KARACHI: The State Bank of Pakistan (SBP) left the policy rate unchanged at seven per cent on Monday saying such a step was necessary “to provide needed support to the emerging recovery”.

Addressing the press after the monetary policy announcement , Governor Dr Reza Baqir said the financing conditions continue to be accommodative with real interest rates “slightly below zero on a forward-looking basis.”

In the past, the SBP governor has made it a point to emphasise that for interest rate decisions, it is the projected outlook on future inflation that matters more than the monthly inflation prevailing at the time when the decision is made.

In the same announcement, the SBP said that average monthly inflation is projected to come in between 7-9pc by the end of the fiscal year, meaning the policy rate at 7pc is already at the lowest end of the projected band.

He attributed the recent upward trend of inflation primarily to supply side shocks to food prices.

Growth projected at 2pc, inflation 7-9pc

Financing conditions for businesses as well as households were described as ‘accomodative’ by the SBP, which pointed out that besides the low interest rates, an estimated stimulus of Rs1.58 trillion — or 3.8pc of GDP -- has been injected into the cash flows of businesses and households.

Private sector credit has been significantly supported by the State Bank through various refinance facilities introduced since the Covid-19 lockdowns began, the statement said. “These facilities, coupled with other supervisory actions related to deferment and restructuring of loans, have ensured the availability of necessary funding to businesses and households, providing important support to growth and employment” the monetary policy statement (MPS) said.

Despite this the present economic recovery “remains uneven across industries” with hospitality and services sectors still the hardest hit and “the level of activity generally still remains below pre Corona levels” the monetary policy statement said.

“Growth is projected to recover to slightly above 2pc in FY21, after falling to -0.4pc last year,” the governor said. As this growth returns, the current account deficit will “remain bounded at 2pc” of GDP, the pace of revenue collection is expected to gather steam with risks still hanging over the revenue target, according to the State Bank.

The recovery is expected to be driven mainly by manufacturing-related activities and construction, which are being supported by various financial policies from the SBP including the Temporary Economic Refinance Facility and government incentives for housing and construction sectors, he added.

Following a deep contraction between March and June, the large-scale manufacturing (LSM) index returned to expansion in July, growing at 5pc. “High-frequency demand indicators including auto sales, cement dispatches, petroleum and oil sales, and electricity consumption also reflect an encouraging pick-up in economic activity,” he said.

On top of the stimulus administered by the State Bank, the government has also undertaken a number of significant measures to support economic activity including the Ehsaas Emergency Cash Programme, commodity financing, risk-sharing facility for SMEs, and acceleration of tax refunds, he added.

On the fiscal side the State Bank expects fiscal consolidation to resume and said that in the first two months of FY21, “tax revenues returned to positive growth, averaging around 1.2pc year on year”, but added that “risks remain around achieving the revenue target.”

Pointing out the risks, the governor said a second wave of Covid-19 domestic infections, a possible sharp increase in infections in the winter months in Pakistan’s major export markets in Europe and the US, and locust attack in agriculture could pose a challenge. On the upside, a faster global recovery could lift exports, he added.

Low global oil prices and subdued domestic demand helped reduce the current account deficit further during the onset of the Covid-19, he said.

“The current account deficit is expected to remain bounded at around 2pc of GDP,” he said adding that this together with expected private and official flows, should continue to keep the country’s external position stable in FY21.

More recently, a gradual recovery is expected in exports and remittances, which have performed strongly on the back of orderly exchange rate conditions as well as supportive policy steps taken by the government and the SBP under the Pakistan Remittance Initiative, he said. Remittances rose to a record monthly high in July.

“By supporting the current account, which swung into a surplus in July, these developments have helped to restore the SBP’s foreign exchange reserves to their pre-pandemic level of around $12.8bn” he said.

Published in Dawn, September 22nd, 2020