Policy rate

To keep the dire wolves of inflation from the country’s door and to slow down a fast-approaching default owing to a semi-compromised balance of payments situation, a defensive State Bank of Pakistan (SBP) felt safe in a tightened monetary policy hiking the interest rate to a multi-year high of 13.75 per cent. This is in addition to the 525bps increase in policy rate since September 2021. The central bank’s hawks primarily targeted the inflation, hovering over a two-year high, driven by domestic demand and second-round effects of supply shocks; consumer inflation surged to 13.4 per cent in April. As the dollar continues to dwarf the rupee and fuel and power subsidies are set to be snuffed out sooner or later, inflation is going to get uglier, persisting through the next fiscal year to drop sharply in FY2024.

Together with much-needed fiscal consolidation, the SBP is trying to tame demand to a more sustainable pace, while keeping inflation expectations anchored and containing risks to external stability. The current account deficit found some moderation in April, but wasn’t enough to break the rupee fall, especially after trouble broke out in our political paradise and the dollar grew more muscle after the Federal Reserve tightened its monetary policy. Record remittances and lower imports narrowed April’s current account deficit to $623 million. The central bank has projected the current account deficit to close at around four per cent of GDP this fiscal and then moderate to a sustainable three percent in FY2023, driven by the import ban, tighter fiscal/monetary policies, and the likelihood that commodity prices might cool down by then.

On the other hand, the SBP’s latest reports exude so much confidence on winning the IMF loan programme back that it seems like a done-deal. So it is easy for it to say that with the inflows from the IMF, Pakistan will have no problem financing the external repayments and the current account deficit. The SBP is now acting more proactively than before. However, it is shouldering a disproportionate burden as the fiscal side continues to see profligate fuel subsidies. The monetary policy statement has emphasized the urgency of strong and equitable fiscal consolidation to complement monetary tightening actions. This will help alleviate pressures on inflation, market rates and the external account. However, businesses are not happy with the persistent increase in interest rates as they expect it will benefit the black economy. What is good is that the SBP has finally woken up to take note of the unprecedented rise in secondary market yields, benchmark rates and cut-off rates in the government’s auctions. The monetary policy is heavily dependent on the results of the ongoing talks with the IMF, which could potentially be subject to delays given the lack of high-level political backing thus far. Would it be wise to count these chickens before they hatch?