Pak-China currency swap - a cure for dollar dependency
Experts have agreed that once the currency swap agreement between China and Pakistan comes into full force, it will significantly lift pressure off the foreign exchange reserves and the dependency on the dollar will decrease.
Pakistan and China originally signed the currency swap arrangement in 2011 to promote bilateral trade and investment and strengthen financial cooperation. According to the pact, Pakistani importers were allowed to pay for Chinese goods in local currency.
In 2018, the State Bank of Pakistan (SBP) announced extension in the currency swap arrangement under CPEC and the two countries decided to use it for bilateral trade.
According to the central bank, the objective of the currency swap agreement is to promote bilateral trade and finance direct investment between the two countries in the respective local currencies.
Speaking to The Express Tribune, Sustainable Policy Development Institute (SDPI) Executive Director Abid Qaiyum Suleri said when the agreement is implemented in full spirit, then payments of all imports of Pakistan would be done in yuan instead of dollars.
According to him, this action would bode well for the current account of Pakistan, which is calculated in dollar terms.
Alpha Beta Core CEO Khurram Schehzad said trade in yuan would definitely help ease pressure off the foreign exchange reserves and the dollar in the short term. He was uncertain whether it would continue in longer run or not.
“Our trade volume with China is significant. In fact, Beijing is Pakistan’s biggest trading partner occupying a share of 18-20% in total trade,” he said.
Harshly, the total bilateral trade of Pakistan and China amounts to around $18 billion on an annual basis.
Impact on rupee
When currency swap agreement will be fully implemented and trade with China starts completely in local currencies, volatility in rupee against the US dollar will drop, said Schehzad.
Talking about the effect of currency swap agreement on yuan, he said there will be more or less no effect.
Schehzad added that according to the pact, the limit for exchange of local currencies of the two countries is set equivalent to $3 billion.
When trade in yuan kicks off, dollar requirement of Pakistan will experience a marked drop because 18% of the trade (around one-fifth) will take place without dollar involved.
“China wants to promote yuan and it will turn out to be beneficial for Pakistan,” he said.
However Suleri projected yuan to appreciate against the rupee once the agreement comes into effect citing that balance of trade is in favour of China.
“However on an international level, yuan will remain stable,” he said.
Referring to volatility in dollar during the past few days, he said it depreciated significantly on an international level but still it remained strong against the rupee.
He expects similar appreciation of yuan against the local currency while yuan is expected to maintain its ground on an international level.
It is pertinent to mention that back in 2011, Pakistan also signed a currency swap agreement with Turkey, which became operational on September 4, 2012.
The three-year bilateral currency swap arrangement between the State Bank of Pakistan (SBP) and the Central Bank of Republic of Turkey (CBRT) amounted to $1 billion in equivalent local currencies.
Back in 2018, then ambassador of Iran to Pakistan Mehdi Honardoost had highlighted that currency swap agreement between the two countries was in process
Financial collaboration
Lately, Pakistan has stepped up its efforts for financial collaboration with China. At the start of 2020, HBL became the first Pakistani bank to begin operations in China, news that was cheered by the Pakistani and Chinese side equally.
Suleri said such banking channels would help Pakistani exporters seeking to send shipments to China. He stressed that the main hurdle faced by exporters with regard to China is documentation and language due to which traders faced difficulties to fill in the paper work.
He expressed optimism that establishment of banking channels between the two countries will help overcome this hurdle faced by Pakistani exporters.
On the other hand, Schehzad was of the view that financial collaboration as well as bilateral banking channels would also assist Pakistan in dealing with Chinese businesses and parties willing to invest in the country.
Moving on to exchange of financial services between the two countries, he said the availability of each other’s currency would be made easier.
“This way, yuan will be easily and widely available in Pakistan,” he said. “In future, enterprises would not face the trouble of arranging yuan because it will be easily accessible.”
He added that to enhance collaboration under CPEC, China needed rupee while Pakistan needed yuan.
He was optimistic that exchange of banking channels will help improve relations between the two countries further and termed it an encouraging move.
