RIGHT about now the State Bank is getting ready to prepare its monetary policy statement due to be announced on October 5.
An internal document will be prepared that will look at the economic outlook, and then meetings will be held where the draft will be discussed and a decision made on what the staff’s suggestion is to the State Bank governor regarding which direction interest rates should move on the crucial day.
Then the matter will be placed before the board of the State Bank, where the consensus presentation will be made regarding the staff’s outlook and recommendation.
The board, which is currently below strength and consists of the secretary finance, a CEO from the private sector, and two individuals chosen for their professional merit, will deliberate in detail and decide whether to raise, cut or leave the crucial policy discount rate untouched.
This ritual plays itself out every eight weeks. Last time they sat down, the board failed to come to an agreement, with two parties voting to cut interest rates by a whopping 150 basis points, while two other members felt this was too large a cut to make in one go.
So the governor cast the deciding vote, and we had ourselves a rate cut of mammoth proportions, chopping off almost Rs45bn from the government’s debt service costs, and spooking the bankers into silence.
This time round, it would be a good idea if the people involved asked a few basic questions before making their decision. First of all, what exactly are they trying to accomplish? If, as we are supposed to believe, this is about promoting growth and investment, then how far are they really to go?
Last year, for instance, there was an equally large cut in the policy discount rate, and yet investment did not pick up. In fact it plummeted. Private-sector credit offtake, a key measure by which to judge the scale of private investment, fell dramatically over the rest of the monetary year to historic low levels.
Two lovely pictures that appear on the front page of the August monetary policy announcement tell the whole story. One is a black graph, titled “budgetary borrowings from scheduled banks” and the other is a green line, captioned “loans to private sector business”.
The black graph is shown rising inexorably upwards and the green line drops dramatically until it touches almost zero. Below these two lines is a third, light blue one titled “Private fixed investment (real)”. This too drops dramatically, touching the base line by fiscal year 2012.
Somebody somewhere has a sense of humour. That’s unusual and encouraging for a central bank. But here the encouragement ends because we’re left with a cryptic puzzle of sorts.
Where the statement claims it wants to reduce interest rates to “revive growth and investment”, the pictures on the very front page show that no such thing happened with the last rate cut. The only thing that revived with the last rate cut was government borrowing.
The lines inspire an obvious question: if a cut in interest rates did not bring about an increase in private-sector investment last year, what makes anyone believe it will do so this year? So how far should interest rates fall to help spur growth and investment? Where’s the floor? And how much of a rush are we in to get to it? Questions of timing are key, and I wonder if they’ve debated the merits of a slow and gradual reduction versus sudden and abrupt cuts.
In any case, another important question will also get asked, hopefully. Is the State Bank now changing course comprehensively away from questions of monetary stability towards growth instead? If what they say in the last statement is true, that they’ll be glad to miss their inflation target this year just to do their bit to help revive growth, then this might be the case.
This is a pity, and for the following reason. Thus far, there have been only two large, credible institutional voices that have been urging fiscal propriety on the government. One of those voices belonged to the IMF, and the other to the State Bank.
Ever since Pakistan went off the IMF programme that voice has taken its seat in the peanut gallery, leaving the State Bank as the lone voice of fiscal common sense left in Pakistan.
One argument made in defence of the rate cuts says that if a tool is not working it’s best to abandon it. So if higher interest rates are not working as a signal to the government to bring its fiscal house in order, then it’s best to stop thinking of it as a signal altogether.
There may well be merit to this argument, but let’s also acknowledge that the State Bank is not only abandoning a tool, it has in fact abandoned its mission altogether of late. If it still has any stock in its mission to maintain price stability, then please explain what tools it will be using to pursue that objective.
The only thing that a continued cut in the discount rate is going to accomplish is to encourage the government to come borrow more, and that is a dangerous signal to be sending in an election year, especially to a government that is already presiding over a fiscal train wreck of sorts.
So here’s calling out to somebody, somewhere, who still has a shred of intellectual integrity left to please ask two basic questions, then listen carefully to the answers that are given and ask the relevant follow-ups.
The two questions are: what are we trying to accomplish with further rate cuts, and what are the likely consequences in reality?
And perhaps minutes ought to be taken at the board meeting and publicly released, with a time lag of course. And with names, so we all know who said what.
I look forward to reading the next monetary policy announcement. And I look forward even more to writing about it.
The writer is a Karachi-based journalist covering business and economic policy.