SBP cuts policy rate to 16-month low

In a bid to stimulate economic growth, Pakistan’s central bank has reduced its key policy rate by 100 basis points, bringing it to a 16-month low of 19.5%. This move aims to support economic expansion within the range of 2.5-3.5% for the current fiscal year, which began on July 1, 2024. The State Bank of Pakistan (SBP) has now revised the policy rate downward for the second consecutive time in just seven weeks, reflecting a response to the slowdown in inflation and the strengthening of the external economy. Notably, the country’s foreign exchange reserves currently stand at $9.1 billion, which is slightly higher than the net foreign debt repayments of $9 billion due in FY25, suggesting that Pakistan is not facing an imminent foreign debt repayment crisis this year.

Cumulatively, the SBP has cut the policy rate by 250 basis points over the past seven weeks, a significant shift from the record high of 22% maintained until June 10, 2024. The initial cut of 150 basis points, the first in three years, was implemented early last month. During a press conference, SBP Governor Jameel Ahmad explained that the impact of the central bank’s previously tight monetary policy has only recently started to manifest, as changes in the policy rate typically take about eight quarters to fully materialise.

Ahmad projected that economic growth would rise to between 2.5-3.5% in FY25, compared to the 2.4% growth achieved in FY24, which was driven by a turnaround in agricultural output. He also highlighted that Pakistan is scheduled to repay only $9 billion in foreign debt over the next 11 months of FY25, an amount that is slightly less than the current foreign exchange reserves held by the SBP. This indicates that the country is well-prepared to manage its external debt repayments, effectively resolving the balance of payment crisis.

Furthermore, Ahmad forecasted that foreign exchange reserves would increase by a net $4 billion, reaching $13 billion by the end of the fiscal year on June 30, 2025. This anticipated growth is expected to be partly achieved by purchasing surplus US dollars from domestic currency markets. He also noted that inflows of workers’ remittances from overseas Pakistanis remained encouraging in July 2024, exceeding the average monthly receipts of FY24, which were recorded at $2.52 billion per month.

Ahmad estimated that inflation would decrease significantly to 11.5-13.5% in FY25, down from 23.4% in FY24, thereby supporting economic growth throughout the year. Additionally, the country’s current account deficit (CAD) is projected to remain moderate, ranging from zero to 1% of GDP (less than $4 billion) in FY25, compared to 0.2% of GDP ($681 million) in FY24.

Despite a notable increase in the monthly import of goods to $4.9 billion in June 2024, up from $3.5 billion a year ago, the expected continued rise in export earnings and inflows of workers’ remittances are anticipated to enable banks to finance necessary imports. This is a significant shift from the previously controlled market conditions to a fully liberalised one in the near past.

The SBP governor also stated that Pakistan has successfully cleared the backlog of profit and dividend repatriations by foreign companies operating in the country to their headquarters abroad. Multinational companies (MNCs) have repatriated profits and dividends amounting to $2.2 billion in FY24, a sevenfold increase compared to the $300 million sent in FY23 when there were restrictions due to low foreign exchange reserves.

Regarding foreign debt repayments, Ahmad provided detailed insights, revealing that Pakistan is set to repay a total of $26.2 billion in principal and interest payments for FY25, compared to $24.5 billion in FY24. He noted that Pakistan has already settled $3.1 billion in repayments in the first month of FY25 (July 2024) through rolling over $2 billion and repaying $1.1 billion. For the remaining 11 months of FY25, the country is expected to repay $9 billion (including interest payments) and is anticipated to secure rollovers for the remaining $14.1 billion in bilateral debt from friendly countries and commercial loans.

The SBP’s Monetary Policy Committee (MPC) justified the latest reduction in the policy rate by citing June 2024’s inflation reading of 12.6%, which was “slightly better than anticipated.” The Committee also assessed that the inflationary impact of the FY25 budgetary measures was broadly in line with earlier expectations. The significantly positive real interest rate provided room for the latest cut in the policy rate.

Despite the reduction, the MPC maintained that the monetary policy stance remains tight to guide inflation towards the medium-term target of 5-7%. This assessment is contingent on achieving targeted fiscal consolidation, timely realisation of planned external inflows, and addressing underlying structural weaknesses in the economy through reforms.