On the other hand, the Export-Import Bank of China (Exim Bank) is helping execute multiple projects under CPEC including Multan-Sukkur Motorway, Karakoram Highway up-gradation and cross border Pakistan-China Fiber Optic Project.
On multiple occasions, senior officials of the Exim Bank have voiced hope that projects being implemented by the bank under CPEC would help Pakistan to achieve its development goals.
They also said that with regard to investment, Pakistan had become one of the top-trading partners of Exim bank and vowed to continue supporting Pakistan.
Other financial instruments
In December 2018, the federal cabinet had approved the issuance of Pakistan’s first renminbi-denominated bonds, known as Panda Bond, to raise loans from Chinese capital markets.
The decision to launch the Panda Bond had been taken to gradually move towards giving the Chinese currency status on a par with that enjoyed by the US dollar.
“Through the currency swap agreement, Pakistan can also invest in yuan based bonds,” said Suleri. “If we buy yuan based international bonds, pressure on dollar will decrease.”
Late last year, the Pakistan Stock Exchange (PSX) signed a contract with Shenzhen Stock Exchange (SZSE) for the acquisition of trading and surveillance systems to bring PSX at par with other international stock exchanges.
The move came as part of technological cooperation between Pakistan and China which is said to be helpful in elevating the image PSX vis a vis other developed exchanges around the world.
Talking on the development, Schehzad said the alliance was a step in right direction because it will enhance business collaboration and cooperation between the two countries.
“China is a huge market and offers a big pool of consumers to Pakistani investors,” he said. “While it is Pakistan that needs money, China needs capital and the two countries are on way to create a win-win condition.”
SBP’s additional efforts
In order to further strengthen the trade channels and remittance flows in Chinese yuan, SBP also allowed Bank of China (BOC) Pakistan to establish a local yuan settlement and clearing setup in Pakistan in 2018.
This settlement and clearing mechanism is expected to reduce costs and increase efficiency for the local banking system in transacting in yuan, enhance market liquidity and facilitate settlement of growing trade and investment transactions between China and Pakistan in Yuan.
SBP expected this initiative to yield long-term benefits to China-Pakistan relationship in general, and Pakistan’s economy and banking system in particular.
Moreover, the central bank also allowed Bank of China to open yuan dominated accounts of the banks operating in Pakistan to facilitate settlement of yuan based transactions such as remittance to and from China.
The SBP also empowered the Bank of China to provide yuan based liquidity to the interbank market for the settlement of yuan based transactions.
In 2015, the Industrial and Commercial Bank of China Limited (ICBC) Pakistan gained approval from SBP to offer similar services as well.
Capital market
In 2017, a Chinese consortium including China Financial Futures Exchange Company Limited, Shanghai Stock Exchange and Shenzhen Stock Exchange, has acquired shareholding a total of 40% stake in PSX at Rs28 per share.
Last year, the same consortium devised a strategy to transform the bourse into a world-class capital market, which would automatically give a boost to the national economy.
Both the Chinese and Pakistani shareholders reached a conclusion that they should transform the PSX in the next two to three years
In an effort to attract more foreign and domestic investment, Chinese and Pakistani shareholders also reached advanced stage of getting a Pakistani product – exchange-traded fund (ETF) – listed at one of the Chinese stock markets.
Initially, the ETF aimed at purchasing stocks listed at the KSE-30 share index and deposit them with a custodian in Pakistan.
Later, Chinese asset management companies would sell ETF units in their respective markets. Simultaneously, the units would remain available for trade at a Chinese stock market like a listed firm.
Cross-border listing is one of the three major areas that Chinese strategic investors are committed to developing at the PSX. Two other areas of attention are transfer of technology and developing new products, which are in progress.
Everything was in place and ready in China to launch the ETF however the strategy hit a snag due to hurdles presented by Chinese Securities and Exchange Commission.
Chinese individuals cannot freely invest in overseas stocks like buying Pakistani stocks hence the project has come to a standstill. Nevertheless Pakistani side has time and again raised this issue with China and expects it to resolve the problems to create a win-win situation for both nations.
The writer is a sub editor of the business desk