SBP has room to cut policy rate by 400bps

October 18, 2024 (MLN): The State Bank of Pakistan (SBP) is expected to cut its policy rate by a further 400 basis points (bps) this year as a significant slowdown in inflation gives policymakers enough room to continue monetary easing in a bid to spur growth.

The recent pace of disinflation has exceeded earlier expectations, mainly due to the delay in the implementation of planned increases in administered energy prices, favorable movement in global oil and food prices, and a stable exchange rate.

MG Research expects headline inflation to moderate from 23.4% in FY24 to about 9% in FY25. Our Taylor Rule model shows that there is substantial room for easing.

Pakistan's central bank has cut policy rate by a cumulative 450bps to 17.5% in September from 22% in May 2024.

Inflation eased to the lowest in almost four years, with consumer prices rising by 6.9% in September over the prior year. That is within the central bank's target range of 5-7%.

Meanwhile, economic growth remains moderate. Although Gross Domestic Product (GDP) grew 2.5% year-on-year in FY24 following a contraction last year, growth is less than half its long-run average.

Real interest rates stand at 10.6%, significantly higher than the historical average of 3.4%. That gives the central bank ample room to continue easing to support growth.

A contained current account and calm foreign exchange market conditions have allowed the rebuilding of reserve buffers. The buildup in FX reserves should continue, supported by inflows under the International Monetary Fund Extended Arrangement, as well as price discovery in the interbank market to help buffer external shocks, attract financing, and protect competitiveness and growth.

Key risks to the outlook include the need for continued sound macroeconomic management, ensuring that the IMF-supported reform program remains on track, sustaining multilateral and bilateral inflows/rollovers, and vulnerability to volatility in global commodity prices.

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