Following the conclusions of talks with the IMF, the State Bank of Pakistan is expected to announce its monetary policy this Friday. And, if market expectations are any guide, the SBP would maintain a status quo.
Recall that the market had earlier expected an easing this time around. However, thanks to the strong words by the IMF and high unexpected inflation last month, market expectations have swayed from easing to status quo.
Twelve out of 20 leading research houses and treasurers contacted by BR Research expect no change on the basis of inflationary pressures seen persisting till Ramzan and the cautionary stance advised by the fund. In comparison, six houses are advocating a 50 basis points cut, given the increase in SBP reserves to cover two months of imports now; whereas, two houses are unsure about the decision this time around, but are confident about easing in the policy after.
On the flipside, the Ministry of Finance is leaning towards monetary easing. It is also dominating the board of State Bank with no effective say from the executives (economist) of the central bank. Inflation, though high in April, is at 8.7 percent for ten months and is expected to remain below nine percent for the full year. This mean real interest rate is around one percent and SBP has historically tried to keep it around zero.
The current account deficit is within one percent of GDP and foreign reserves have strengthened amidst currency’s stabilization. Plus, the fiscal deficit is within the permissible limits despite revenue shortfalls. Then the rollover risk within the domestic financing of deficit has been partially subsided by increasing the maturity profile. Almost $1.5 trillion of PIBs are issued that has resulted in over trillion rupees retirement of T-Bills.
Credit to private sector has already started building up; its disbursement is at Rs313 billion in the year to-date—2.5 times more than what it was last year. This is despite the fact that the growth in money supply is restricted to 5.36 percent as compared to 8.55 percent in the corresponding period of last year.
The good omen is that NFA-to-NDA ratio is much better now. NFA grew by Rs83 billion in ten months of this fiscal year (last year: down by Rs161bn) and on the flipside, NDA growth is trimmed by significant margins to Rs391 billion (last year: Rs815bn).
Monetary aggregates and other key economic fundamentals call for a rate cut and a dovish stance by the central bank. This is augmented by muted economic growth, which, according to BR Research expenditure method’s calculations, is around two percent for the first half (government estimates at 4.11%).
All this calls for a monetary impetus to stimulate growth momentum. And, that is why new appointed SBP’s deputy governor, an old pal of the Finance Minister, was publicly saying that good news is there for business community in this monetary policy. But, does this really mean a rate cut and further easing in subsequent reviews?
Market sentiments changed by this statement as yields on the government securities fell right after his statement. But then the inflation missed the consensus estimate by one percent margin to come at 9.2 percent and the market mood swung again. Meanwhile, the IMF country representative was tweaking for hawks at the SBP to go for hike in interest rates to counter inflation.
“The mission urged the SBP to remain vigilant on recent inflationary pressures in their monetary policy decisions, while continuing their ambitious programme to rebuild reserves. For FY2014/15, the authorities should target an additional reduction in inflation towards their medium-term goal of 6-7 percent.” This paragraph from the IMF’s press release on Saturday said it all. To bring inflation down to 6-7 percent there is a clear need to maintain rates high; hence status quo is the call!

Pre-MPS Survey
Number of respondents Stance Rationale
12 Status quo Uptick in April inflation; inflationary
expectation high due to Ramadan in July.
The IMF also wants SBP to be cautious.
6 50 bps cut "The main consideration in last MPS was
the reserve position, which has now
improved considerably."
2 Either no change or 50 bps cut "Interest rates have to go down eventually.
However, uncertain about the timing."

Source: BR Research poll of 20 leading market participants


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