• Interest rate reduced by 150 basis points to 20.5pc to stimulate growth
• Central bank says near-term inflation outlook susceptible to risks
• Notes several key developments since last monetary policy decision in April

KARACHI: In a widely anticipated move, the State Bank of Pakistan (SBP) on Monday reduced its policy rate by 150 basis points to 20.5 per cent, the first cut in nearly four years, aimed at stimulating growth amid a significant decrease in inflation.

The central bank has finally succumbed to pressure from economic stakeholders to reduce the interest rate, as the real interest rate was 10.2pc higher than the nominal rate, causing frustration among trade and industry. This significant gap had hindered domestic investments and driven production costs to unprecedented heights in the region, prompting demands for urgent action.

The SBP took the decision following an unexpected drop in headline inflation to 11.8pc in May, significantly lower than the previous interest rate of 22pc.

The interest rate was set at 7pc in June 2020, but the Covid-19 pandemic led to rising inflation, prompting the SBP to increase the rate to 22pc in June 2023 to combat inflation. Although inflation has since declined from 37pc to 11.8pc in May, the interest rate remained unchanged until now.

Following a meeting on Monday, the SBP’s Monetary Policy Committee stated that the near-term inflation outlook is susceptible to risks emanating from the FY25 budgetary measures and future adjustments in electricity and gas tariffs.

The MPC anticipates a significant increase in inflation in July 2024, followed by a gradual decline throughout FY25. It also noted that historical trends show that sharp reductions in wheat prices are often short-lived. “On balance, the committee assessed that the current monetary policy stance remains appropriate to ensure that inflation stays on a downward trajectory,” the MPC said in a statement.

The committee assessed that underlying inflationary pressures are also subsiding amidst tight monetary policy stance, supported by fiscal consolidation. This is reflected by continued moderation in core inflation and ease in inflation expectations of both consumers and businesses in the latest surveys.

The MPC noted several key dev­elopments since the last monetary policy decision in April. Notably, provisional data shows that real GDP growth remained moderate at 2.4pc in FY24, driven by robust agricultural growth, which parti­ally offset the sluggish recovery in industry and services. Additionally, the reduction in the current account deficit has contributed to an improvement in foreign exchange reserves, which now stand at around $9 billion, despite significant debt repayments and weak official inflows.

The government has also sought an Extended Fund Facility (EFF) programme from the IMF, which is expected to unlock additional financial inflows, contributing to a further buildup of foreign exchange reserves. Additionally, international oil prices have decreased, while non-oil commodity prices have continued to rise, albeit at a moderate pace.

“The lower current account deficit, along with improved FDI and the disbursement of SBA tranche in April, has facilitated ongoing large debt repayments and supported the SBP’s FX (foreign exchange) reserves,” the statement said.

The MPC stressed that timely mobilisation of financial inflows is essential to meet the external financing requirements and further strengthen FX buffers for the country to effectively respond to any external shocks and support sustainable economic growth.

The committee noted that the real interest rate still remains significantly positive, which is important to continue guiding inflation to the medium-term target of 5-7pc.

“The future monetary policy decisions will remain data-driven and responsive to evolving developments related to the inflation outlook,” said MPC the statement.

Published in Dawn, June 11th, 2024

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