KARACHI: The State Bank of Pakistan (SBP) kept the policy rate unchanged at 5.75 per cent on Saturday for another couple of months, citing less-than-targeted inflation, higher domestic demand and the expectation of the overall balance of payments (BoP) staying at a manageable level in 2017-18.

Announcing the monetary policy, SBP Governor Tariq Bajwa said the current account deficit poses the biggest challenge to the economy.

Three features of the economy stand out at the start of 2017-18, he said. First, average headline inflation will stay below the target of 6pc. Second, domestic demand is set to gain further traction as evidenced in the current growth in the real sector, credit to the private sector and imports.

“Third, on the external front, the underperformance of both exports and workers’ remittances greatly impinged upon the current account deficit, which reached $12.1 billion in 2016-17,” Mr Bajwa said.

For the time being, the overall BoP is expected to stay at a manageable level in 2017-18, he said.

“The first two features show that the economy is in an expansionary phase while the third feature highlights near-term BoP challenges,” he said, adding that the SBP is projecting average inflation in the range of 4.5-5.5pc for 2017-18.

This projection is explained by lower-than-anticipated increase in international oil prices, behaviour of consumer price index (CPI) in June, stable administered prices and lower inflationary expectations.

Turning to the real sector, cumulative large-scale manufacturing (LSM) growth statistics till May depict a strong positive momentum with food, especially sugar, steel, cement, automobiles, electronics and pharmaceuticals in the lead. July-May LSM growth is 5.7pc against 3.4pc recorded during the same period last year, he said.

Calls current account deficit biggest challenge

Furthermore, the outcome of the agriculture sector is far superior to 2015-16, reaching its target of 3.5pc in 2016-17, he added.

The services sector posted 6pc increase in 2016-17 compared to 5.5pc increase in 2015-16. He was sure that these developments would further entrench in 2017-18.

“Increased economic activity, considerable increase in bank deposits and low interest rates translated into private-sector credit flows in 2016-17, reaching a decade-high of Rs748bn against Rs446bn in 2015-16,” he said.

Mr Bajwa said it is encouraging that fixed investments and working capital loans grew by Rs258.5bn and Rs360.5bn in 2016-17 compared to an expansion of Rs171.7bn and Rs219.3bn in the preceding fiscal year, respectively.

Demand for consumer financing, especially for auto and personal loans, also gathered pace during 2016-17. “These trends are set to continue in 2017-18 given the developments on the real side.”

On the external front, the current account deficit reached $12.1bn during 2016-17. While exports and workers’ remittances declined, imports growth surged by 17.7pc in 2016-17.

This is mainly owing to machinery imports for both China-Pakistan Economic Corridor (CPEC) and non-CPEC energy and infrastructure projects. Imports for plant upgrades under the ongoing export package for the textile sector also added pressures, he said.

“However, in view of the last four months’ performance, the decline in exports appears to have bottomed out,” he said.

The current account deficit has been managed by foreign exchange reserves and a financial account surplus, which reached $9.6bn during 2016-17 from $6.8bn a year ago, said the governor.

Apart from the increase in official inflows, this accumulation incorporates the impact of the increase in private-sector borrowing for CPEC projects. Taking into account these developments, SBP’s foreign exchange reserves declined to $16.1bn at the end of 2016-17 compared to $18.1bn in 2015-16.

“Pakistan’s exports are expected to post gains. Imports, albeit at a slower pace, are also expected to grow in line with the continuation of CPEC-related activities and improving economic growth,” said Mr Bajwa.

While it remains uncertain whether remittances can return to posting meaningful positive growth very soon, stability of the external account and instrumental reserve accumulation depend upon timely arrival of budgeted bilateral and financial inflows in 2017-18 as well, said the SBP governor.

Published in Dawn, July 23rd, 2017