Pakistan's cheap rupee paradox
Reuters
According to The Economist's July 2026 Big Mac Index, the Pakistani rupee is 37.5% undervalued (up from 36.9% in January 2026) against the US dollar on a raw basis, or 19% when adjusted for GDP per capita. The gap between those two numbers is itself the story.
Pakistan's currency is cheap for the same basic reason China's, India's, Vietnam's, Taiwan's and the Philippines' are cheap: lower incomes mean lower costs for labour and other non-tradable inputs, so raw price comparisons overstate how "discounted" the currency really is. But even after accounting for that effect, a 19% undervaluation remains. Other Asian economies have weaponised this undervaluation aggressively into export competitiveness, but in Pakistan's case, we have not.
That is the paradox worth explaining. Not why the rupee is not fairly valued, but why a genuinely cheap currency has failed to buy Pakistan the trade advantage it has bought its peers. Instead, the country bears all the penalties of a weak rupee – cost-push inflation and eroded domestic purchasing power – without collecting any of the competitive benefit. It reflects a currency depressed by balance-of-payments distress rather than one working as a tool of trade expansion.
As per the Marshall-Lerner condition, currency depreciation only improves the trade balance if domestic export supply is price-elastic. That condition does not hold well for Pakistan at the aggregate level: demand for both its exports and its imports tends to be price-inelastic, so a cheaper rupee does not pull in proportionally more export volume or choke off import demand the way the textbook model assumes.
The reason lies on the supply side. In a well-functioning economy, the Balassa-Samuelson effect predicts that rising productivity in traded-goods sectors like manufacturing pushes up wages economy-wide, which then raises the price of non-traded goods and services. That is part of how successful exporters see their currencies appreciate over time as they develop. In Pakistan, this mechanism barely engages, because the traded-goods sector itself has stayed weak – held back by soft external demand, thin industrial growth and uncompetitive labour productivity – so there is little upward pressure to transmit in the first place.
Layered on top of that is the high cost of doing business: unreliable power grids, high industrial electricity tariffs and a persistently high policy rate. These costs eat into whatever wage advantage the weak rupee should theoretically provide, leaving exporters without the low-cost edge that an undervalued currency would suggest they have on paper.
Investment patterns confirm the pattern. Pakistan's investment-to-GDP ratio has hovered around 13-15% in recent years, roughly half the 25-35% sustained by industrialising peers like Vietnam. What capital does get deployed domestically leans heavily toward non-tradable, low-risk assets like real estate, rather than manufacturing capacity that could exploit the currency discount.
Divergent paths: East Asia vs Turkiye
Pakistan's peer group illustrates two very different ways this can play out. East Asian economies like Vietnam, China and Taiwan have used the price discount as an entry point into global value chains. They have paired cheap currencies with aggressive infrastructure investment, high savings rates and incentives for foreign direct investment.
However, trading partner Turkiye shows the opposite failure mode. There, domestic inflation has run so far ahead of lira depreciation that Turkiye's Big Mac price has flipped to an 11.1% premium relative to the dollar. The currency has lost its discount entirely, without any of it having bought lasting competitiveness first.
Pakistan risks combining the worst of both: enduring Turkish-style erosion of purchasing power, without ever building the East Asian manufacturing depth that would make the cheap currency pay for itself.
A contrast in crisis response
The pattern shows up in how the Chinese and Pakistani governments have responded to downturns. When Pakistan's real estate market has stumbled, the standard policy response has been tax amnesty schemes and more State Bank capital directed toward housing loans, hence fuelling another round of inflation in housing and allied industries rather than redirecting capital toward production.
China took a different path after its property market collapsed in 2021. Rather than propping the sector back up, Beijing redirected stimulus toward manufacturing by pouring investment into EVs, batteries, solar and machinery to offset the property slump. The results were stark: China's car exports rose from under a million units to roughly 10 million within five years, and import growth stalled while exports surged, pushing growth increasingly through trade surpluses.
With currency depreciation of a similar magnitude to Pakistan's, China converted that depreciation into local supply chains and manufacturing expertise, backed by heavy subsidies, state-directed credit and local-content requirements for new entrants.
By contrast, foreign automakers have been assembling cars in Pakistan for decades without building meaningful local supply chains – a gap that reflects policy choices in the sector as much as anything structural about the currency itself.
In a nutshell, currency devaluation cannot substitute for structural economic reform. Until policy addresses the energy sector's circular debt, broadens the tax base and redirects capital toward export-oriented manufacturing, a cheap rupee will remain a marker of financial fragility rather than a tool of trade expansion.
Unless broad structural reforms are taken to shift focus from consumption to manufacturing, no amount of devaluing the currency would prop up Pakistan's exports in the long run.
THE WRITER IS A CAMBRIDGE GRADUATE AND WORKS AS A STRATEGY CONSULTANT