July 26, 2021 (MLN): The State Bank of Pakistan (SBP)’s Monetary Policy Committee (MPC) is scheduled to convene tomorrow i.e., July 27, 2021, to announce Monetary Policy for the next two months.
According to the market participants, amid fear of limiting economic activities due to surge in Covid-19 cases, the MPC of the State Bank is likely to maintain the status quo at its next monetary policy meeting and keep real interest rates below zero on a forward-looking basis as an extraordinary need for liquidity and low financing cost is required yet again to support the economy. Moreover, inflation is likely to remain manageable in the coming months due to high base effect along with stable oil prices on the local front which may also refrain the MPC from tinkering with the interest rate.
To recall, the Central Bank has kept the policy rate unchanged at 7% for the last 13 months to support growth in the wake of COVID-induced lockdown. The expectations of unchanged policy stance are based on SBP's forward guidance from last MPS wherein it stated that “In the absence of unforeseen developments, the MPS expects monetary policy to remain accommodative in the near term, and any adjustments in the policy rate to be measured and gradual to achieve mildly positive real interest rates over time.”
Since the last Monetary policy announcement, it has been noticed that the continued spell of the Current Account surplus has come to an end, posting the Current Account deficit (CAD) of $1.64bn in Jun’21 compared to the deficit of $632mn, showing a growth of 160%MoM. Despite rise in remittances numbers by 8%MoM in Jun’21, the reason behind the rise in the Current Account deficit was mainly the rise in Trade Deficit which ballooned by 35%MoM to $3.83bn compared to May’21 figures. This rise in Trade Deficit was mainly the reason of the rise in imports which rose by 28%MoM to $6.32bn compared to $4.95bn in May’21.
Meanwhile, it is important to note that the $1.6bn current account deficit included some year-end one-offs. Normalizing for these one-offs would give a figure of around $1.0bn and if CAD remains at this level during Q1FY22 given higher international commodity prices and robust domestic demand, it is expected that the SBP would reconsider its stance at the MPC meeting in Sept’21. For the time being, SBP would use exchange rate to rein in imports, and immediate pressure on the financial account is not anticipated given ample FX reserves, a report by Foundation Securities cited.
Conversely, on yearly basis, CAD remained at $1.852bn in FY21 compared to $4.449bn inFY20.
In addition, Senior Economist Muzammil Aslam expected SBP to give the signal of tight policy in tomorrow’s meeting to counter imbalances. According to him, commodity prices in the international market will remain elevated in the near term which suggests that inflationary pressures will persist in the coming months. Moreover, PKR has depreciated over 4% against USD since May’21. Further depreciation in Rupee will also lead to inflationary pressures going forward by raising import bill as during July’21, Rupee-Dollar parity was fairly weak despite ample forex reserves.
Headline inflation during FY21 averaged at 8.9% YoY compared to 10.77% YoY in FY20. During Jun’21 inflation has notably declined by 24bps MoM compared to rise of 10bps MoM in May’21, mainly due to decline in the Food index by 1.8% MoM in Jun’21. Looking ahead, PKR depreciation against USD could create hurdles in the coming months. Moreover, an upsurge in food prices due to supply constraints and hike in energy tariff as per IMF requirements are also threats for inflation.
On the money market front, inverted money market yields also indicating a status quo in the upcoming MPC meeting. According to the report by Shajar Capital, robust participation in the T-bill auction during the last two months of FY21 has been witnessed. In the secondary market, yields declined by 16bps and 12bps respectively for the 3M and 6M tenors as of 19th Jul’21. The latest auction of 15th Jul’21 has raised Rs693bn for SBP against the target amount of Rs700bn. As per the report, cut-off yields have notably declined by 9bps and 5bps respectively for the 3M and 6M tenors. During the last two months, SBP has raised more than Rs4,31trn from Money Market in order to meet budgetary expenditures for the year FY21.
A poll conducted by Topline Securities also directing towards unchanged policy stance in tomorrow’s meeting as about 89% of the participants are expecting no change in the Policy Rate in the upcoming MPS, 7% of the participants expect an increase of 25bps in the Policy Rate, while 4% of the participants anticipate an increase of 50bps.
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