ISSN 2278-5612

“Impact of Currency devaluation on Pakistan’s Economy”

Syed Abdul Sattar Shah,
Asst. Prof. IBA University of Sindh, Jamshoro,
Zahid Hussain Kazi
Assistant Professor-IBA-University of Sindh-Jamshoro
Dr.Ambreen Khaskheley
Assistant Professor-Deptt:of Economics
University of Sindh-Jamshoro
Faiz Muhammad Shaikh
Assistant Professor-IBA-University od Sindh-Jamshoro
Muhammad Shaoiab
Operation Manager-UBL-Jacobabad
Abstract
This Paper investigates the impact of currency devaluation on Pakistan‟s Economy. The Devaluation occurs in terms of all
other currencies, but it is best illustrated in the case of only one other currency. Any rising of the prices of such inputs
through devaluation, would raise industrial costs and reduce the intensity of capacity utilization.It examines that currency
devaluation has positioned Pakistan lose heavily both as seller and as a buyer and has made no good substitute for
remedial changes in economic policies and developmental planning.In Pakistan, industries are heavily dependent on
imported raw materials for industrial goods and capital goods and components, and their access to advanced countries is
blocked by quotas and tariffs. , any rising of the prices of such inputs through devaluation, would raise industrial costs and
reduce the intensity of capacity utilization.So, by examining devaluation in Pakistan it is concluded that it has always led
us to the cost push inflation and never ending cruel economic circle.There are so many solutions to resolve the currency
devaluation as appreciate the currency through Foreign Direct Investment, increase the export of goods in this situation
will lead to high cash inflows because there would be high demand push by the countries.

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Journal: International Journal Of Management & Information Technology

Vol . 10, No 5
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Introduction
When we talk about devaluation it means decreasing the value of nation's currency relative to gold or the currencies of
other nations. Devaluation of Pakistan rupee will mean devaluation of Pakistan labor and talent in the international market
evaluation will serve as a drug rather as a stimulant and cause an unprecedented inflation. The economic indicators
showed some visible improvement since the year 2001-02 and it continued to be so, which helped the authorities to turn
around the creeping devaluation and the rupee has stabilized in the range of rupees 59-60 per dollar till 2006-07, but after
that the currency has started devaluing since 2007 to date, in April 2008 it stands to rupees63.40 against a dollar and it
rose to rupees 94.52 till the end of last Government i.e. May 2013. It is a fact that Pakistani rupee was not stable even
before PML-N‟s era but as soon as PML-N came into power, the depreciation kept going on and even accelerated at
moments and Pakistani Rupee reached Rs 107 against USD till December 2013. Normally when this happens, if state
bank of Pakistan intervene and put out some US Dollars in the Market against Pakistani currency things settle down. But
in this case first no move was come from State Bank of Pakistan (SBP). Later on they did come in with a move to control
the value of depreciating Pakistani Currency but that long due move came on very late and it was just temporary measure.
So, by examining devaluation in Pakistan it is concluded that it has always led us to the cost push inflation and never
ending cruel economic circle. Long term plan is required which will supply us structure for having branded high valued
products, ample enhancement in quality and image of current exports and searching better fresh markets with sublime
marketing strategies. This would surely enhance our capability to reap the possible benefits from the currency devaluation.

Reasons:
There are so many reasons behind currency devaluation, in Pakistan; industries are heavily dependent on imported raw
materials for industrial goods and capital goods and components, and their access too many advanced countries are
blocked by quotas and tariffs. There are so many factors that cause currency crises to occur, i.e.
economic,political, corruption, etc. O n e o f t h e m a j o r a n d m o s t discussed causes of current crises is the ever-
th
rising price of imported crude oil, which hit close to a record $127 a barrel on May 15 ,2013. Another may be the gap
between aggregate demand and domestic supply isfilled by imports. The result is that imports grow more
quickly thanexports. Current account deficit goes up, which has to be financedthrough either falling
foreign exchange reserves or capital inflows.Capital inflows, however, may not be forthcoming because
of lack of trust in the country‟s financial situation. The Previous Government resorts to borrowing from
thec e n t r a l b a n k o r f r o m f o r e i g n e r s t o m e e t h u g e e x p e n d i t u r e s . Borrowing from the central bank
increased the inflation. High inflation is proved lethal for export, because it distorts prices.

