Analysts say high energy costs add to SBP’s inflation headache

KARACHI: A government decision to raise petrol prices by over 8 percent on Saturday would add near-term pressure to stubbornly high inflation, which could challenge the central bank’s accommodative stance and low policy rate adopted to boost the pandemic-hit economy, analysts said.

Local energy price increases triggered by high international commodity prices led to renewed fears about inflation, threatening to upend the State bank of Pakistan (SBP) consumer price index (CPI) forecast of 7-9 percent for fiscal year 2021/22.

The SBP might bring the borrowing cost near double digits for the remaining months of the current fiscal year.

The government jacked up rates for all petroleum products as oil prices surged to around $85 a barrel in the international market. Prices of petrol and diesel climbed up by Rs10.49 and Rs12.44 per litre, respectively.

“Rising global commodities (prices) and IMF-led taxes will definitely affect CPI. We now think CPI may go beyond 9 percent. This will result in a higher interest rate,” said Mohammed Sohail, CEO at Topline Securities.

The rupee’s decline has opened the door for imported inflation. Volatility in the prices of global crude oil, edible oils, food commodities, coal, and metal products along with a currency devaluation of 12 percent since May has added to inflationary pressures, which were seeping into local prices, a major pain point for the majority of Pakistanis.

Dr Ashfaque Hasan Khan, former advisor to the finance ministry and a renowned economist, said the rise in domestic petroleum prices was linked with the international energy prices, as the demand was accelerating across the world due to the economic recovery from the coronavirus pandemic, but it was currency devaluation which was sending inflation soaring in the country.

“The government increases prices of petroleum products to raise the collection from petroleum development levy,” Hasan said.

He sees a 50bps rise in the policy rate at the SBP’s upcoming policy review scheduled for November 26. However, he said there was no justification for a hike, as urban core inflation recorded at 6 percent year-on-year in September.

Analysts think the increase in energy prices and electricity tariff adjustments was making the government unpopular among the masses, but the government would still meet the tough conditions put down by the International Monetary Fund (IMF) to revive the $6 billion loan programme.

Pakistan would gain forex liquidity, multilateral financing, FATF, and political acceptance for financial discipline in case the IMF loan facility resumes. Samiullah Tariq, the head of research at Pak-Kuwait Investment Company said inflation should remain in the SBP’s defined range of 7-9 percent.

“In my view, interest rates would increase by another 25bps in the next monetary policy. Further increase would depend upon the direction of global commodity prices,” he added.

Similarly, Tahir Abbas, Head of Research at Arif Habib Limited, said, “The higher oil prices would have negative impact on our balance of payment as petroleum imports comprise around 25 percent of our total imports. We expect inflation to remain 9-9.25 percent in FY22. On the interest rates, our projection is 8.5 percent by the end of FY22.”

CPI inflation was 9.0 percent in September.

The SBP hiked the policy rate by 25 basis points to 7.25 percent last month.

“This robust recovery in domestic demand, coupled with higher international commodity prices, is leading to a strong pick-up in imports and a rise in the current account deficit. While year-on-year inflation has declined since June, rising demand pressures together with higher imported inflation could begin to manifest in inflation readings later in the fiscal year,” the SBP said in the last monetary policy statement.

“Looking ahead, the inflation outlook largely depends on the path of domestic demand and administered prices, notably fuel and electricity, as well as global commodity prices. The MPC will continue to carefully monitor developments affecting medium-term prospects for inflation, financial stability, and growth and stands ready to respond appropriately,” it added.