Monetary policy statement

Announcement by the central bank, snipping interest rate by another quarter of a percentage point, surprised everyone

Many analysts felt that the benchmark interest rate had bottomed out, but the announcement on May 21 by the central bank, snipping it by another quarter of a percentage point, surprised everyone. In its monetary policy statement, the State Bank of Pakistan (SBP) dedicated quite a lot of text to rising inflation and the continued upward pressure on the Consumer Price Index as oil prices start to rise. Hence, a cut in the interest rate, while minute, still comes across as contradictory. The announcement surprised the stock market, which saw banking shares plunge at the start of trading on May 23 after they had rallied over the past few weeks on account of rising inflation, and left most searching for a reason for the cut in the interest rate.

The monetary policy statement painted a rosy picture, where expansion in industrial and services sector would “salvage some of the lost momentum” due to agricultural slowdown. It mentioned increase in foreign exchange reserves and improved trade deficit, but also pointed out the increase in oil prices. These oil prices, the fall of which has already aided Pakistan, have risen almost 70 per cent since they bottomed out. With exports continuing to fall, the trade deficit is likely to worsen from now on, putting pressure on Pakistan’s foreign exchange reserves. The SBP may have managed to convey good news so far, but the next few months are going to be crucial — especially as the IMF programme ends and inflation starts to rise. With such an outlook, the decrease in the interest rate makes little sense. Some believe that the rate has been cut since the government has to retire its debt this year and wants the cost of it to go down further. There is also a feeling that the rate has been cut to spur some sort of growth — the target of which has been missed again — using a monetary tool as fiscal constraints are holding the government back. But all these are conjectures. The one thing we can be sure of is that the decision has surprised everyone and is meant as a short-term tool to achieve what the government wants. The SBP’s autonomy definitely comes under some doubt here.

Published in The Express Tribune, May 24^th, 2016.

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