Objectives:
1. How currency devaluation affects the Economy
2. Impact of currency devaluation on country‟s exports
3. To find the benefits of currency appreciation and FDI in the economic growth of the country.
4. To find the impact of currency devaluation on developing countries
5. Conclusion

1.How currency devaluation affects the Economy

Firstly there is expected to be an increase in Aggregate Demand. As Aggregate demand is equal to Consumption
investment, government expenditures, imports, and exportsif exports are cheaper, there will be more exports sold and the
quantity of imports will fall. If the economy is close to full employment level, then higher Aggregate Demand will cause
inflation.
Secondly, if there is devaluation, then there will be an increase in the price of imported goods. Imports are quite a
significant part of the RPI (Retail Price Index), therefore there will be cost push inflation. However, it is possible that
retailers may not pass the price increases onto consumers but have lower profit margins.
Thirdly, if there is devaluation, exports become less competitive without firms having to make much effort, therefore there
is less incentive for them to cut costs and therefore in the long run costs will increase and therefore inflation will increase.
However this may not occur if firms are well run and they keep incentives to cut costs.
A significant danger is that by increasing the price of imports and stimulating greater demand for domestic products,
devaluation can exaggerate inflation. If this happens, the government may have to raise interest rates to control inflation,
but at the cost of slower economic growth. Another risk of devaluation is psychological. To the extent that devaluation is
viewed as a sign of economic weakness, the creditworthiness of the nation may be jeopardized. Thus, devaluation may
dampen investor confidence in the country's economy and hurt the country's ability to secure foreign investment.
Another possible consequence is a round of successive devaluations. For instance, trading partners may become
concerned that devaluation might negatively affect their own export industries. Neighboring countries might devalue their
own currencies to offset the effects of their trading partner's devaluation. Such policies tend to worsen economic
difficulties by creating instability in broader financial markets.
Since the 1930s, various international organizations such as the International Monetary Fund (IMF) have been established
to help nations coordinate their trade and foreign exchange policies and thereby avoid successive rounds of devaluation
and retaliation. The 1976 revision of Article IV of the IMF charter encourages policymakers to avoid "manipulating

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exchange rates to gain an unfair competitive advantage over other members." With this revision, the IMF also set forth
each member nation's right to freely choose an exchange rate system.
Possible impacts of the devaluation on the economy could be the stimulation of merchandise exports, discouraging
merchandise imports and thus improving terms of trade, increase revenue collection and savings in repatriation of profits
and royalties by existing foreign investors, bringing illegal foreign exchange leakages into official channels and putting an
end to gold smuggling. Inflow of foreign capital can be improved by devaluation only if prices do not rise. It is supposed to
provide an escape from vexation import controls that prevent utilization of full industrial capacity, stifle export drive, bestow
monopoly profits on a few, inefficient market regulation and pressure on budget and domestic prices will sky rocket. The
obvious consequence of devaluation in the short run would be to worsen the balance of payment position and raise the
burden of Pakistan‟s foreign debt and debt service liability and foreign loans repayment would break the back of the
budget, which would in turn increases the trade gap. It will upset all the cost-price relationships in the economy, lead to
galloping inflation, and will stall many ongoing projects due to rising costs.
Persistent adverse trade balance and disequilibrium in balance of payment are the main causes, which compels a country
to devalue its currency. Major components of trade balance are exports and imports of a country. Adverse trade balance is
generally the result of slackness in exports in comparison to imports. It might affect exports prices and thus wipe out all the
edge that might be hoping to gain in the export markets through devaluation. The markets for Pakistan‟s traditional export
are inelastic, therefore devaluation may thus in fact give no big boost to their exports, because there is a small quantum of
value added exports and major requirement is based on export of raw material. Further the quality of export not
competitive in the foreign market. If an export -boom in agro-based industries does come about, the consequential
diversion of land from food crops will raise food prices and cause a rise in wages unaccompanied by any gains in
productivity. Moreover, most of the bigger enterprises will face increasing difficulties in loan repayments and the cost of
new industrial investments will shoot up sharply.
In Pakistan, industries are heavily dependent on imported raw materials for industrial goods and capital goods and
components, and their access to advanced countries is blocked by quotas and tariffs. , any rising of the prices of such
inputs through devaluation, would raise industrial costs and reduce the intensity of capacity utilization. Therefore, it shou ld
be avoided as a resort to deficit financing. Devaluation with its implications will cause a contraction in economic activity
and consequential slide down in income tax receipts will raise the burden of Pakistan‟s defense equipment, and foreign
debt overnight. It cannot stop smuggling as long as black- market transactions in foreign exchange continue. Devaluing
the Pak. Rupee means devaluing the price of Pak labor and talent in the international market that send foreign exchange
through home remittance. Devaluation will make Pakistan lose heavily both as seller and as a buyer and will make no
good substitute for remedial changes in economic policies and developmental planning. Devaluation of Pakistan Rupee
will mean devaluation of Pakistan labor and talent in the international market evaluation will serve as a drug rather as a
stimulant and cause an unprecedented inflation.
Bold steps must be taken to enliven capital market and more foreign aid procured. Strong disciplined should exercise over
all unproductive expenditure, whether it be public sector or private sector. Lavish spending of aid was bad enough, but it
would be even worse to raise the cost of debt repayment through devaluation, whose benefits in terms of larger foreign
investment are quite illusory.
Central exercise as well as sales tax receipts and custom duties should go down due to lower volume and high prices of
imported inputs resulting in cut-backs in industrial production.
So, by examining devaluation in Pakistan it is concluded that it has always led us to the cost push inflation and never
ending cruel economic circle. Long term plan is required which will supply us structure for having branded high valued
products, ample enhancement in quality and image of current exports and searching better fresh markets with sublime
marketing strategies. This would surely enhance our capability to reap the possible benefits from the currency devaluation.

