KARACHI: The State Bank of Pakistan (SBP) increased the policy rate by 150 basis points to 13.75 per cent on Monday in a bid to arrest inflation.
The move is aimed at cooling down the overheated economy, which is expected to grow at almost 6pc in 2021-22. Economic growth is expected to moderate to 3.5-4.5pc in 2022-23 on the back of monetary tightening and assumed fiscal consolidation.
The Monetary Policy Committee’s (MPC) baseline outlook assumes continued engagement with the International Monetary Fund (IMF) as well as the reversal of fuel and electricity subsidies together with the normalisation of the petroleum development levy (PDL) and general sales tax on fuel in 2022-23.
Headline inflation is likely to increase temporarily and may remain elevated throughout the next fiscal year, said the SBP, adding that it’s expected to fall to the 5-7pc target range by the end of 2023-24.
Expert says common man will be hit by decision, both directly and indirectly
At 13.4pc, headline inflation unexpectedly rose to a two-year high in April and has now been in double digits for six consecutive months.
The high interest rate of 13.75pc along with more than 13.4pc expected inflation in 2022-23 can badly hit the common people as well as investment in the country while the economic growth rate has already been projected down to 4.5pc for the next fiscal year.
“The rate hike will directly and indirectly hit the common man in terms of higher credit financing rates. This rate hike is a prior action or condition by the IMF. It’s a pre-emptive measure from the SBP to curb inflation, which is expected to increase going forward once the government withdraws petroleum and electricity subsidies,” said Tahir Abbas, head of research at Arif Habib Ltd.
The SBP said provisional estimates suggest that growth in 2021-22 has been much stronger than expected.
Meanwhile, external pressures remain elevated and the inflation outlook has deteriorated due to both home-grown and international factors.
“I think the direct impact on the consumer will be limited to people who have availed consumer financing. The indirect impact will be felt as businesses will pass on the impact of a higher cost of doing business to customers,” said Samiullah Tariq, head of research at Pak-Kuwait Development and Investment Company.
However, once monetary tightening along with fiscal consolidation achieves its purpose of external stability and reducing inflation, it’ll be good for consumers and producers collectively, he added.
Most demand indicators have remained strong since the last monetary policy announced in the first week of April — including the sales of petroleum products and automobiles, electricity generation, and sales tax on services — and growth in large-scale manufacturing accelerated in March, said the SBP, adding that both consumer confidence and business confidence have also ticked up.
“With the output gap now positive, the economy would benefit from some cooling,” said the SBP.
On the external front, notwithstanding some encouraging moderation in the current account deficit during April, the rupee depreciated further due both to domestic uncertainty as well as the recent strengthening of the dollar in international markets following a tightening by the Federal Reserve.
The SBP’s projected current account deficit is around 4pc of GDP this year. Next year, the current account deficit is projected to narrow to around 3pc of GDP as import growth continues to slow with moderating demand and the recent measures taken by the government to curtail non-essential imports, while exports and remittances remain resilient.
“This narrowing of the current account deficit together with continued IMF support will ensure that Pakistan’s external financing needs during 2022-23 are more than fully met,” said the SBP, adding that with an almost equal share coming from rollovers by bilateral official creditors, new lending from multilateral creditors, and a combination of bond issuances.
The SBP believes that its foreign exchange reserves should resume previous upward trajectory during the course of the next fiscal year.
The bank said timely action is needed to restore fiscal prudence while providing adequate and targeted social protection to the most vulnerable.
“Such prudence enabled Pakistan’s public debt to decline from 75pc of GDP in 2018-19 to 71pc in 2021 despite the Covid shock, in sharp contrast to the average increase of around 10pc of GDP across emerging markets over the same period,” said the SBP.
Since the last MPC meeting, secondary market yields, benchmark rates and cut-off rates in the government’s auctions have risen, particularly at the short end. The MPC noted that the market rates should be aligned with the policy rate and in case of any misalignment after the latest policy decision, the SBP will take appropriate action.
Published in Dawn, May 24th, 2022