THE preoccupation of exchange rate fundamentalists in Pakistan with a single, partial indicator — Real Effective Exchange Rate (REER) — is astonishing. As Nadeem ul Haque argued in an illuminating article, fixing or deliberately boosting exchange rates effectively ended with Bretton Woods’ collapse in the 1970s. Research has since confirmed that the exchange rate is a market price — the price of one currency in terms of another, determined by underlying economic conditions — and not a policy tool. Hence, the exchange rate is an endogenous variable reflecting domestic inflation, productivity, external balances, capital flows, reserve adequacy, fiscal credibility, interest-rate differentials, and market expectations. As Haque notes, “The rupee does not weaken because someone decides to weaken it. It weakens because underlying conditions make the existing price unsustainable.”

REER has a legitimate but limited purpose. It measures changes in the nominal exchange rate adjusted for relative price movements against trading partners. But an index reading of 100, based on a selected base year, doesn’t establish an optimal exchange rate. Nor does a deviation from 100 automatically signal overvaluation or undervaluation. REER says little about balance-of-payments sustainability, foreign exchange availability from non-trade sources or exporters’ ability to compete through quality, technology, productivity, and delivery. There are questions to address before treating REER as an authoritative guide to exchange rate policy.

First, does the base year 2010 represent an equilibrium exchange rate? Pakistan recorded a current account deficit of $3.95 billion, around two per cent of GDP, that year, compared with a near-balanced account in 2026. Second, have trade weights and trading partner composition remained representative over 16 years, especially after the........

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