Central bank keeps key interest rate unchanged on inflation risk

KARACHI: Pakistan’s central bank held its benchmark interest rate steady at 6.5 percent on Saturday, as policymakers grappled with the recent floods in the country that could lead to inflationary pressures on food pricing.
The State Bank of Pakistan (SBP) left the recently introduced SBP Target Rate (also called as Policy Rate) on hold for July-August period. Policymakers didn’t make any changes to the interest rate corridor and kept the reverse repo rate unchanged at 7 percent.
It also kept the discount rate at 7 percent.
Pakistan’s consumer inflation was more muted than expected during the last fiscal year. Average consumer price index (CPI) inflation came down to 4.5 percent in the last fiscal year from 8.6 percent in fiscal 2014.
The low inflationary trend allowed the central bank to cut the interest rate by an accumulative 300 bps in successive monetary policy announcements from November 2014 onwards.
“There is a possibility of upward revision in the energy tariffs in the fiscal year (2015/16) and an adverse impact of floods on production of perishable food items, going forward that could have an upward pressure on inflation,” SBP Governor Ashraf Mahmood Wathra told a news conference.
“Given the above macroeconomic considerations, the SBP board of directors has decided to keep the policy rate unchanged at 6.5 percent,” Wathra said.
The governor said following the improvements in the Interest Rate Corridor (IRC) framework in May 2015, the bank has ensured that the money market average overnight rate remains close to the newly introduced Target (Policy) Rate at 6.5 percent.
“This led to an increase in both volume and frequency of open market operations. As a result, the overnight repo rate remained (on an average) two basis points below the policy rate of 6.5 percent in the post-May 2015 monetary policy decision period,” he added. “Furthermore, there has been less volatility in the overnight rate.”
Wathra said the high oil production and weak global demand suggest that the international oil price is not yet bottomed out.
“Given the recent behaviour of CPI inflation amid falling international oil prices, this could result in keeping inflation on the lower side,” the governor said.
“Some recent developments such as lagged impact of monetary easing in FY15, expected higher monetary expansion in FY16, bottoming out of inflationary expectations and the base effect of historically low inflation during the second half of FY15 might suggest slight deviation in the disinflationary trend of FY15 going into FY16,” he added.
The governor said expected higher consumption in low interest rate environment, planned increase in development spending and budgetary incentives for the construction sector could provide some thrust to growth.
Pakistan’s economy grew by 4.2 percent in the last fiscal year, missing the government’s target of five percent.
The net Foreign Direct Investment (FDI) also declined to 0.3 percent of GDP during the last fiscal year.
The governor said more work; therefore, needs to be done in the coming years to attract investment.
“Moreover, implementation of infrastructure projects planned under the China-Pakistan Economic Corridor (CPEC) and addressing structural issues, especially related to energy and security would create favourable investment environment, which is necessary to sustain economic growth over the medium- to long-term,” he added.
Wathra said the net SBP reserves are projected to increase slightly above four months of imports by the end of June 2016.
“In the short- to medium-term, nonetheless, the disbursements of programme related funding and planned issuance of Eurobonds are expected to support an upward trajectory in the foreign exchange reserves.”
The governor said achieving the FY16 fiscal deficit target of 4.3 percent depends on the collection of estimated Rs145 billion under the Gas Infrastructure Development Cess and the Federal Board of Revenue’s collection target of Rs3,104 billion.
“In FY16, construction and real estate sectors show promise, as indicated by their continued credit uptake.
The lagged impact of easy monetary policy of FY15 is also expected to positively affect the credit growth in the upcoming credit cycle in the first half of FY16,” he added.