September 22, 2020 (MLN): State Bank of Pakistan (SBP), in its recent meeting on Monday, kept the policy rate unchanged at 7 percent. The decision was largely on expected lines. The Monetary policy committee (MPC) remained vigilant about the possible generalization of inflationary pressure while supporting the economic recovery.
The committee saw a noticeable improvement in the economic activity compared to the last meeting in Jun’20, with the recovery driven by timely policy support provided by the SBP and government in the form of a stimulus package of PKR 1.58 trillion and 6.25 bps cut in interest rates and easing of lockdowns amid a decline in COVID-19 cases.
With Real Interest Rates been held negative on a forward-looking basis amid nascent signs of economic recovery, projecting GDP to be slightly above 2% in FY21, a dovish stance will not be on the table unless Pakistan has to deal with the tangible risks of the second wave of the virus. Due to higher base effects, MPC will unlikely dial back its tighter policy for the next review.
The status quo decision is partly based on a recent increase in inflation figures, thanks to supply-side shocks to food prices. Now, it is expected that average inflation in FY21 to be marginally higher than previously, however, it remains within the previously announced range of 7-9%.
According to the research of Intermarket Securities, the decision falls in line with consensus expectations where the money market and PIB rates in recent auctions suggested no change in MPS. Therefore, the research thinks that the decision is likely to receive a muted response from the equity market.
While opting for no change in the policy rate, key economic indicators in the real, external and fiscal sectors as well as their respective outlook were taken into consideration. On the external front, the country’s external account position is largely stable, with the strong remittance flows, market-determined exchange rate, subdued domestic demand, and a sharp contraction in oil prices which will likely keep current account deficit (CAD) in check, expected to average around 2% of GDP in FY21.
Luring foreign exchange reserves into the economy from outside, the government recently announced the sale of the Naya Pakistan Certificate which is a new world of opportunities for overseas Pakistanis through Roshan digital accounts.
On the real sector, MPC was of the view that LSM and other high-frequency demand indicators are reflecting an encouraging recovery. The recovery is expected to be driven primarily by manufacturing-related activities and construction, with the help of several SBP financial policies including the Temporary Economic Refinance Facility and the government’s incentives for the housing and construction sectors.
Going forward, the State bank of Pakistan’s ability to steer growth will remain the top priority in the months ahead. However, the potential upside risks – oil prices, a spike in food prices, utility adjustment, and the risk of the resurgent pandemic will likely push MPC to hold the policy rate unchanged at the current level.
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