1.Impact of currency devaluation on country’s exports

Devaluation is a natural process in the history of financial markets. All currencies witness their currency rates falling and
rising and if 10 British pounds were able to buy, say, 20 U.S. dollars a year ago, today the pound could be devalued and
its purchasing power would only be enough to buy only 15 dollars. In contrast to market devaluation, governments around
the world sometimes resort to devaluation as a tool to protect their trade balances. Thus, the local currency is forcedly
devalued and its currency rates against other major currencies are reduced while restrictions are often imposed preventing
the home currency from being exchanged at higher rates.
These types of government intervention in the foreign exchange market are a perfect example of official devaluation while
the natural market devaluation is often referred to as depreciation, a process when the currency rates fluctuate
downwards. In both cases, the country whose currency is devaluated could benefit from the lower cost of its export of
goods, which now are cheaper to buy by customers in countries whose currencies are stronger. The history of trade
recalls many examples of intentional devaluation with the purpose of conquering new markets through the lower currency
rates of the devalued currency.
One of the biggest devaluation waves in history was in the 1930s when at least nine of the leading world economies
devalued their national currencies, including Australia, France, Italy, Japan and the United States. During the Great
Depression, all these nations decided to abandon the gold standard and to devalue their currencies by up to 40%, which
helped revive their economies and stabilized currency rates.

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Meanwhile, Germany, which lost the Great War a decade earlier, was burdened to pay vigorous war damages and
intentionally provoked a process of hyperinflation in the country. Thus, the Germans witnessed the biggest ever
devaluation of their national currency and the currency rates hit rock bottom. At that time, the currency rate of the German
mark to the U.S. dollar stood at several million or billion marks per dollar. On the other hand, this devaluation helped the
German government in covering its debts to the war winners although the average Germans paid a disastrous price for
this government policy.
The governments around the world are often tempted to lower unnaturally the currency rates in order to benefit from the
lower value of the national currency. The lower currency value encourages exports and discourages imports improving the
country‟s trade deficit and imbalances. However, the average citizen of a country with a recently devalued currency could
suffer from higher prices of imported goods and overseas holiday costs.

Role of Exports to minimize devaluation

The effect of devaluation on the trade balance of the devaluing country runs in terms of the supply and demand conditions
in the devaluing country and in the rest of the world. It is presumed that the devaluation initially tends to reduce the foreign
prices of the country's exports in proportion to the devaluation. At these reduced prices, foreign demand for the country's
exports will be increased, thus tending to bid up the foreign prices of these exports part-way back toward their pre-
devaluation levels.
Shinzo Abe became Japan‟s prime minister in December 2012, he remarked “Central banks around the world are
printing money, supporting their economies and increasing exports. America is the prime example. If it goes on
like this, the yen will inevitably strengthen. It’s vital to resist this.”
Shinzo Abe‟s remarks summarized a prevalent theme in central banks‟ attempts to jumpstart their domestic
economies today - money printing. I prefer to call it currency printing since it is fiat currencies that are being
created out of thin air.
By: Vincent Tie
So how does currency printing support economies and increase exports? The Central banks at the command of their
governments are able to devalue their currencies by inflating their money supply. This is predominantly done by central
banks buying government bonds and other financial assets in the open market. Digital currency is credited into the
respective banks as payment for the purchases. These transactions inject currency into the banking system which then
flow out to the rest of the economy through banking activities.
As more currency circulating in the economy, price inflation in goods and services will inevitably rise since more units of
currency compete for the relatively same pool of goods. In other words, each unit of the currency now buys less. This
devaluation of the currency makes the exports of the country cheaper compared to other countries.
In Jan 2013, Abe announced a massive 10 trillion yen stimulus for the economy. The government would fund the majority
of this stimulus through the issuance of bonds. Now we know that these bonds will eventually be bought up by the Japan
central bank in their bid to devalue the yen.
In May 2013, the yen hit 100 yen to a dollar – an exchange rate last seen 4 years ago. The Japanese currency had
declined 20% in 6 months. For the Japanese consumer buying goods in the US dollar, they would now require 100 yen to
exchange for 1 USD instead of about 80 yen in Dec 2012. The Japanese consumer did not vote for the reduction of their
purchasing power. It was not their choice. It was an intentional act by their government hell-bent to devalue the currency
believing that it was the answer to spur the economy quickly.This route was the easiest for the Japanese politicians to
achieve quick results which can be broadcasted in the media when economic indicators show growth.

