SBP has a tough decision to make on Tuesday

March 6, 2022 (MLN): The State Bank of Pakistan (SBP) is set to announce monetary policy on Tuesday. A lot is going on the macroeconomic front and any decision by the monetary policy committee (MPC) will have to take into account not only the short-to-medium outlook for inflation, commodity prices and current account deficit but also the political sentiment in the country.

Headline inflation in February rose 1.2%MoM – highest in last three months, with the outlook for coming months on the higher side as food price shocks, are likely to make an impact. In addition, the seasonal price uptick as seen before Ramzan is likely to kick in as well. Although prices of major ticket items like fuel and power tariffs have been capped, imported inflation from food and lagged impact of sales taxes and exchange rate depreciation will keep prices upwards.

On the other hand, the previous month saw a record current account deficit of $2.6bn. This number is set to grow further as oil prices scale new peaks with each passing session and food prices (wheat, palm oil, pulses) hitting decade highs. The government’s move to cap local oil prices at their existing levels until the 2023 budget is likely to increase petroleum and crude imports, lending additional pressures on the CAD. Meanwhile, the rupee’s depreciation against the dollar will further exacerbate the fiscal pressures.

To note, the central bank had, in its last monetary policy meeting, announced that it was relying upon fiscal support (resumption of sales tax etc) to contain demand. However, recent measures like the cap on fuel prices and cut in energy prices have thrown that option out of the window. It feels like the government has caved in to the political pressures from PPP which announced its long march to oust PM Imran Khan through a no-confidence motion. Meanwhile, the flipping of Nadeem Afzal Chan from PTI back into PPP has also raised concerns about horse-trading.

With the government feeling cornered by the opposition, it will not maintain fiscal discipline and provide maximum relief to the masses. The fiscal slippages will have to be contained from the monetary front before it gets too late.

As it is, the CAD is projected to reach over $18bn for FY22. A protracted increase in petroleum products coupled with a rising demand through higher wage prices and subsidies is a recipe for macroeconomic disaster.

The SBP has two options: either to increase policy rate or alter its forward guidance to keep the door open for a rate hike in the upcoming meetings.

Copyright Mettis Link News