SBP Cuts Interest Rate by 100 Basis Points to 8%

The State Bank of Pakistan on Friday announced that it is slashing the policy rate by 100 basis points to 8%, the fourth cut by the bank within two months.

The SBP in a statement said that the Monetary Policy Committee (MPC) in its meeting on May 15, 2020, decided to reduce the policy rate by 100 basis points to 8%. “This decision reflects the MPC’s view that the inflation outlook has improved further in light of the recent cut in domestic fuel prices. As a result, inflation can fall closer to the lower end of the previously announced ranges of 11-12% this fiscal year and 7-9% next fiscal year,” the statement read.

The SBP said the MPC highlighted that the coronavirus pandemic has created unique challenges for the monetary policy due to its non-economic origin and the temporary disruption of economic activity required to combat it. “While easier monetary policy can neither affect the rate of infection transmission nor prevent the near-term fall in economic activity due to lockdowns, it can provide liquidity support to households and businesses to help them through the ensuing temporary phase of economic disruption,” the statement added.

The SBP said the successive policy rate cuts and sizeable cheap loans have helped maintain credit flows, bolster the cash flow of borrowers, and support asset prices.

“This has contained the tightening of financial conditions that will otherwise have amplified the initial necessary contraction in activity,” the SBP statement read, adding that the ‘coordinated and broad-based policy response’ by the government and aided by the international community has provided relief and stability and should provide support for recovery as the pandemic subsides. “In reaching its decision, the MPC considered key trends and prospects in the real, external and fiscal sectors, and the resulting outlook for monetary conditions and inflation,” the central bank said.

The MPC noted three key developments since the last MPC meeting on April 16, 2020. First, the government has significantly reduced petrol and diesel prices by 30-40% in response to the continued fall in global oil prices, which has improved the outlook for inflation.

Second, most countries, including Pakistan, have begun easing lockdowns, which should help provide support to economic activity. Third, due to timely policy actions and international assistance, the initial volatility observed in domestic financial and foreign exchange markets has somewhat subsided in recent weeks, although global financial conditions remain considerably tighter than before the coronavirus outbreak.

According to the bank, economic data has been consistent with the expected sudden and sharp drop in activity. The large scale manufacturing sector witnessed a steep decline of 23% (y/y) in March, due to the withdrawal from economic and social activity aimed at slowing the spread of the virus. High-frequency indicators of demand such as credit card spending, cement dispatches, credit off-take and POL sales also suggest a marked contraction in domestic economic activity in both March and April. At the same time, after showing signs of recovery earlier in the year, both consumer and business sentiment have fallen sharply.

More recently, the government has initiated a phased lifting of restrictions for different economic sectors conditional on the future course of the pandemic. If this easing proceeds smoothly, activity should pick up in coming months.

The MPC noted that, in light of preliminary evidence from China and other countries that eased lockdowns earlier than others, activity in service sectors and consumption, which form a large part of the domestic economy, could remain subdued for longer.

The current account deficit has continued to narrow, even though both exports and imports have fallen sharply since the coronavirus outbreak. Exports declined by 10.8% (y/y) in March. Imports, after indicating some recovery in recent months, contracted by 19.3% (y/y). The April figures from the Pakistan Bureau of Statistics reveal an even steeper decline in both exports (54%) and imports (32%). While remittances have so far remained resilient, there are potential downside risks given the economic difficulties across the world, especially in oil-exporting countries.

Despite challenging global conditions, the outlook for the external sector broadly remains stable. The current account deficit should remain bounded and the recent fall in portfolio inflows will be offset by official flows committed by the international community, such that Pakistan’s external position remains fully funded. Together, these developments, buttressed by the flexible exchange rate regime, should continue to support a steady build-up in the SBP’s foreign exchange reserve buffers, the SBP noted.

Like the external sector, the fiscal sector is also on the track of much-needed consolidation before the coronavirus outbreak. The primary balance recorded a surplus of 0.4% of GDP in Jul-Mar FY20 against a deficit of 1.2% in the same period of FY19, the first 9-month surplus since FY16. However, the substantial fall in economic activity since March has significantly affected tax revenues. After rising by 17.5% (y/y) during Jul-Feb FY20, tax revenues declined sharply by 15% (y/y) in both March and April. Moreover, given the needed increase in spending to support healthcare, businesses, households and more vulnerable segments of society, the fiscal deficit is expected to widen substantially in Q4.

The MPC noted the significant reduction in headline inflation since January on the back of sharply decelerating food and energy prices, as well as easing core inflation. Looking ahead, this waning price momentum is expected to be complemented by the recent 30-40% cut in domestic petrol and diesel prices, creating room for today’s additional rate cut.

Similar Articles



Please enter your comment!
Please enter your name here


Most Popular