The State Bank of Pakistan (SBP) Monetary Policy Committee (MPC) is scheduled to convene later today to announce the monetary policy for the next two months.

The central bank has kept the policy rate unchanged for the past nine months to support growth in the aftermath of Covid-induced lockdowns and meet the demand gap in the economy.

Providing forward guidance, the SBP in its last MPC meeting had signalled that the current policy is to remain intact in the near term, and maintained that the upside risk to inflation due to food prices and tariff hikes is unlikely to last long.

The central bank also highlighted that recovery still remains at an early stage, despite improvement in private sector credit offtakes.

The improved activity has triggered working capital requirements for some sectors. However, the scale remains lower than pre-pandemic levels.

While the SBP saw no long-term impact of food price shocks to inflation outlook in the last monetary policy statement, the recent hike in tariffs and rising international oil prices may alter that view.

Nevertheless, it is expected that SBP will adopt a "wait and see" approach with a greater emphasis on potential headwinds to economic recovery from rising Covid cases rather than near term higher inflation outlook.

Market accord remains skewed towards status-quo

A survey of financial market participants conducted by Mettis Global Pvt Limited revealed that market consensus on the policy rate hasn’t changed radically since the last policy statement announced in January.

According to the survey, 93 per cent of the total participants are of the view that the SBP will keep the policy rate at 7pc in March.

In total, 7pc of the respondents are expecting an increase in the policy rate.

Further bifurcation of this percentage shows that 6pc of these participants expect a 50bps rate hike while the remaining 1pc expect a hike of 25bps.

This shows that some prospects about the rate hike are still there, considering that the negative real interest rate in March may swell to 2.2pc against the average negative real interest rate of 0.9pc ever since monetary easing took place due to Covid-19 in the last 12 months.

Moreover, Arif Habib Limited in its report also highlighted that the recent increase in yields on T-bills and Pakistan Investment Bonds (PIBs) suggests that some of the market participants anticipate a rate hike in March’s policy announcement which led them to bid at a higher rate, resulting in an increase in the money market yields.

With regards to the impact of a rate hike on the stock market, 59pc of the participants expect that if the MPC of the SBP unpredictably decides to increase the policy rate in the range of 25-50bps, this will have a neutral impact on the stock market,

On the other hand, 41pc of the respondents expect that a rate hike will have a negative impact on the market.

Going by the survey results, 90pc of respondents are expecting a rate hike later in the year mainly due to rising inflationary pressures.

As inflation is gaining steam and is likely to remain high in the next six months — as per analysts — due to a hike in taxes and electricity tariffs amid the resumption of the International Monetary Fund (IMF) programme, rising international oil and commodity prices. This will compel the central bank to increase interest rates.

Of these 90pc, 45pc of the participants expect a cumulative hike between 50-100bps in CY2021, 28pc have voted for a rate hike between 100-150 bps, 14pc are expecting a total hike in the range of 25-50bps, while 3pc see a hike between 150-200bps in 2021.

Unpredictably, 10pc of the participants expect no change in the policy rate during 2021.

Saad Khatri, a money market dealer at Faysal Bank, said that over the last two months, supply-side factors continued to be the main reason driving inflation.

Apart from electricity prices, the price of food commodities also posed mounting pressure on inflation. And there are chances of a further increase as the IMF programme is expected to resume in the next two weeks with the possibility of adjusting energy prices upwards.

In addition, rising oil prices have yet to be passed on to consumers. Considering these factors, he expects the SBP to increase policy rate in May.

With regards to average inflation during FY21, the survey results show that 69pc of the participants believe average inflation will remain in line with the central bank's target, while 31pc expect inflation will average higher.

External account and economic recovery amid third wave

On the external front, the position seems stable.

As the current account, however, moved back into deficit from a surplus till Nov 2020, it registered a surplus of $912 million during 7MFY21 compared to the deficit of $2,544 million.

In January, the current account deficit was down by 55pc year-on-year to $229 million, while on a monthly basis the deficit was down 65pc mainly due to a 12pc decline in total imports.

The SBP in its previous briefing had hinted upon external account stability defining the course of the monetary policy in the near term. In this regard, while increasing commodity prices pose risks to gains on the external front, potential inflows from the IMF, issuance of Eurobonds, remittances, foreign direct investment, and Roshan Digital Account balance such risks, a report by AKD Securities said.

Moreover, it will also keep the rupee stable. From FY21 to date, the rupee has appreciated around 8.1pc against the dollar on the back of robust remittances and overall balance of payments position, as well as the build-up in the central banks foreign exchange reserves.

On the recovery front, the third wave of the pandemic which is now unfolding across the country may pose a threat to nascent recovery as its influence is expected to be much stronger due to a new variant from the United Kingdom.

Recently, the government reintroduced partial lockdowns in some parts of the country. However, the vaccine rollout process is gaining momentum, and will likely pave the way for a rapid economic recovery as Pakistan’s infection ratio is lower than other nations in the region.

Furthermore, the growth in large-scale manufacturing output by 9.13pc year-on-year in Jan and 7.85pc in 7MFY21 further strengthens the case for rapid economic recovery.

Feedback on the growth outlook shows that 38pc of the respondents believed growth will remain cloudy amid the third Covid wave, and tax and electricity hikes post-IMF programme.

Meanwhile, 59pc of the participants voted for steady growth, whereas 3pc of the participants remained uncertain about the growth outlook.