Its negative effects on other countries

Japan‟s monetary easing actions have also caused problems for other countries. The South Korean won appreciated
21% since Abe took office. Their exports declined as a result. Thailand also cut interest rates to curb the baht‟s
appreciation as a result of Japan‟s monetary policy. They too want to their exports to do well on the international markets.
Instead of competing based on innovation to bring better products and services to the market, currency devaluation is now
a means to get ahead of your competitors.
Today, competitive devaluation of currencies to spur economies is a beggar-thy-neighbor policy that is commonly adopted
by governments and their central banks. It is not sustainable and it also requires governments to go deeper into
debt. Japan is not the sole culprit every country that has a central bank today is involved in competitive currency
devaluation. They may call it by different nice-sounding names such as „quantitative easing‟, „loose monetary policy‟ or
„monetary stimulus‟ but they all point to the same thing – inflating and devaluing the currency.
So if you devalue your currency to favor exports, you must assume that your trading partner‟s economy is booming. If you
are assuming that devaluation will help your exports, you must realize that exports are dependent upon demand and cost
competitiveness. Both assumptions may fall short. Some feel that instead of opting for devaluation, is it a good time to
check current account deficit, Tax to GDP ratio, budget deficit, government expenditure, encourage Public Private
Partnership models and so on.
Devaluation of a currency has become very common in the present age. Countries facing financial strains due to
unfavorable economic conditions have no alternative but to devalue its currency so as to push up its exports earnings and

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simultaneously to decrease imports. Such countries usually officially decrease the value of their currency in relation to gold
as well as other foreign currencies
Developing countries who in general export primary goods encounter adverse balance of trade frequently. The reasons for
lagging behind their exports arethat they export primary goods, which faces severe competition in the international market.
It is interesting to note that competition in the world market takes place among developing countries only as they all
produce primary goods and export them. Simply it can be easily deduced from the standing facts that when a country's
exports remain stagnant and does not rise even after taking necessary steps for its promotion and whose imports continue
to rise dislocating the balance of payment position and widening the current account deficit are left with only one
alternative viz.devaluation of its currency to ease the situation. Such developing countries are in acute shortage of foreign
exchange reserves, which are needed for capital formation in the country.

3. Benefits of currency appreciation and FDI in the economic growth of the

country
An appreciation means an increase in the value of a currency. It means a currency is worth more in terms of foreign
currency.
Jan 2009 If £1 = €1.1
June 2012 £1 = €1.27
In this case we can say there was a 15% appreciation in the value of the Pound against the Euro – between Jan 2009 and
June 2012.

An example of an appreciation in the value of the Pound 2009 – 2012

Effects of an appreciation on the UK economy

Exports more expensive: The foreign price of UK Exports will increase Europeans will find British exports more
expensive. Therefore with a higher price, we would expect to see a fall in the quantity of UK exports.
Imports are cheaper: UK consumers will find that £1 now buys a greater quantity of European goods. Therefore, with
cheaper imports we would expect to see an increase in the quantity of imports.
Lower (X-M):with lower export demand and greater spending on imports, we would expect fall in domestic Aggregate
Demand (AD), causing lower economic growth.
Lower inflation: An appreciation tends to cause lower inflation because:
Import prices are cheaper. The cost of imported goods and raw materials will fall after an appreciation, e.g. imported oil
will decrease, leading to cheaper petrol prices.Lower AD leads to lower demand pull inflation.With export prices more
expensive, manufacturers have greater incentives to cut costs to try and remain competitive.

