The State Bank of Pakistan (SBP) is scheduled to announce its Monetary Policy for next two months on 16th September 2019. There are two opposite opinions: 1) the central bank will cut the policy rate and 2) policy rate will be increased as per the IMF recipe. However, analysts are of the opinion that probability of reduction in policy rate is higher as against the probability of increase. Analysts believe that the SBP will use the most fragile argument of reduction in inflation rate, based on new methodology. However, a stronger argument is the decline in cutoff yields in the recent Treasury Bills auction.
Dr. Reza Baqir, Governor, SBP has been advised by the analysts as well as the business community to cut policy rate to boost economic activities in the country. He has been told clearly that Pakistan suffers from cost pushed inflation and hike in interest rate just cannot help in bringing down inflation rate. There is consensus among the stakeholders that if the government is serious in increasing revenue collection, purchasing power of consumers has to be boosted. Higher purchases will increase payment of indirect taxes, which is the biggest source of tax for Federal Board of Revenue (FBR).
The new inflation reading is significantly below the inflation based on old methodology, where the latter clocked in at 11.67%YoY as against 10.34%/5.8%YoY in July 2019 and August’18 respectively. The difference is largely on account of: 1) different weights (with lower weights for groups with high inflation, tilting overall reading down) and 2) new constituents (rural areas -with soft prices in rural areas pulling overall reading lower).
However, analysts are critical of the use of new methodology to prove that the rate of inflation has come down in the country, the numbers are contrary to the ground realities, because price of all products, from eatables to medicines and from energy products to cars have gone up. The analysts insist that the two key factors responsible for the hike in prices are: 1) depreciation of Rupee and 2) persistent and substantial hike in interest rate.
Analysts are of the consensus that if the central banks around the world are curtailing interest rate, Pakistan should not be an exception. These central banks want to avoid recession in their countries as well as boosting exports. It is on record that the persistent hike in interest rate in Pakistan has not only rendered local manufacturers uncompetitive in the global markets, but also pushed overwhelming portion of population below the poverty line.
While one may not approve the new methodology to prove that the inflation rate has come down in the country, the news got very positive response from the equity market. According to an AKR Report dated 5th September 2019, “The market cheered lower CPI reading (vis-à-vis the old methodology number), gaining 899 points intraday (day high vs. low) with expectations of potential monetary easing doing rounds. While numbers do point towards end of the tightening cycle, we believe any easing expectation should remain tempered given CPI peak is likely to come across in Sep’19 at 12.2% (based on old methodology) with subsequent tapering thereafter. With yesterday’s euphoria based on expectations of policy action towards the easing side, leveraged plays including Cyclicals (Cements, Steel), Electrical Goods (PAEL etc.) and Textiles came to the fore”.