ISLAMABAD: Pakistan’s central bank on Friday cut its key policy rate by 150 basis points to 10.5 per cent, the bank governor, Yaseen Anwar, said.

The State Bank of Pakistan (SBP) last changed rates when it made a 150 basis point cut on Oct 8, 2011, bringing the benchmark rate to 12 per cent.

Increased remittances from overseas Pakistani workers and reimbursements from the United States for Pakistan’s assistance in the war against militancy had helped the country’s foreign exchange reserves, the governor said.

“However, concerted efforts to bridge the gap between revenues and expenditures through structural reforms are necessary to bring monetary stability and economic growth on a sustainable basis,” Anwar said.

He blamed an “unenviable equilibrium of high inflation and low growth” on a protracted energy crisis and “weak fiscal fundamentals”, saying that bolstering the balance of payments depends on foreign financial inflows.

The bank had decided to give “relatively higher weight” to private sector credit and investment, given that inflation is projected to rise slightly above the target during the current fiscal year, which runs until June 30, 2013.

The SBP Governor said that the economy seems to have settled at an unenviable equilibrium of high inflation and low growth. The protracted energy crisis and weak fiscal fundamentals are the main reasons behind this outcome. Similarly, the declining trend in private investment expenditures is continuing while strength of the balance of payment position remains contingent upon foreign financial inflows.

The pace of increase in domestic debt is also considerable and uncertain global economic conditions in the Eurozone and the US do not inspire much confidence either.

In this constrained environment, he noted that the impact of monetary policy has become limited; whether it is in terms of direct effects of interest rate changes or broad influence on expectations in the economy.

“Nevertheless, the State Bank of Pakistan will continue to play its required role in nudging the macroeconomic outcomes whenever there is relative ease in some of its core concerns. For instance, there has been some deceleration in inflation, which has improved its outlook. Similarly, the receipt of much delayed Coalition Support Funds has eased, on the margin, the fiscal and external sector constraints.”

Yaseen Anwar said the average CPI inflation for fiscal year 12, at 11 per cent, was well within the target of 12 per cent for the year and on the lower side of SBP's earlier projections. The main reason for this moderation in inflation is a collapse in real private investment, indicating a structurally weak economy.

However, he noted that inflation continues to persist in double digits. This persistence is primarily due to entrenched expectations of inflation remaining high. It seems that key drivers for this expectation are continued fiscal borrowings from the SBP despite legal restrictions and feared depreciation of exchange rate even with a modest external current account deficit.