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Assuming demand is relatively elastic; we would expect an appreciation to worsen the current account position. Exports
are more expensive, so we get a fall in exports. Imports are cheaper and so we see an increase in imports. This will cause
a bigger deficit on the current account.
However, the impact on the current account is not certain:An appreciation will tend to reduce inflation. This can make UK
goods more competitive, leading to stronger exports in the long-term; therefore, this could help improve the current
account.
The impact on the current account depends on the elasticity of demand. If demand for imports and exports is inelastic,
then the current account could even improve. Exports are more expensive, but if demand is inelastic, then there will only
be a small fall in demand. The value of exports will increase. If demand for exports is price elastic, there will be a
proportionately greater fall in export demand, and there will be a fall in the value of exports.Often in the short term,
demand is inelastic, but over time people become price sensitive and demand more elastic. It also depends what goods
you export. Some goods with little competition will be inelastic. China‟s manufacturing exports are more likely to be price
sensitive because there is more competition.

Economics situation and currency appreciation

The impact of an appreciation depends on the situation of the economy. If the economy is in a recession, then an
appreciation will cause a significant fall in aggregate demand, and will probably contribute to higher unemployment.
However, if the economy is in a boom, then an appreciation will help reduce inflationary pressures and limit the growth
rate.
It also depends on economic growth in other countries. If Europe was experiencing strong growth, they would be more
likely to keep buying UK exports, even though they are more expensive. However, in 2012, the EU economy was in a
recession, and therefore was sensitive to the increased price of UK exports.It also depends why the exchange rate is
increasing in value. If there is an appreciation because the economy is becoming more competitive, then the appreciation
will not be causing a loss of competitiveness. But, if there is an appreciation because of speculation or weakness in other
countries, then the appreciation could cause a bigger loss of competitiveness.An appreciation can help improve living
standards – it enables consumers to buy cheaper imports.If the appreciation is a result of improved competitiveness, then
the appreciation is sustainable, and it shouldn‟t cause lower growth.An appreciation could be a problem, if the currency
appreciates rapidly during difficult economic circumstances.

Benefits of Foreign Direct Investment (FDI)

Foreign Direct Investment (FDI) acquired an important role in the international economy after the Second World War.
Theoretical studies on FDI have led to a better understanding of the economic mechanism and the behavior of economic
agents, both at micro and macro level allowing the opening of new areas of stud in economic theory.
Various studies on the subject of inflation, Foreign Direct Investment and growth have been presented. The majority of this
research work has been done internationally.Some of these important empirical studies have been critically reviewed to
develop objectives in the context of Pakistan and, further, to analyze it to draw some important conclusions and policy
recommendations.

Research on Foreign Direct Investment (FDI)

Falki (2009) conducted a study on the impact that FDI had on the economic development of Pakistan. The study included
data on FDI gathered from the Handbook of Pakistan economy of 2005. Data ranged from 1980 and 2006 and held
variables such as domestic variables, labor force and foreign invested capital. Falki used the endogenous theory of growth
and a regression analysis, Falki was able to conclude that FDI had a statistically negative effect on the gross domestic
product and foreign direct investment in the country. Similarly, Agarwal (2000) in his study found that the increase of FDI
in South Asian countries was in association with the exponential investment by local investors, providing evidence to belief
that the relationship between FDI and GDP and the influence of FDI on GDP was negative till the year 1980. In the
following years, early 80s, the link was mildly positive and strengthened over the years in the late eighties into the nineties.
In contrast, Adam & Tweneboah (2009), economists from Ghana, conducted an independent study on the FDI and stock
market development in the country concludes thatFDI in Ghana had a positive impact on the development of the economy
and the stock market. The examination included data of market capitalization as a proportion of the Local GDP and Ghana
cedi and Dollar exchange and the net FDI influx of the quarters between the years 1991 to 2006. With the use of
multivariate co-integration analysis and the Vector Error Correction Model., the study revealed that the relationship
between FDI and the Ghanaian stock market will be beneficial in the long run for the country.
An important study by Abbas et al. (2011) conducted an examination on the influence of FDI and CPI on the GDP's of
SAARC member nations. The study concluded that the general model in these countries developed a positive relationship
between ForeignDirect Investment and GDP while negative relationship between Consumer Price Index and GDP. This
conclusion was tested using the multiple regression models. The data of the SAARC countries ranged from the year 2001
to 2010. Wu & Chiang (2008) endeavored to find if FDI can facilitate economic development. The study applied the
threshold regression analysis. The empirical analysis concluded that FDI does play a defining role in the economic
development. This was found out after an analysis of data of 62 countries from the year 1975 to 2000. The study found
that FDI depends significantly on the initial GDP and human capital. This means that countries that have a significant GDP
and human prior to FDI showed a positive relationship. The study also showed that countries with a strong financial

