SBP leaves interest rate on hold

In line with market expectations, Pakistan’s central bank on Friday left the benchmark interest rate unchanged at 7% for the next two months and signalled that the rate would remain at the same level in the next monetary policy announcement in March.

“MPC (monetary policy committee) has hinted at maintaining the key interest rate in the near term, at least in the next bi-monthly monetary policy due in March…and until the economy recovers back to full capacity,” said State Bank of Pakistan (SBP) Governor Reza Baqir.

“This should remove uncertainty from the minds of businessmen, industrialists and investors.”

The interest rate would not increase suddenly and substantially but gradually and time to time… after the economy recovered to full capacity, he said at a press conference held to unveil the monetary policy statement.

The SBP governor said Pakistan was close to resuming the International Monetary Fund (IMF) loan programme worth $6 billion that had been on hold since the Covid-19 outbreak in the country in February 2020. There is some confusion in business circles that the resumption of IMF programme will hamper business and economic activities.

“This assumption is incorrect,” he said. “Time to take tough decisions (on the economic front) has passed. Business community should realise that our economy has improved a lot compared to May-June 2019 when Pakistan entered the IMF programme,” he said.

He asked why an international financial institution like the IMF would bail Pakistan out and simultaneously destroy its economy.

“Rather, it (IMF) wants to help improve the economy so that we can easily repay its loans,” Baqir said.

The SBP has adopted the new global practice of giving hints about the next monetary policy. “Forward guidance…should address business uncertainties (regarding interest rate in the near future). The feature, however, does not factor in the unforeseen risks to business and the economy. Extraordinary situation may demand extraordinary measures.”

The State Bank left the benchmark interest rate on hold at 7% to ramp up economic activities while the inflation forecast stood unchanged at 7-9% for the ongoing fiscal year - 2020-21.

“The latest increase (of Rs1.95 per unit) in the power price and passing on the increase in international oil prices to local end-consumers are temporary phenomena,” he said. “There was no need to adjust the interest rate in the wake of increase in power tariff and oil prices.”

Besides, food inflation was being witnessed due to short-term supply constraints and demanded administrative actions rather than monetary actions. He said the Covid-19 pandemic was yet to end and it still posed risks to the economy.

The central bank governor stressed that the rupee-dollar parity had turned stable. The market-based exchange rate system, introduced in May-June 2019, has successfully passed the toughest test of Covid-19. The system has proved its strength.

He added that Pakistani currency had depreciated only 3.8% since January 2020 compared to 15-20% depreciation in currencies of emerging peer economies.

The exchange rate system and institutional reforms have helped to improve the external economy as they kept the current account in surplus in the first half (Jul-Dec) of FY21 while the country’s foreign exchange reserves improved to $13 billion compared to $7.2 billion in May-June 2019.

He said that the reserves had not increased due to foreign borrowing which was being utilised only to pay off previous debt.

“Net foreign borrowing stands at zero or negative,” he said.

MPC noted that since the last meeting in November 2020, the domestic recovery had gained some further traction.

Most economic activity data and indicators of consumer and business sentiment have shown continuous improvement.

As a result, there are upside risks to the current growth projection of slightly over 2% in FY21. MPC noted that financial conditions remained appropriately accommodative at the early stage of recovery with the real policy rate in slightly negative territory on a forward-looking basis.

Private sector credit has recorded an encouraging uptick since the last MPC meeting driven by a continued rise in consumer and fixed investment loans on the back of SBP’s refinance facilities.

As demand recovers and inventories fall in some sectors, working capital loans have also picked up for the first time since the onset of Covid-19 pandemic, although their level is lower than last year.

Inflation pressures have eased since the last MPC meeting despite an upward adjustment in fuel prices. After remaining close to 9% in the preceding two months, the headline inflation fell to 8.3% in November and further to 8% in December - the lowest rate since June 2019. This decline is mainly attributable to the easing food inflation.