The discount rate set by the Monetary Policy Committee (MPC) chaired by Governor State Bank of Pakistan (SBP) Dr Reza Baqir has been linked to the rate applicable on national savings schemes. A high discount rate would imply, so goes the argument, a high rate for private savers, particularly the retired and those on a fixed income, thereby enabling them to sustain their quality of life by withstanding inflationary pressures. Or such has been the rationale presented to Pakistani prime ministers, including the incumbent.
Does this rationale have any traction in reality? The rates applicable on four popular products of National Savings Centres after the MPC raised the discount rate to 13.25 percent on 20 July 2019 (effective till March 2020), were as follows: (i) Behbood (allowed to be purchased by the over 60s with a cap of 50 lakh rupees) had a rate of return from 1 July-to 31 October 2019 of 14.76 percent, reduced to 12.48 percent in December 2019 and again to 12.24 percent in January 2020; (ii) regular income certificates 1 July to 31 October 2019 gave a rate of return of 12.96 percent, which was downgraded to 10.56 percent in January 2020; (ii) special savings certificates on 1 July 2019 to 31 October 2019 gave a rate of return of 12.70 percent, and 11 percent from 1 November 2019 to 23 April; and (iv) defence savings certificates carried a rate of return of 13.01 percent on 1 July 2019, reduced to 10.68 percent on 1 November 2019 and again to 10.40 percent on 1 January 2020. In other words, while the discount rate remained at 13.25 percent the rates of all products of the national savings centre were revised downward at least twice with some products rate of return revise downward thrice.
By June 2020 in an attempt to deal with the pandemic the SBP reduced the discount rate over a three-month period to 7 percent (which it maintains to this day). Behbood rate was reduced to 9.96 percent in July 2020, (from 10.32 percent in April), regular income certificates rate was reduced to 7.44 percent (from 8.28 percent in April 2020), special savings certificates rate reduced to 7 percent from 7.1 percent in April 2020 and defense certificates from 8.54 percent in April 2020 to 8.1 percent in July 2020. Since then the rates on all savings products have continued to be adjusted while the discount rate has remained constant at 7 percent.
Thus a direct linkage between the discount rate and the rate for products on offer by the national savings centers is tenuous at best. The question is what is the primary motivation of the government in raising savings rates (or reducing them)? Is it to attract private savings to fund the budget deficit which incidentally has been at an unsustainable level (above 8 percent) during the three years that the Khan administration has been in power? The fiscal deficit (reflecting negative government savings) was cited at 1.430 trillion rupees July-February 2019-20 and 1.309 trillion rupees in the comparable period of 2020-21. The reason for the reduction in expenditure: the largesse of the G-7’s debt relief initiative - deferral of interest payable/loan repayment for one year due to the pandemic which amounted to 1.2 trillion rupees last year – almost the exact amount of the reduction in budgeted outlay this year compared to the year before though the actual/realised figures are expected to be released sometime in August this year.
Development expenditure was budgeted to be reduced by 50 billion rupees in the current year in comparison to last year – so much for claims by Hafeez Sheikh that the budget 2020-21 was growth oriented. The government raised its reliance on debt to finance its current expenditure - domestic debt rose to over 25 trillion rupees early this year from 16.5 trillion rupees that this administration inherited and foreign debt rose by nearly 22 billion dollars with 17 billion dollars used to pay past debt and five billion dollars to fund the government’s current expenditure.
Domestic debt (unfunded) includes access to national savings schemes which rose to 3.45 trillion rupees (July-March 2020) in comparison to 2.86 trillion rupees for the entire 2018. Unfortunately, the rise in savings had little to do with the change in consumption patterns of the private sector and more to do with the: (i) smart lockdown associated with the pandemic; and (ii) decline in domestic output which began after the government began implementing the upfront harsh monetary and fiscal contractionary policies on the one hand and the significant rise in prices of imported items associated with a massive rupee depreciation on the other.
Interest rate is not the only determinant of private savings as income and the rate of inflation are also contributory factors. In 2021 budget the government froze salaries of public sector employees including defense personnel (though it subsequently raised salaries of all protesting groups) while the private sector had begun to scale down output due to a high discount rate and high taxes pre-pandemic (before March 2020) which led to negative 27 percent large scale manufacturing growth. This in turn prompted the private sector to at best freeze salaries (and in many cases reduce salaries) and at worst lay people off with reports indicating that on average 50 percent of workforce was made redundant in the services sector as well as in the manufacturing sector. Even today with easing of these policies to deal with the pandemic Pakistan’s discount rate remains high relative to regional countries (though it has finally begun to match core inflation) while tax reforms are yet to be implemented with reliance continuing on the low hanging fruit notably taxing the already taxed. Thus the capacity of the public to save remains severely compromised.
The savings investment identity as per economic theory determines the need for foreign savings through borrowing or attracting hot money – both representing high costs to an already fragile economy like Pakistan. Our savings rate has historically been very low in comparison to other regional countries – between 11 and 10 percent of GDP at best though as per the International Monetary Fund’s latest report it was 14.3 percent in 2019-20 (with negative 5.4 percent government savings and 19.7 percent private savings including public sector enterprises) and projected at 14 percent for this year (with negative 4.6 percent government savings and 18.6 percent non-government including PSEs). One would be well advised to reserve judgment till the final government deficit figures are released – a necessary precaution as validly noted by the IMF given that all projections are contingent on the government adhering to the agreed time-bound conditions and structural benchmarks which, the country has been informed by the newly-appointed Finance Minister, are not likely. The rate of inflation, especially food inflation as well as the rate of rise in utility prices, if any, and the income levels would further impact significantly on savings rate.
So when does the government tweak national savings rate? It raises rates when it needs cash to fund its expenditure and is often tempted to reduce rates to show lower interest payments on domestic debt in the budget. Sadly, while this is not the most efficient use of private savings in a country with significant shortfall in the provision of social and physical infrastructure yet this does not stop many a federal minister from constantly harping on public private partnerships premised not on national savings but on borrowings, exemptions and other fiscal and monetary incentives.
Copyright Business Recorder, 2021
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