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EDITORIAL: The drip-by-drip currency depreciation compels the State Bank of Pakistan (SBP) to take quick decisions to counter the mounting worries on the external front. One such move is hastening monetary policy announcement by a week. This is in addition to an unconventional tightening step taken last week of increasing the Cash Reserves Requirement (CRR) for banks by 1 percent. The SBP has already put some curbs on consumer finance and imposed a 100 percent cash margin on certain imports. All these steps might not be enough, and the central bank may need to do more — Dr Inayat Hussain, the newly-appointed Deputy Governor at SBP during a briefing to National Assembly Standing Committee on Finance. Similar sentiments of concern and urgency are discernable in the SBP press release through which it announced the new date of its Monetary Policy Committee’s meeting. It will be held today due to recent unforeseen developments that have affected the outlook on inflation and the balance of payments. The meeting is expected to reduce the uncertainty about monetary policy settings prevailing in the market.

It is increasingly becoming clearer that the central bank is not comfortable with the recent currency depreciation. The currency fluctuations are market-based and the SBP only intervenes to counter disorderly market conditions. In other words, its ‘interference’ is strictly aimed at curbing daily volatility in the market. There is no such volatility. But the slow and almost daily depreciation is sending jitters to the market and putting immense pressure on the SBP. The pressure on the external account is due to both factors; the growing demand and soaring international commodity prices. This is challenging SBP’s inflation outlook and current monetary policy settings. On top of that, currency depreciation is worsening (movement in one direction fuelling heavy speculation) and so is the inflation outlook. The growing inflation differential between Pakistan and its trading partners (and competitors) is putting pressure on the currency. One possible way of countering it is to reduce the interest rate differential by increasing the policy rate. That perhaps may well be the reason for calling the meeting earlier.

Meanwhile, the IMF (International Monetary Fund) review completion has been hanging in the balance for over a month. That is draining market confidence in the currency. The news of deposits coming in from Saudi Arabia along with deferred oil payment agreement swung the balance in Pakistan’s favour. The PKR/USD parity came back to 170 from 175 on that news. However, the continuous delay in the IMF and Saudi deposits not coming in (yet) has dampened the confidence again and the currency parity moved back to 175. Seeing that, the SBP made a surprisingly blunt move to increase the CRR by 1 percent to 6 percent (on average). This step wiped out Rs150-170 billion from the banking system in a flash. Usually, such steps are clubbed with monetary policy announcement – as was done in 2008. The present situation, however, has required the SBP to show urgency by taking a swift action.

The decision taken (earlier than the monetary policy meeting) was perhaps aimed at arresting the currency depreciation trend. It did work to a certain extent as in three trading sessions after that move on the week-end, the currency was back to below 174 levels. The question is: what would be SBP’s decision today? For the past few policy communications, SBP has been providing forward guidance. In the last review, the central bank said that looking ahead in the absence of unforeseen circumstances, the monetary policy will be accommodative in the near term, However, in the press release calling for an MPC earlier than scheduled, it mentioned that there are recent unforeseen developments. Based on the previous forward guidance and the press release, it is likely that the monetary policy stance may not be accommodating anymore. This means prospect of a meagre hike in the policy rate is almost nil. The likelihood is of a higher increase. However, the SBP may not want to sway too far away from its forward guidance. This means having an increase of over 100 basis points (bps) is also unlikely. Plus, the CRR increase already has a monetary- tightening effect to curb demand. Thus, considering already taken decisions and the forward guidance, options are narrowing down to a 75-100 bps hike in the policy rate today.

Copyright Business Recorder, 2021


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