As expected, policy rate has been maintained at 15 percent. SBP expects average inflation to be higher than its initial estimate of 18-20 percent during this fiscal. There is an increase in the degree of accommodation in the monetary policy as real rates are more in the red. Savers are not compensated on their savings in PKR. The key objective is to control the current account deficit and for that demand must be curtailed. SBP is of the view that demand destruction through combination of policy intervention and floods is offering enough cushion to keep the current account in check at 3 percent of GDP. Although, SBP is still not allowing imports to take place freely. The newly appointed duo – Finance Minister and Governor, have promised to clear the backlog (retiring of L/Cs). However, products such as cars and phones would still be rationed (fresh L/Cs issuance).

SBP is running a risk of macro prudence. One, it needs to closely monitor the fiscal policy. There are signs of slippages – such as freezing of petroleum levy, and relief in other energy prices. Then, higher spending is expected due to the floods. If fiscal policy remains accommodating, SBP might have to tighten screws.

The other is the trade-off between the interest rate and exchange rate. Real rates are declining (with higher inflationary expectations) and the currency is appreciating against USD at a time when the USD index is at a multidecade peak. The currency is appreciating on daily basis. SBP is not buying dollars. Its exporters and remitters who are sending more. These were holding the amounts earlier. Soon, the equilibrium rate shall be reached. The real test would be at that time as the finance minister may like to force his wish of bringing PKR/USD below 200.

An ideal scenario would be for SBP to buy dollars to bring stability in the external account. And on the fiscal side, a prudent approach could be to increase the petroleum taxes when the oil prices were falling instead of lowering the consumer prices. Now, oil prices are increasing again in international markets, and the foreign currency inflows will taper off.

Seeing this, SBP may need to remain a little hawkish. First objective should be to end the administrative control on imports before any easing. The current account (minus oil imports) is in surplus for the last five out of six months. But still, SBP is not opening up chapter 84 and 85 imports. The key is oil prices, and its consumption. There is some decline in petroleum and electricity consumption. That is due to higher prices and floods disruptions. If energy prices come down, there is a risk of petroleum imports growing again.

SBP is revising its GDP growth forecast to 2 percent from existing 3-4 percent. The actual number might be lower. The current account is likely to remain tamed. Rising oil price is a risk. Barring that, low demand and other current transfers (flood relief assistance) would be enough to compensate for the loss of agri produce. And SBP may not ease the administrative control on L/Cs till other elements come in place. That has given SBP comfort to run real negative rates.