An analysis by this writer ‘Policy Rate Hike-Weak Rupee can be deadly combination’ was carried by this newspaper on Sept 20, 2021. Some friends in the financial circles got annoyed and some of them took it lightly while some said the SBP rate hike should have been 50 basis points instead of 25 basis points. No one was ready to take a considered view.
It was the first hint of extremely tough times ahead, which this writer tried to convey about two months ago. The rate hike was followed by a sharp depreciation of Rupee that lost nearly 11% its value against the US dollar in the current fiscal year. Electricity and gas prices were hiked and more hikes are in the pipeline. Petroleum prices were jacked up eleven days before the due date. To contain money supply, Cash Reserve Requirement (CRR) has been increased to 6% that will drain out nearly Rs 175 billion at zero percent and the banking sector will take a hit of few billions. State Bank of Pakistan (SBP) decided to convene Monetary Policy Committee (MPC) meeting on November 19 instead of its previously announced date of November 26, 2021.
Through its monetary policy instrument, SBP manages the cash flows and changes the cost of money accordingly. When it hikes rate, loans/borrowings/imports become expensive. Yes, it attracts savers.
According to an advisor to the PM, a higher growth rate could hurt the economy, which is why it should be capped below 5.5%. Ideally, a loan to deposit ratio of 80% plus is considered healthy for any economy. Based on Advance/Deposit/ratio, ours has plunged to the lowest level 46.86%, which in my view is the crux of the problem. This means if we take a look at the bank investments in the Government of Pakistan Holdings in the last over 10-years, our private sector has been deprived of well over Rs 10 trillion. Imagine if this amount is leveraged over the years.
The market is very confused about the economic direction due to jargon. When the large part of the population is struggling to find jobs slowing down of growth will not be a wise move.
During the pandemic, monetary easing in combination with Ehsaas programme was a step in the right direction, but it was and is not a solution to the problem. In real terms, no government in the past four decades was successful to shift the economic direction into positive territory. Every government made false claims or else Pakistan wouldn’t have approached the IMF on more than 20 occasions and looks ready for the next.
In Pakistan, unlike the advanced economies, we do not have supply chain disruption problems, yes freight charges have increased sharply. The government cannot be blamed and held responsible for higher oil prices in the international market, nor are we faced with labour shortages if we look at the poverty rate. However, blaming higher global food prices is not a plausible argument. Instead due to ill-conceived and outdated fiscal policies the government missed out on an excellent opportunity to increase the exports earnings in the food sector. In the 3-year period, wheat was sowed nearly 6 times and sugarcane 4 times, we failed to capitalize due to policy flaws and yet we are putting all the blame on higher commodity prices and are unsure about the future direction that can still be corrected.
Earlier, assuming if the Saudi solution was available, then we have failed to utilise $ 3 billion deferred oil facility when it was trading well below USD 50 per barrel. An oil deal would have been of considerable help in improving our cash flows and the overall funding cost. However, despite poor job conditions, which are not available in proportion to annual population growth, higher energy prices and with inflation picking up at a faster pace due to higher commodity prices but the risk of a forceful premature slowing down of the economy could be a costly affair that could take the economy closer to stagflation and choke growth.
Monetary policy
This time Monetary Policy statement is being issued ahead of the originally announced date. The primary objective is to effectively manage inflation, reduce unemployment and to have a better grip on the exchange rate.
In times of Covid-19, central banks (CBs) around the globe adopted a strategy on monetary policy that reflected monetary easing. Faced with a cash crunch and the challenge to avoid recession/stagflation, CBs around the world (advanced economies) lowered their interest rates to zero, which in essence means negative rate due to higher inflation. Central Banks of G10 economies expanded the money supply by buying debt, which is commonly known as quantitative easing.
If we look at recent history, leveraging of economies was successfully done by the UK and the US in the 1970s. Monetarism is the expansionary tool, effectively used by the UK and the US to escape the “liquidity trap”. And cash flow is managed through Open Market Operations (OMOs) that play a vital role in guiding interest rate direction.
In Pakistan, too, the OMO (Open Market Operation) is now over a decade old product. But our model differs and we practice differently with a different purpose. SBP has been regularly pumping liquidity through OMOs, but the purpose is not to stimulate the economy. It is because of the IMF’s major conditionality that demands the government take drastic steps to consolidate finances and reduce deficit that can only be achieved through austerity. Limiting fiscal discount to almost 5 percent, however, is impossible and is likely to surpass 7 percent. This is why the sole purpose of ‘Helicopter Money’ courtesy “OMO” is to invest funds in the Government of Pakistan (GOP) Holdings, T/bills, bonds & Sukuk.
Hence, bank/corporate investments in GOP are 38% higher than the bank advances to private sector while currency in circulation has reached nearly 36% of the total bank deposits of Rs 19.83 trillion.
In my view, the policy rate will increase by 100 basis points. As the year- end approaches any hike of policy rate will lead to huge losses for Banks/Non-Banks and Corporates that are already holding government paper worth Rs 16.3 trillion. Nearly half of them are of longer maturity. Impact of T/bills holdings, which is Rs 8 trillion, will be much less due to early maturity.
But the toughest task and a big challenge is passing the bill to amend the SBP act 1956 that requires parliament’s approval. In case it does not get the parliamentary sanction, it is not known whether or not the IMF will continue with its programme.
(The writer is former Country Treasurer of Chase Manhattan Bank. The views expressed in this article are not necessarily those
of the newspaper)
Copyright Business Recorder, 2021
(The writer is former Country Treasurer of Chase Manhattan Bank. The views expressed in this article are not necessarily those of the newspaper)
He tweets @asadcmka
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