State Bank of Pakistan (SBP) on Monday, decided to keep policy rate unchanged at 21 percent on expectations of ease in inflation and subdued domestic demand. The decision was made in a meeting of the Monetary Policy Committee (MPC) that noted that higher inflation out-turns for April and May were broadly as anticipated while a sequential ease was also noted in inflation expectations of both consumers and businesses from their recent peaks, said a statement issued here. Reduced demand-side pressures and ease in inflation expectations, along with moderating global commodity prices and high base effect, would help bring inflation down from June 2023 onwards, the MPC assessed and termed continuity of the current policy stance as necessary to bring inflation down to the medium-term target range of 5 – 7 percent by the end of FY25. It is “expected that domestic demand to remain subdued amid tight monetary stance, domestic uncertainty and continuing stress on external account”, the MPC noted. The Committee while reviewing multiple important developments during previous two months observed that current account balance recorded back-to-back surpluses in March and April 2023, which reduced some pressures on foreign exchange reserves while global commodity prices and financial conditions have eased recently and were expected to persist in near term. However, the provisional National Accounts estimates show real GDP growth to have decelerated considerably during FY23 while budget 2023-24 unveiled by government on June 9 envisages a slightly contractionary fiscal stance against the revised estimates for FY23. As per provisional National Accounts estimates, real GDP grew by 0.3 percent in FY23, from the revised FY22 growth of 6.1 percent because of contraction in value addition of industry due to several adverse domestic and external factors while services sector grew at the slowest pace since the COVID-impacted FY20. The MPC noted that agriculture sector growth was lower than last year but better than post-flood expectations, as bumper sugarcane and wheat crops and robust growth in the livestock sector largely offset the flood-related damages to cotton and rice crops. The agriculture sector is expected to post an improved performance relative to the outgoing fiscal year if weather conditions remain favourable. Trends in high-frequency indicators, especially double-digit declines in volumes of auto, POL and domestic cement sales and contraction in large-scale manufacturing during the course of the fiscal year contributed to slowdown in economic activity, the MPC noted adding that those trends were expected to continue in the near term due to the accumulated impact of tight policies. The committee observed that current account continued to respond to the demand-compression policies and regulatory mix, with the deficit during Jul-Apr FY23 dropping to $3.3 billion, less than one-fourth of last year’s deficit. It added that the policy-induced contraction in imports more than offset the drop in exports and remittances. The Committee noted that the narrowing of the current account deficit has somewhat contained pressures on the foreign exchange reserves and the inter-bank exchange rate, which has broadly remained stable since the last MPC meeting. However, debt repayments amid lower fresh disbursements and weak investment inflows continue to exert pressure on the foreign exchange reserves. Under the baseline assumptions of relatively favourable outlook for commodity prices and moderate domestic economic recovery next year, the MPC viewed that current account deficit would broadly remain in check. The MPC observed that fiscal position has improved in cumulative terms during Jul-Mar FY23, as the fiscal deficit reduced slightly to 3.6 percent of GDP from 3.9 percent last year, while the primary balance posted a surplus of 0.6 percent of GDP this year against a deficit last year. Notwithstanding this cumulative improvement, there has been some deterioration in fiscal indicators in Q3, largely reflecting an increase in non-interest current expenditures, mainly subsidies, and a significant deceleration in the pace of overall tax revenue, it further stated. The MPC pointed out that usual end-year increase in developmental spending and further slowdown in revenue collection amidst substantial slowdown in domestic economic activity and contraction in imports might further increase the fiscal deficit in Q4. The revised estimates for FY23 depicted fiscal deficit at 7.0 % and primary deficit at 0.5 % of GDP while FY24 budget envisaged the fiscal deficit at 6.5 percent and a primary surplus of 0.4 percent of GDP. The MPC noted that while the target for the overall fiscal deficit was not significantly different from the revised estimate for FY23, strictly adhering to it was imperative to contain inflationary and external account pressures. The committee further noted that broad money (M2) growth decelerated in May 2023 compared to last year, largely due to a substantial fall in private sector credit (PSC) and a contraction in net foreign assets of the banking system. The NPC observed that yearly growth in PSC decelerated to 7.1 percent in April 2023, substantially lower than 22.3 percent in April 2022 while PSC saw net retirement for the fourth consecutive month in April due to reduction in demand for working capital and consumer loans in the wake of subdued economic activity and high borrowing costs. The national CPI inflation rose to 38 percent in May 2023, pushing the average inflation to 29.2 percent during Jul-May FY23, compared to 11.3 percent in the same period last year, the NPC observed adding that inflation remained broad-based, with food continuing to contribute more than half to the overall inflation in May. Within food, prices of few essential non-perishable items rose quite significantly in May, mainly due to domestic supply chain issues. Core inflation maintained its upward trajectory, albeit at a slower pace, mainly indicating the second-round impact of higher food and energy prices and exchange rate depreciation amid still elevated inflation expectations.