January 25, 2021 (MLN): With the increasing confidence in economic stability, the State Bank of Pakistan (SBP) unsurprisingly maintained the policy rate at 7 percent for the third consecutive time in a recent monetary policy meeting.
This confidence in economic stability allowed the central bank to provide guidance on future course to facilitate policy predictability and decision making by economic agents, and update its policy-setting approach with greater emphasis on external account stability than inflation.
In the absence of unforeseen developments particularly external shocks, the MPC expects monetary policy settings to remain unchanged in the near term, at least till the next MPC. Moreover, as the economy returns to full capacity, at that time when there is a need to change rates, the MPC expects to take gradual measures to achieve mildly positive real interest rates.
In the subsequent analyst briefing, SBP maintained that the current trend in inflation is broadly in line with its FY21 inflation expectation of 7%-9% and while medium-term target of 5-7% may be achieved earlier than expected as recent inflation out-turns, declining supply-side pressures from food and still-benign core inflation have been very encouraging. However, SBP flagged rising utility tariffs and supply-shocks on food items to have some short-term effects on inflation as observed earlier, but the impact is relatively transient, and it will not be able to seep through various parts of the CPI basket.
Simultaneously, the SBP did not deny any possibility of temporary supply-side shocks, to which the current accommodative stance remains well-anchored amid nascent recovery
The SBP Governor during the briefing said the economic situation of now is very different in comparison to that of when we went into the IMF program. The economy is now much more stable with SBP’s comfortable on the external front. The resumption of IMF would not have any impact on the approach of SBP towards setting policy rate.
Regarding the IMF program, he said we are going into the IMF program very soon. This time around IMF program focus would remain on energy sector reforms and attainment of fiscal targets. From the economic front, IMF's role would remain supportive for nascent recovery. In addition to this, SBP believes the economy to grow at 2% in FY21 given broad-based growth in Large Scale Manufacturing and offsetting of growth in cash crops with that of decline in cotton production. However, Central Bank would expect upside risk to its growth estimates despite lower projections by global institutions, he added.
The SBP also highlighted that financial conditions remained appropriately accommodative with negative real interest rates. Private sector credit is now recovering on the back of fixed investment supported by the SBP refinance facility. As per Business Confidence Survey (BCS), industry utilization is hovering around 75% against 80% in FY18. Therefore, suggesting ample appetite available for further production growth under current capacity.
Furthermore, on the external front, SBP seems relatively confident, anticipating CAD to fall below 1% of GDP for FY21, even though the trajectory of the pandemic remains highly uncertain, with new strains coming out. Pakistan is open to an external vulnerability where the recoveries can be quite underwhelming. To highlight, Pakistan posted a current account surplus of US$1.1bn during 1HFY21 compared to US$2.0bn SPLY, where Pakistan had five consecutive surpluses between July and November 2020. This was possible due to strong remittances in 1H and a lack of the anticipated fallout in exports. As a result, Pakistan’s currency has depreciated much less than that of many other emerging countries (such as Brazil and Turkey) since the outset of the pandemic.
On the fiscal side, Pakistan managed to achieve a primary surplus of 0.5% which was .0.2 ppts less than that recorded in the same period last year. This is on the back of expenditure restraint along with decent revenue growth of 5% YoY until November.
Considering the aforesaid factors, SBP is of the view that Pakistan’s recovery so far is still fragile as the uncertainty regarding Covid-19 remains significant, therefore, SBP has overweighed the need to enable growth to be durable and the decision is adequately supported by the improvement in several economic indicators.
While most of the market was expecting status quo in the MPS, AKD securities forecasted that bullish momentum will continue in the market as the forward guidance is a positive from the market’s vantage and should bring Pakistan’s consumer demand story into the limelight where cyclicals (Cement, Steel, and Consumers) are the main beneficiaries, having recorded lackluster performance.
On the flip side, some pressure on the banking sector could be witnessed however, this can be seen as an opportunity to accumulate to rejoice in dividend resumption and cheap valuations.
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