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| Yaseen Anwar, Governor SBP |
By Mohammad Nazakat Ali
(Pakistan News & Features Services)
The State Bank of Pakistan (SBP) has decided to reduce the
policy rate by 50 basis points to bring it down to 9 percent with effect from
June 24, 2013.
This was decided by the Central Board of Directors of the
State Bank of Pakistan at its meeting held under the chairmanship of SBP
Governor, Yaseen Anwar, in Karachi on June 21.
According to the Monetary Policy Decision, the SBP has
decided to place a higher weight to declining inflation and low private sector
credit relative to risks to the balance of payments position.
Following is the complete text of the Monetary Policy
decision:
“There has been a discernible positive change in sentiments
post May 2013 elections because of clarity on the political front. The change
in the behavior of banks in auctions of government securities and reaction of
stock market are two examples. Importantly, there has been a considerable
improvement in SBP conducted surveys of consumer confidence, expected economic
conditions, and inflation expectations. The absence of foreign financial
inflows and high fiscal borrowings from the banking system, however, remain
formidable economic challenges, especially for monetary policy. Similarly,
power shortages and security conditions continue to be strong impediments to
growth.”
“An almost continuous and broad based deceleration in
inflation over the last year has had a favorable impact on inflation outlook –
a key variable in monetary policy decisions. In May 2013, the
year-on-year CPI inflation was 5.1 percent while trimmed measure of core
inflation was 6.7 percent; the lowest levels since October 2009. The average
CPI inflation for FY13 is expected to be at least two percentage points below
the target of 9.5 percent.”
“However, in the latest budget the government has announced
an increase of 1 percentage point in the General Sales Tax (GST), from 16
percent to 17 percent, and changes in the tax structure for some goods and
services. In addition, the government is considering a phase-wise upward
adjustment in electricity tariff. The exact magnitude and timing of this
adjustment is yet to be decided. Therefore, there is a risk that average
inflation for FY14 could exceed the announced target of 8 percent for the year.
However, aggregate demand in the economy is expected to remain moderate, which
could have a dampening effect on inflation.”
“A reflection of the current declining trend in inflation can
be seen in the muted real economic activity, especially private investment
expenditures. Beset by energy shortages and law and order conditions, the GDP
growth has struggled to ameliorate in the last few years and this year was no
exception. The provisional estimate of GDP growth for FY13 is 3.6 percent,
which is lower than the 4.3 percent target for the year. Similarly, private
fixed capital formation has decreased by 1.8 percent – the fifth consecutive
year of a declining trend. Although there has been an encouraging uptick in the
growth of Large Scale Manufacturing (LSM) sector, 4.8 percent in April 2013, it
is too early to term it as an emerging trend.”
“A declining inflation trend and below potential GDP growth
make a case for further reduction in the policy rate. The argument is twofold.
First, the SBP has been giving a relatively high priority to inflation in its
monetary policy decisions over the last few years. Thus, continuing to do so
would indicate consistency in the monetary policy stance. Second, without
further reduction in the policy rate, the real interest rate – policy rate
minus expected inflation – would increase due to declining inflation. High real
interest rates are not helpful for supporting private investment in the
economy.”
“However, as indicated in the last monetary policy decision,
the current balance of payments position and a structural imbalance in fiscal
accounts suggest vigilance. The stress in the balance of payments position was
a prime consideration in maintaining the policy rate at 9.5 percent in the last
two monetary policy decisions. The basic argument has been that the return on
rupee denominated assets needs to be sufficiently attractive to discourage
speculative demand for dollars.”
“There is no significant revision in the assessment of the
balance of payments position since the last monetary policy decision. The
external current account deficit is expected to remain manageable, around 1
percent of GDP for FY13, signifying very low risk from this source for the
external accounts. The real challenge continues to emanate from the lack of
financial inflows. Let alone finance the small current account deficit, there
has been a cumulative net capital and financial outflow of $143 million during
the first eleven months of the current fiscal year. Add to this the on-going
payments of IMF loans and it becomes clear that the pressure on foreign
exchange reserves has not abated. As of 14th June 2013, SBP’s foreign exchange
reserves stand at $6.2 billion.”
“There are two developments, however, that are worth
highlighting. First, there has been a noticeable change in sentiments, as
highlighted above, that can potentially have a favorable influence on private
financial inflows. Other than the overall economic outlook, investment
decisions do take into account the relative political certainty that determines
the continuation of economic policies for some time in the future. Second,
declining inflation has increased the relative real return on rupee denominated
assets. This could provide some room for downward adjustment in nominal returns
to cater to broad macroeconomic considerations despite external account
concerns.”
“In this context, a lot depends on the fiscal outlook. The
fiscal deficit for FY13 has been estimated to reach 8.8 percent of GDP, which
is considerably higher than earlier projections. The source of deviation is
structural and well known – low tax revenues due to absence of meaningful tax
reforms and continuation of untargeted subsidies without comprehensively
addressing the energy sector problems. For FY14, the federal government has
announced a provisional estimate of 6.3 percent of GDP. “
“From the monetary policy perspective, it is the financing
pressure of the fiscal position that is the source of stress. Due to almost
zero net external financing in FY13, the burden of financing the sizeable
deficit of 8.8 percent has fallen disproportionately on domestic sources, in
particular the banking system. During 1st July – 7th June, FY13, fiscal
borrowings from the banking system for budgetary support were Rs1230 billion,
including Rs413 billion from the SBP. The high level of these borrowings has
kept an upward pressure on the system’s liquidity and thus short term market
interest rates and is restraining growth in the private sector credit.”
“If the economy is to reap the benefits of evolving positive
sentiments and lure the domestic as well as foreign investors then
implementation of a reform oriented and credible medium term fiscal outlook is
essential. On its part, the Central Board of Directors of SBP has decided to
place a higher weight to declining inflation and low private sector credit
relative to risks to the balance of payments position. Therefore, the policy
rate is being reduced by 50 basis points, to 9 percent, with effect from 24th
June 2013.”