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system are more capable of exploiting the potential of FDI. Through empirical analysis of the data between 1975 and
1995, it was found thatFDI had a greater impact in countries with a stable financial system.
The Study conducted in Pakistan by Shabir and Mahmood (1992) analyzed the relationship between foreign private
investment FPI and economic growth in Pakistan. The study used the data for 1959-60 to 1987-88; the study concluded
that net foreign private investment (FPI) and disbursements of grants and external loans had a positive impact on the rate
of growth of real GNP. However they did not treat FDI as a separate variable. Similarly (Ahmed, et.al, 2003) examined the
causal relationship between FDI, exports and output by employing Granger non-causality procedure over the period 1972
to 2001 in Pakistan. They found significant effect from FDI to domestic output.
The purpose of this study is to identify the main trends in FDI theory and highlight how these theories were developed, the
motivations that led to the need for new approaches to enrich economic theory of FDI. Although several researchers have
tried to explain the phenomenon of FDI, we cannot say there is a generally accepted theory, but new evidence adding
some new elements and criticism to the previous ones.
Foreign direct investment (FDI) is an integral part of an open and effective international economic system and a major
catalyst to development. Yet, the benefits of FDI do not accrue automatically and evenly across countries, sectors and
local communities. National policies and the international investment architecture matter for attracting FDI to a larger
number of developing countries and for reaping the full benefits of FDI for development. The challenges primarily address
host countries, which need to establish a transparent, broad and effective enabling policy environment for investment and
to build the human and institutional capacities to implement them.
Developing countries, emerging economies and countries in transition have come increasingly to see FDI as a source of
economic development and modernization, income growth and employment. Countries have liberalized their FDI regimes
and pursued other policies to attract investment.

Benefits
The overall benefits of FDI for developing country economies are well documented. Given the appropriate host-country
policies and a basic level of development, a preponderance of studies shows that FDI triggers technology spillovers,
assists human capital formation, contributes to international trade integration, helps create a more competitive business
environment and enhances enterprise development. All of these contribute to higher economic growth, which is the most
potent tool for alleviating povertyin developing countries. Moreover, beyond the strictly economicbenefits, FDI may help
improve environmental and social conditions in the host country by, for example, transferring “cleaner” technologies and
leading to more socially responsible corporate policies.
FDI has the potential to bring social and environmental benefits to host economies through the dissemination of good
practices and technologies within MNEs, and through their subsequent spillovers to domestic enterprises. There is a risk,
however, that foreign-owned enterprises could use FDI to “export” production no longer approved in their home countries.
In this case, and especially where host-country authorities are keen to attract FDI, there would be a risk of a lowering or a
freezing of regulatory standards. In fact, there is little empirical evidence to support the risk scenario.
FDI like “official development aid” cannot be the main source for solving poor countries‟ development problems. With
average inward FDI stocks representing around 15 % of gross domestic capital formation in developing countries, foreign
investment acts as a valuable supplement to domestically provided fixed capital rather than a primary source of finance.
Countries incapable of raising funds for investment locally are unlikely beneficiaries of FDI.

4.The Impact of currency devaluation on developing countries

The effects of devaluation on output growth in Less Developed Countries (LDCs) has played an important role in the
economic and political agendas of developing countries for several decades during which devaluation has been one of the
most frequently used policy tools under both
IMF-regulated and independent stabilization programs in these countries. Whether devaluation of the currency affects
national income positively or negatively has also received considerable attention among academic researchers. In order to
analyze empirically whether or not devaluation results in output contraction inLDCs, data from 18 sample countries are
used in a fixed-effect procedure. LDCs are divided into two categories and two different regression analyses are
conducted.

Investigation
First, data from a group of 10 countries, including both manufacturing product exporters as well as agricultural and primary
product exporters, are used to estimate a model of real output behavior for a period of 25 years. Then, to investigate if
thereexists a qualitative difference between different countries in terms of the effect of devaluation on economic growth,
data from two different groups of countries (8 manufacturing exporters, 8 agricultural and primary exporters) are analyzed
for a 20- year period. In addition to the change in real exchange rates, the role of monetary and fiscal policies, as well as
terms of trade changes, are incorporated into the model as the possible determinants of real output growth. The results
indicate that devaluation creates a contractionary effect on output in the first year, whereas it has an expansionary effect in
the following year. Also, the results suggest that there is no qualitative difference between manufacturing exporters and
agricultural exporters in terms of the effect of devaluation on output growth. Fiscal expansion (increasing relative size of
government expenditure) has a significant positive effect on output growth for all countries, regardless of their export

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composition. The effect of terms of trade changes on output is generally negative for agricultural and primary exporters,
but fluctuating for manufacturing exporters. Manufacturing product exporters have a higher output growth trend than
agricultural and primary exporters.
Broadly there are four schools of thoughts related to determine the relationship between Currency exchange rate and
Trade balance which are: the Marshal-Lerner, the J-curve, the S-curve and the direct method for devaluation prediction.
The Marshal-learner model is the extension of Marshal‟s model which stated that devaluation or depreciation of currency
makes export relatively cheaper and Import relatively expensive. Abba Lerner extended the work of Alferd Marshal and
added the concept of elasticity of demand for export and import of the goods. Lerner explained that if the demand for
export and import of the goods in a country is relatively price elastic then devaluation would positively affect the terms of
trade (Lerner, 1944). The J-Curve emphasize that effect of devaluation would emerge in long run because the volume of
export and import is unlikely to be affected in short run due to trade agreements and switching costs etc. therefore, in short
run devaluation may affect negatively.

