State Bank holds interest rate at 13.25pc to tame food inflation

KARACHI: The State Bank of Pakistan left interest rate unchanged at 13.25 percent on Friday, as expected, to prevent food inflation, nearing the top of the central bank’s target range, from further spreading.

“The decision reflected the MPC’s (monetary policy committee) view that recent developments have had offsetting implications for the inflation outlook,” the central bank said in a policy statement.

“On the one hand, recent inflation outturns have been on the higher side. On the other, the causes behind these outturns have primarily been increases in food prices which are expected to be temporary.”

It said the inflation, based on the new index, rose 11 percent year-on-year and 1.8 percent month-on-month in October 2019.

“These outturns, especially recent month-on-month outturns, were somewhat higher than expectations but largely reflected upward adjustments in administered prices and rise in prices of food items primarily due to temporary supply disruptions,” the statement said.

“The MPC noted that recent outturns of month-on-month inflation had been higher than in previous months and if sustained could affect inflation expectations.”

It said the market sentiment has begun to gradually improve on the back of sustained improvements in the current account and continued fiscal prudence. The SBP’s projection for average inflation for FY2020 remained broadly unchanged at 11-12 percent and “maintaining the current monetary policy stance was appropriate,” it added.

The statement said the current account balance recorded a surplus in October 2019 after a gap of four years, a clear indication of receding pressures on the country’s external accounts.

“Two, the government’s primary balance is estimated to record a surplus in the first quarter of FY20, a first since Q2-FY16. This, together with the end of deficit monetisation has qualitatively improved the inflation outlook,” it said. “Three, the most recent business confidence survey shows that businesses expect inflation to fall in the near term suggesting that inflation expectations remain anchored despite the recent increases in food prices.”

The SBP’s statement said economic activity is strengthening in export-oriented and import competing sectors while inward oriented sectors continue to experience a slowdown in activity.

“Specifically, large-scale manufacturing shows gains in electronics, engineering goods and fertiliser sectors and decline in auto, food, and construction allied industries of steel and cement,” it said. “The latest production estimates of major kharif crops suggest that agriculture sector is likely to grow in line with projections although cotton production is likely to remain below target.”

The SBP kept its projection for GDP growth for FY2020 unchanged at around 3.5 percent.

The statement said the external sector continued to show steady improvement, reflecting the benefits of recent policy adjustments and other factors.

“This improvement reflected a notable reduction in imports, a modest growth in exports and steady workers’ remittances,” it said. “Export volumes, especially of rice, textile made-ups, leather products, and fish and meat, increased despite weakening external demand. The capital and financial account have also improved due to higher FDI (foreign direct investment) and continued portfolio inflows reflecting renewed investor confidence.”

The statement said the rupee has appreciated 5.6 percent since its low in June 2019. “These favourable developments have allowed the SBP to begin rebuilding gross reserves and reducing liabilities.”

Since the beginning of the fiscal year, gross reserves have risen by $1.16 billion through November 15 and the SBP has reduced its foreign currency swaps / forward liabilities by $1.95 billion through end October.

“The combined increase in net reserves from these two sources is well in excess of the $863 million special convertible rupee account portfolio inflows in government securities since the beginning of the fiscal year,” the statement said.

It said fiscal consolidation gained traction during the year to date on account of broad-based taxation reforms and strict control over non-development expenditures. FBR tax collections grew 16.2 percent year-on-year in July-October FY2020 compared to 6.4 percent during the same period last year. On the expenditure side, the federal releases for public sector development programs more than doubled to Rs257 billion during the four months from Rs105.5 billion during the same period last year.

“The increased infrastructure spending is expected to stimulate business activity in construction-allied industries,” it said. “On the financing side, the government has strictly adhered to its commitment of zero fresh budgetary borrowing from SBP, which has not only helped the government meet its continuous performance criteria under the IMF (International Monetary Fund) program, but also bodes well for the inflation outlook.”

The statement said the MPC emphasised that continued fiscal prudence would remain critical for sustaining the improving market sentiment.

It said private sector credit fell Rs4.1 billion during the first four months of the current fiscal year compared to an expansion of Rs223.1 billion during the same period last year on account of slowing economic activity. However, fixed investment loans increased, supported by the SBP’s long term financing facility under which loans grew by Rs 11.3 billion during this period.

“The MPC was of the view that inflationary pressures were expected to recede in the second half of the fiscal year, as noted in the last MPS,” it added. “The MPC noted that the current stance of monetary policy and real interest rates on a forward-looking basis were appropriate to bring inflation down to the target range of 5 – 7 percent over the next twenty-four months.”