November 5, 2003	Wednesday	Ramazan 9, 1424

KARACHI, Nov 4: The SBP role as a catalyst to economic reforms is becoming increasingly important but economists say the ministry of finance must coordinate more closely with the central bank to keep the credibility of its monetary signals.

“The State Bank stands out as the most clever among the three key players — the other two being the ministry of finance and the Central Board of Revenue,” says economist Dr Qazi Masood. He says this in defence of the SBP monetary policy stance that remained unchanged in the last fiscal year — and rightly so. “There was no reason as to why the SBP should have changed this stance,” insists Dr Masood, who is an associate professor at the Institute of Business Administration. He says it was not a fault of the SBP — but a lack of coordination between the ministry of finance and the central bank that caused a dent in the credibility of SBP monetary policy statements.

The SBP itself has admitted this dent in credibility in its annual report for the fiscal year July-June 2002-03 released here on Monday. The SBP has made this admission while referring to the fact that long-term Pakistan Investment Bonds were sold short of targets in spite of a higher demand. The SBP report says that only Rs55.2 billion worth of three-year, five-year and 10- year PIBs were sold in FY03 against the total demand of Rs74.8 billion. This short selling, particularly one at the year-end also caused a spike in the PIBs yields.

And this happened despite the fact that the SBP had said in its first-ever monetary policy statement released in January this year that its loose stance on the monetary policy should remain unchanged. The spike in the PIBs yields seen in this backdrop put this statement of the SBP in question.

But the SBP had no option but to allow a spike in PIBs yield by short selling the bonds as it was desired by the ministry of finance to avoid a sharper cut in the rates of return on national saving schemes. Says the SBP: “It also reflected badly on SBP’s credibility, as the central bank mentioned an unchanged monetary policy stance in its monetary policy statement. In addition the market would expect this to happen again on the rest (auction) dates of NSS instruments i.e. end-June and end-December.” Many senior bankers say this statement of the SBP shows that it was mindful of its credibility which received a dent not because of an action of its own but because it had to coordinate with the ministry of finance.

Senior SBP officials say the increase in PIBs yields should not be seen as an indicator of a change in the monetary policy stance the anchor of which is still the SBP discount rate.

The discount rate has remained unchanged at 7.5 per cent since November 2002, thus verifying at least theoretically that the SBP monetary policy stance has also remained intact as indicated in its policy statements in January and July. But the point is when the SBP first said in its monetary policy statement that the policy stance would remain unchanged the benchmark six-months T- bills average yield was at 3.84 per cent — and when it made the same statement in July the rate had fallen to 1.21 per cent. “What does it indicate?” questions treasurer of another local bank. “It is certainly not indicative of an unchanged monetary policy stance.”

Similarly the yields on three-year, five-year and 10-year PIBs were at 4.55 per cent, 4.85 per cent and 5.52 per cent, respectively, at end-December 2002 — a month before the SBP stated in its monetary policy statement that the policy stance would remain unchanged. The yields, however, fell to 2.79 per cent, 3.11 per cent and 4.01 per cent in March 2003. In June 2003, however, the yields were artificially jacked up to 3.08 per cent, 4.15 per cent and 5.60 per cent just to help the government avoid a deeper cut in the rates of return on NSS. “What signal should we pick from this (rise and fall of PIBs yields), particularly when the yields are artificially increased by not observing the auction targets (set earlier by the SBP),” says head of treasury of a foreign bank.

All this explains the background of the SBP admission about the bad reflection such things had on its monetary policy statement.

Dr Qazi Masood says had the government not reduced its development expenditures as pointed out in the SBP annual report despite the fiscal space available with it and had it balanced its bank borrowing and non-bank borrowing more accurately then the market should have seen an equilibrium in interest rate structure.

The government cut the development expenditures from Rs44.1 billion in FY02 to Rs35.9 billion in FY03 which helped it lower its fiscal deficit to 4.4 per cent of GDP in the last fiscal year.

But as rightly pointed out in the SBP annual report it can prove counter-productive. Says the report: “As government’s own investments in infrastructure and human development have an important role in crowing in private investments, a sustained reduction in development expenditures is clearly counter- productive.”