Trade Deficit faced by developing Countries

The South Asian countries such as Bangladesh, Bhutan, India, Nepal, Pakistan and Sri Lanka have been experiencing
annual Trade Deficit since 1970s to date. Interestingly such Trade Deficit has been observed in combination with
continuous depreciation of their Currency with parity to US Dollar. Apparently this phenomenon appears to be in
contradiction with Marshal‟s theoretical frame work. Alfred Marshal stated that devaluation or depreciation of currency
makes export relatively cheaper and import relatively expensive, therefore devaluation may be an effective tool for earning
surplus balance of trade (Marshall, 1923). In this study we have applied the contribution of Abba Lerner. Abba Lerner
extended the work of Alfred Marshal with objective to apply the concept more practically under various scenarios. Abba
Lerner developed a condition that if the demand for import and export of a country is elastic then the objective of surplus
terms of trade may be achieved. If the demand for import and export is inelastic then devaluation would further increase
the deficit (Lerner, 1944).
Over the past three decades many Less Developed Countries (LDCs) have implemented economic stabilization and
structural adjustment programs under the initiative and supervision of the International Monetary Fund (IMF). As stated by
Khan and Knight (1981) and Doroodian (1994), a typical IMF stabilization program contains the following policy measures:
Real devaluation
01. Reduction in government expenditures and increase in taxes
02. Decrease in growth of domestic credit
03. Increase in domestic real interest rates.
The effect of real devaluation on output growth is therefore important for a country implementing this policy. Obviously,
devaluation does not have to be part of an IMF-guided stabilization program. Regardless of their level of economic
development, many countries have “resorted either voluntarily or by some coercion to devaluation as a key policy choice
for propelling economic growth. These countries embrace devaluation as a strategy that will result in increased output
growth and further development.” (Nwanna, 1994, p.70)
In other words, the issue of devaluation has long been a major item on the economic and political agendas of LDCs.
These countries needed todevalue their currency for a variety of reasons, including correcting the price distortions and
getting the right prices for the market forces to function properly, and changing relative prices of traded to nontrade goods,
hence increasing competitiveness in the foreign markets. As a result, it would be possible to decrease foreign trade deficit
and improve the balance of payments (BOP); and, above all, to achieve a viable economic growth.
Increasing the rate of growth of output is crucial foreconomic development. Output growth is essential for LDCs in order
toraise national income per capita, achieve higher standards of living for theirpopulation, and close the development gap
between themselves and the industrialized countries.
The Devaluation as a policy instrument is relevant especially in the context of misalignment. A variety of reasons could
lead to price misalignments in LDCs: government policies of high tariffs on imports;taxes on exports in some cases;
overvaluation of the currency associated with import substitution for industrialization as opposed to export promotion
policies; and restrictions on commodity as well as capital flows. As a result of some combination of these policies,
domestic prices deviate from world prices. Devaluation might play a key role in eliminating the market distortions and
correcting the price misalignment. However, since economic growth is indispensable, the question of whether or not there
is a trade-off between output growth and devaluation becomes a critical issue.
Within this framework, the objective of this study is to analyze the role of devaluation on output growth, which has been
part of the stabilization programs2 that many LDCs had to implement voluntarily or involuntarily in recent decades, and to
investigate empirically whether devaluation is expansionary or contractionary.
Given the fact that the agricultural sector has a significant share in the overall national income as well as being a major
source of employment for many LDCs, the link between devaluation,economic growth and agricultural policy is not a
puzzle. Growth in the agricultural sector contributes considerably to overall economic growth. Devaluation policy changes
the relative price of tradable goods to no tradable goods. As a result of devaluation, therefore, agricultural exports, hence
agricultural production, and total export earnings as well as overall output growth will be affected.

