Pakistan’s economy: The interest rate dilemma

KARACHI: State Bank Governor Reza Baqir and the rest of his policy committee will be closely watched today (Tuesday) as they gather to consider the future of interest rates amid rapidly mounting challenges for an already beleaguered economy.

More than U$800 million has flown out of Pakistan recently from the much-touted hot money inflows and foreign equity investments, prompting warnings against a sharp reduction in interest rates. Meanwhile, the slide of the Rupee by more than three per cent in the recent past has prompted fresh warnings over further inflation in the coming days as the Pakistani currency looses further ground.

On other fronts, the ongoing crash of Pakistan’s equity markets has become a regular daily trend amidst a global crisis surrounding equities following the fallout from the Corona-virus global pandemic. The turmoil appears to have encouraged recent cuts in interest rates in parts of the world, amid growing calls for packages of economic stimulus. In Pakistan, however, with a fiscal deficit already out of control and tax collections sagging way behind targets under the ongoing IMF loan program, there is very little space to offer similarly large packages of incentives.

Meanwhile, challenges in recent months notably a sharp escalation in food prices have badly exposed an ongoing crisis of governance. In addition to challenges unleashed by ill-advised policies, the weak structure of the state and its once thriving but now substantially weakened institutions have together undermined the ability of the federal and provincial governments to effectively intervene.

Ahead of Tuesday’s meeting at the State Bank, a range of forecasts have predicted a coming interest rate cut between 50 to 100 basis points. Yet, there are other elements of Pakistan’s financial picture that require a closer intervention by the State Bank backed by the government in Islamabad.

At a time when the broader economy looks lackluster at best, the sharp rise in profits by commercial banks presents an uneasy picture. At the root of this challenge clearly lies a high intermediation cost – the difference in interest rates charged from borrowers versus returns to depositors.

At a time when Pakistan’s economy is dragging downwards, the massive packages of salaries and other perks to the top executives of banks is nothing less than criminal.

Beyond setting the stage for future interest rates, Governor Baqir must take up this matter urgently in the public’s interest. Bringing the exorbitant profits of banks in sync with the rest of the economy ultimately must be built upon the singular idea of sustaining the best-possible returns for depositors.

Outside the State Bank, however, Prime Minister Imran Khan and governments across Pakistan’s provinces face three inter-related challenges.

First, with the future of the Coronavirus outbreak largely unpredictable, a national emergency to lift up the quality of Pakistan’s health care is essential. To meet this challenge, a range of actors from the government to non-governmental entities must come together. In recent years, an outcry from the community of non-governmental organizations over increasingly cumbersome provisions for their regulation has substantially undermined their work across Pakistan. A clearer and urgent focus on this sector is vital to build a national system of defensive mechanisms to block Coronavirus from becoming an out of control ailment. Second, with Pakistan’s economy set to weaken further in line with the fallout for the wider world, it is essential for the authorities to immediately step up interventions in sectors to reverse increasingly growing food insecurity across Pakistan. This will require a raft of administrative measures to block an out of control escalation in food prices at the wholesale and retail levels. But the heart of meeting this challenge must consider immediate, mid-term and long-term steps for reversing the slide in agricultural incomes and productivity across Pakistan. Just in the past year, the once prized cotton crop became ridden with a full blown crisis following a steep downturn in production, while other key crops also suffered shortfalls. Meanwhile, a locust attack appeared to have received little official attention till a belated national locust emergency was eventually announced. These events have highlighted the bigger challenge of Pakistan’s agricultural economy suffering terribly from not just a clearer focus but a long term breakdown of key institutions in areas like irrigation, field extension services to aid farmers and scientific institutions otherwise supposed to provide research based support for different crops.

And finally, the prevailing emergency could get much worse in global terms with much larger consequences across the globe. Hypothetically, a larger epidemic in the United States could undermine the global economy far more lethally than what has been witnessed thus far. Pakistan’s already under performing exports could fall further notwithstanding the future of the Rupee’s exchange rate versus the US Dollar.

Meanwhile, an important footnote to this argument must be that this is no time for Prime Minister Imran Khan to pick new fights or press ahead with ongoing battles. The controversy unleashed over the arrest of Mir Shakil-ur-Rahman, Editor-in-chief of the Jang Group of newspapers and the forced closure of Geo TV channel over a questionable charge dating back some 34 years ago, is one such needless encounter that has prompted fresh anxieties over the government’s already suspect respect for human rights and democratic values.

Beyond the decision by Governor Baqir and his monetary policy committee on Tuesday, the task ahead requires uniting Pakistan as never before. Tragically, however, for the moment, Pakistan remains distant from such a prospect.