Amid growing economic challenges, SBP hikes key interest rate to 8.5%

Author: Abrar Hamza

KARACHI: The State Bank of Pakistan (SBP) Saturday said that in light of the current and evolving macroeconomic situation, the Monetary Policy Committee (MPC) has decided to raise the target policy rate by 100 bps from 7.5% to 8.5% effective from October 1, 2018.

The committee noted that while non-oil imports are responding to the concretionary measures, a surge in oil prices is masking the improvement and as a result the current account deficit remains high. Rising trends in inflation mean that real interest rates have fallen. The unfolding global developments, whether in terms of oil price shocks, protectionist trade policies and/or falling flows to the emerging markets, all pose challenges to the macroeconomic management in Pakistan.

The SBP said since July 2018, Pakistan has witnessed notable changes on the political front. This has had a positive impact on the business and consumer confidence in the country as reflected in multiple surveys. The smooth transition between governments addressed the political uncertainty observed hitherto but concerns on the economic front continue to persist on the back of rising inflation and large twin deficits, that are likely to compromise the sustainability of the high real economic growth path.

“Inflation is inching up, particularly from March 2018 onwards. So far, in the first two months of FY19, headline CPI inflation has averaged 5.8 percent as compared to 3.2 percent for the corresponding months of FY18, and an average of 3.9 for all of FY18. The jump is even more pronounced in core inflation – a key measure reflecting the underlying inflationary pressures in the economy,” the bank said.

For FY19, SBP’s inflation projections show that the average headline inflation is expected to fall in the revised forecast range of 6.5-7.5 percent due to a higher than anticipated increase in international oil prices; an upward revision in domestic gas prices; a further increase in regulatory duties on imports; and the continuing second round impact of previous exchange rate depreciations.

Following a healthy growth of 5.8 percent in FY18, economic activity is likely to slowdown in FY19 as the general macroeconomic policy mix is focusing towards stabilization, the central bank said.

The SBP said the recent monetary and fiscal measures are likely to affect large scale manufacturing. Furthermore, the latest information shows that cotton production is expected to miss its FY19 target of 14.4 million bales with downside implications for agriculture sector growth.

The ancillary services sector is expected to miss its FY19 target as well. Some positive impact is expected from the contribution of exports led production and higher fertilizer production amidst depleting stocks and better availability of energy. After incorporating the latest information on both demand and supply, the SBP projected the real GDP growth for FY19 at around 5.0 percent.

The central bank stated that the current account deficit continues to pose a challenge. Despite some growth in workers’ remittances and exports in the first two months of FY19, a notable increase in the value of oil imports has kept the current account deficit at US$2.7 billion, as compared to US$2.5 billion in the corresponding period last year despite non-oil imports declining during the period. Owing to these developments, SBP’s net liquid FX reserves have declined to US$ 9.0 billion as of September 19, 2018, compared to US$ 9.8 billion at the end of FY18, it added.

Published in Daily Times, September 30th 2018.

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