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The economic Policies
Another point that should be emphasized is perhaps the changing character of devaluation policies. Until the 1980s the
vast majority of LDCs followed fixed exchange rate policies. Starting from the late 1970s and early 1980s, however, many
LDCs switched from a fixed to a flexiblesystem as a result of a series of internal and external factors.3 for this reason, we
have to deal with not only devaluation, but also depreciation so long as the analysis covers the more recent years. But in
essence, devaluation and depreciation function in the same way, in the sense that they both change relative prices in
favor of tradable commodities. Therefore, the fact that some LDCs have switched to a floating exchange-rate system does
not create a major problem in terms of the focus of our analysis.
There was no serious controversy over the possible effects of devaluation on economic growth until the late 1970s. The
dominant view up to that period was that devaluation would improve trade balance, alleviate balance of payments
difficulties and accordingly expand output and employment. The mechanism behind these positive effects is that
devaluation switches demand from imports to domestically produced goods by increasing therelative prices of imports,
and makes export industries more competitive in international markets by stimulating domestic production of tradable
goods and inducing domestic industries to use more domestic inputs.
The economic policies directed towards affecting external balance and output by changing the composition of
expenditures are called expenditure-switching policies. One of the most frequently used policy instruments for
expenditure-switching policies has been exchange rate devaluation.
However, the consensus on this issue (i.e. the devaluation leads to output expansion) was broken at the end of the 1970s.
An alternative line of approach has emerged since, which has raised the possibility that devaluation could be
contractionary, especially in developing countries.
This approach is sometimes referred to as structuralizebecause it usually tends to consider the economic problems of
LDCs as “structural.”6 Contrary to the traditional approach, this view argues that devaluation is highly likely to have a
contractionary effect on output and employment, especially for LDCs. The channels through which devaluation might
cause a reduction in national output can be divided into two categories: demand side channels and supply side channels.
As these names suggest, channels in the first category are considered to be effective primarily on aggregate demand,
while those included in the second category are effective rather on aggregate supply.

Conclusion
The study gave me two results that how economy discourages with currency devaluation and way to appreciate the
currency. There are so many reasons behind currency devaluation; industries are heavily dependent on imported raw
materials for industrial goods and capital goods and components, and their access too many advanced countries are
blocked by quotas and tariffs. The m o s t discussed causes of current economic crises are the ever-rising price of
th
imported crude oil, which hit close to a record $127 a barrel on May 15 , 2013. Borrowing from the central bank increased
the inflation. High inflation is proved deadly for export, because it misleads prices.
If we examine devaluation in Pakistan it is concluded that it has always led us to the cost drive inflation and never ending
cruel economic circumstances. Currency devaluation has positioned Pakistan lose heavily both as seller and as a buyer.
Devaluation of Pakistan Rupee will mean devaluation of Pakistan labor and talent in the international market evaluation
will serve as a drug rather as a stimulant and cause an unprecedented inflation.
The Exports and Foreign Direct Investment do play a significant role to appreciate the currency. The impact of an
appreciation depends on the situation of the economy. If the economy is in a recession, then an appreciation will cause a
significant fall in aggregate demand, and will probably contribute to higher unemployment. However, if the economy is in a
boom, then an appreciation will help reduce inflationary pressures and limit the growth rate.FDI have led to a better
understanding of the economic mechanism and the behavior of economic agents, both at micro and macro level allowing
the opening of new areas of stud in economic theory.

Recommendations
Pakistan is facing various economic challenges. It shows that our country is in the list of under developed countries. The
major problem in Pakistan is increase in population which is directly effecting our economic growth.Today not only the
country is burdened with heavy debt, it has also reached a stage where it cannot simply move forward. Exports are not
satisfactory and revenue from taxation is not sufficient. Unemployment is rapidly increasing. The overall scenario presents
a dismal situation. This could be seen from the fact that many times a default situation emerged and it had to be faced by
making great sacrifices of national sovereignty Of course, due to higher rate of population. Conceived in this way a critical
look at Pakistan‟s economy, presents a gloomy picture.
We should increase our investments but due to less financial reserves this investment is not possible. If we want to
increase our investments for getting higher growth we should increase our savings for GDP to at least 20 percent,
especially when foreign investments are not involved.For accelerating the rate of economic development, there should be
political stability in the country. Export Promotion Bureau and Embassies/ High commissions abroad should explore
markets for Pakistan‟s products through trade shows, business delegations and international advertising. Moreover the
export base should be broadened by exporting software handicrafts, fresh fruits, vegetables, fish, livestock and flowers
etc. Suitable arrangements for processing or packaging of fish, fruits and vegetables should be made.The above
mentioned measures are hoped to stabilize the ship.

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Now the time has come that if we want Pakistan to rise up to that extent where the prosperity, integrity, solidarity and
economic stability will be all around, (then) every Pakistani will have to work as far as dedication in him lies. By working
with whole concentration and conviction we may achieve that much a strong Pakistan.

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