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The monetary policy committee meeting is due tomorrow. Most analysts expect no change in the policy rate, which is currently at 15 percent. Macroeconomic indicators are not shaping well. External account vulnerabilities are growing as forex reserves are falling with not much inflow in sight. The IMF review is in limbo. Inflation is high and is expected to exceed SBP’s initial forecast of 18-20 percent.

Keeping this in view, an increase in interest rates could be the doctor’s order. However, the current account is coming under control. Although it is due to administrative controls, the demand is curtailing too. The core of the issue is fiscal where the slippages are not coming under control. And that places pressure on the external account.

When the tightening cycle started, SBP was quick to respond and increased the interest rate in quick successions. And the currency slipped too. Then brakes were applied. But the fiscal house did not come in line with what is required. Initially, petroleum prices were not revised. And now there are other kinds of slippages. On one hand, SBP is applying brakes whereas on the fiscal side the paddle is on the accelerator. A balanced approach is warranted. Given fiscal slippages, others may be hawkish in the monetary policy committee.

The market is not expecting any rate increase. Ministry of finance has not indicated anything in the recent T-bill auctions. The OMO injection is growing and it’s around Rs6 trillion. And SBP has issued recent OMOs at prevailing rates. This implies that SBP might not be thinking of any increase in the rate. The secondary market yields imply the same.

Still, the currency is not coming under control. The open market rates are at steep premium to the interbank rates. SBP is informally instructing banks to settle imports payment (excluding petroleum) through their export proceeds. That is putting pressure on imports to lower current account deficit. But at the same time, remittances are falling from formal channels, and exports are stagnating due to recessionary fears in the buyer markets.

On one hand, demand has been restrained through higher consumer prices and falling real incomes. But on the other hand, running negative real interest rates is boosting demand in certain areas. Falling currency and lower rates on savings (than inflation) is making some prepone consumption. The balance is missing.

The balance can well be achieved through fiscal consolidation. And the external account vulnerabilities need more than current account deficit reduction. The current account is under control. The problem is external financing. That is drying up due to the lingering on of the current IMF review. And that is being delayed due to fiscal slippages, and the need is to do more on the fiscal side to bring macroeconomy in balance.

No support is forthcoming from Qatar and UAE. Now all bets are on Saudi Arabia and China, along with the IMF. Here, the issue is of political uncertainties which is not allowing the incumbents to take right fiscal decisions. All eyes are on one key appointment, and the monetary policy committee might see with keen interest. The outcome could have political implications and in turn have fiscal implications as well.

The bottom line is that SBP might not increase the interest rates this time. But it might have revised growth and inflation target. It may not offer any forward guidance. And the next decision on interest rates and exchange rate outlook would depend on to what extent the government consolidates the fiscal house in the next two months.

Comments

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Haroon Nov 24, 2022 06:48pm
The real problem from the start has been continuous fiscal expansion. Monetary policy has been rather ineffective in Pakistan, historically speaking, because the government essentially borrows all the savings, and it borrows at any rate. So, the monetary policy transmission is very weak in Pakistan and rise in interest rates do not bring about the reduction in demand/borrowing as it should. This is a structural issue which can only be addressed by reducing government footprint in the country.
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IMTIAZ CASSUM AGBOATWALA Nov 24, 2022 11:02pm
Good, balanced analysis.
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