In ‘normal’ times, annual changes in exchange rates are typically relatively small, and can be either mitigated or largely absorbed by carriers.
The global airline industry body has warned that Pakistan has become “very challenging” to serve with flights as carriers struggle to repatriate dollars, adding to difficulties for foreign companies operating in the crisis-hit country.
Pakistan is suffering from an escalating financial crisis, with low levels of foreign reserves leading to shortages and rising prices of essential goods. Companies are contending with delays in importing or converting currency, warning continue that the country is at risk of default.
Airlines which sell tickets in local currency but need to repatriate dollars to pay for expenses such as fuel, have been hit particularly hard. IATA (the International Air Transport Association) said $290mn of funds were stuck in the country as of January, the most recent data available — up nearly a third since December.
Pakistan is holding the second-largest amount of foreign currency from airlines globally, after Nigeria.
“Airlines are facing long delays before they are able to repatriate their funds,” said Philip Goh, the IATA’s Asia-Pacific head. “Some airlines still have funds stuck in Pakistan from sales in 2022.”
Goh said: “If conditions persist that make the economics of operation to a country unsustainable, one would expect airlines to put their valued aircraft assets to better use elsewhere.”
Virgin Atlantic recently made the decision to cease its services in Pakistan after a little over two years of operations due to economic factors. Although the carrier had faced challenges in repatriating funds, it was ultimately the route's financial viability that prompted the suspension of flights.
The foreign reserves of Pakistan are currently at around $4bn, which is sufficient to cover only one month's worth of imports. While import and currency controls had been strictly enforced in the past, they were largely lifted this year in an effort to revive a $7bn bailout by the International Monetary Fund (IMF). However, there is a significant backlog of dues to be cleared after these restrictions were lifted, causing delays in securing certificates to convert currency with local banks.
According to Pakistani officials, payments to airlines have been made since the currency restrictions were lifted, but there are other pressing challenges, such as financing food and medicine imports. The impact of these challenges is not limited to the aviation industry, as other sectors such as automotive manufacturing have also been affected.
Companies such as Honda, Toyota, and Suzuki's local units have had to halt production due to these challenges. Additionally, some investee companies are finding it difficult to pay foreign contractors like consultants.
Emirates last year suspended flights to Nigeria, which has blocked more airline funds than any other country.
Strong appreciation of the US dollar over the past year or so has been felt more widely; indeed, as a result, many airlines’ USD-denominated costs have risen by 10%-15% on average in local currency terms.
Vietnam Airlines started 2023 with a report that the airline lost $430mn in 2022, blaming rising fuel prices and foreign exchange volatility. The airline reported that overall expenses were 3.6 times higher than the same period in 2021. Last year saw Vietnam Airlines reach 70% of pre-pandemic revenues compared to 2019.
The airline's balance sheet states that Vietnam Airlines' short-term liquidity pressure is growing. Concluding 2022, the national airline held $5.2mn in short-term assets, including $1.45mn in cash liquidity. Short-term debt totalled $2.26bn, including short-term financial lease debt at $750mn.
Changes in exchange rates can also influence airline supply decisions.
In the airline industry, capacity in the short run is essentially fixed. Airlines may be able to respond to relative price shifts (and the associated consumer demand response) at the margin by changing the gauge of aircraft on a particular route or via strategic cancellations, for example, but these actions will not fundamentally change supply. Instead, an airline is more likely to adjust its pricing schedules, rather than capacity, to rebalance supply and demand.
In the longer-term, a permanent (and significant) shift in exchange rates may be a relevant consideration to network planning or aircraft investment decisions. However, this effect is likely to be easily outweighed by more fundamental considerations including the expected level of future demand and corporate strategy decisions.
Exchange rates would typically be considered in the context of a sensitivity analysis rather than being a primary driver.
The author is an aviation analyst. Twitter handle: @AlexInAir
