Treasury bills yields rise sharply on chatter of interest rate hike

KARACHI: Treasury bill yields jumped on Wednesday on growing chatter among market participants about a rise in interest rate faster than outlined previously after the government heavily borrowed funds to finance its growing budget deficit.

The cut-off yields on three-month T-bill rose by 129 basis points to 14.79 percent, according to the State Bank of Pakistan T-bill auction result.

The yield on the six-month paper stood at 14.99 percent, up 114bps from the previous auction. The yields on 12-month paper increased 96bps to 14.81 percent.

The government raised Rs614 billion against the target of Rs500 billion and the maturity of Rs343 billion.

Analysts said the latest auction reflects market anticipation for further interest rate hikes as inflation expectations have increased, considering government plans to remove subsidy on petroleum products and electricity after the International Monetary Fund agreed to continue the discussions for the seventh review of the Extended Fund Facility.

The SBP will hold its upcoming monetary policy meeting on May 23.

“The average spread between three-month, six-month and 12-month paper and policy rate used to be 0.61 percent, 1.04 percent and 1.20 percent during last one year, which in the today’s auction has widened to 2.54 percent, 2.74 percent and 2.56 percent,” said an analyst at Arif Habib Limited in a research note.

“The inversion of yield curve also hints towards emergence of recessionary pressures on the economic growth front. Moreover, with the pressure on external account, reserves depleting, depreciation of currency and higher inflation, markets are bidding at higher rates, hence leading to increase in cut-off yields,” he added.

Some analysts expect headline inflation for April to rise to 12.8 percent year-on-year from 12.7 percent a month ago. This will take average inflation to 10.95 percent in 10 months of FY2022.

The average CPI for FY2022 would likely remain at 11.7 percent, while average CPI for the last two months ie May and June, would reach 15.3 percent, as we have abolished fuel and electricity subsidies from May onwards, according to a report from Insight Securities.

The SBP has raised policy rates by 525bps, since central bank started monetary tightening in September 2021, taking the policy rate to 12.25 percent.

The policy rate can further inch-up by 50-75bps to peak at 13 percent later in 2022. This would take the real interest rate to positive zone in Q4CY22, the report added.

The six-month Karachi interbank offered rate reached at 14.23 percent, highest level since 2009. By raising funds over and above targets at higher rates, the government showed that its borrowing requirements from commercial banks continued rising for the financing of the growing budget deficit.

The budget deficit rose to Rs2.56 trillion or 4 percent of gross domestic product in the nine months of this fiscal year.

The government cannot borrow from the SBP as it is in the IMF programme. Foreign financing has also dried up. So the government has been borrowing from the market to finance this gap.

Besides, high inflationary expectations, there was no borrowing from the SBP. The foreign exchange flows were also contained. “These two factors are constraining the liquidity in the system,” said Saad Hashemy, an executive director at BMA Capital.

“This coupled with rising fiscal deficit and increased government funding requirement are leading to high yields,” Hashemy added. However, Fahad Rauf, the research head at Ismail Iqbal Securities believes that once the IMF programme was revived and “we get some flows from friendly countries (especially Saudi Arabia and China) there would be some ease in government borrowing requirement”.