down from 147 to 113 but we still see 86 and we would keep seeing them unless oil goes below 100. Govt knows it’s easy money and people are getting used to of paying 86 per liter for it so why decrease it.
Dear Obi
You are on the money again. But there is one area where we differ – investment horizon.
If I own real estate as an investment, then yes you are right. But if the office property I own is also being used as an office by my business, then I continue to received a rental yield against it. In real terms, value has gone down but the rental yield has gone up. if I am based here in Pakistan and expect myself to be based here for the next five – twenty years, I see this as a blip. No pundit on the street gives the current government more than 2 years in office.
As an outside investor, my outlook would be very different. My primary worry is capital loss and the opportunity cost of missing out on investing in assets in other economies where the risk return trade off is better. That leads to only one rational outcome – liquidation.
As a local resident and business owner my pimrary outlook is riding the current storm and surviving in better shape than the competition. In that outlook the only irrational outcome is liquidation.
And btw, the dollar slid 4% in the kerb market against the rupee, post the presidential news yesterday and will slide another 3% – 4% today depending on how much panic there is in the kerb market.
Why it did this is another story for another post, but it goes to push the old trader lore “Bulls make money, bears make money, pigs get slaugthered.”
I agree with your last quote but I know some people who sold their houses in US because they saw what was coming down to them. They all can re buy their old houses with 10-15% discount but right now they are waiting to find the bottom. I guess it needed courage to sell their primary house but then in US, buying house is not as hard as Pakistan so people could afford the risk even if they were proved wrong.
I guess the way housing has gone high in Karachi, the rental yields were never proportional to the property prices. I do not think [I could be wrong here] the people who were paying 10K as rent are paying 40K for rent in 2008 for same place. My assumption is that house prices have gone 300% up since 2002.
I paid 80,000 a month for 2 years renting a portion of a 400 square yard bunglow off Tariq Road. Total covered area was 3000 sqft. I am now paying about double the amount for 6000 sqft. I have other peers who are paying some where between 200 – 250K a month for 6000 sqft.
Rents on existing property have been stable and move in 5 year cycles. 5 years ago when I came back you could get good location commercial and residential properties (for office use) at 10 – 15 rupees per sqft. For new high profile projects it went all the way upto 100 -120 rupees per sqft but should come down now.
You’re right on the money regarding investing in productive assets (stocks, bonds, real estate etc). My Mom bought her house in Karachi a few months before the debacle in1971and everyone thought she was nuts. Thanks to that house my siblings and I had a roof over our heads and thanks to that house (and her subsequent investments) my Mom still lives independantly and can stand financially on her own. I know that being a US citizen who has no stake in Pakistan I can afford to be somewhat blase about this, but odds are that things in Pakistan will eventually stabilize, the only fallback you need is for you and your family to have visas to leave in case things really get out of hand.
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