Aug 24 - 30, 2009

Pakistan is the only country in the region where interest rate is still higher. The country lags behind its neighbors in economic growth and exports due to high interest rate and energy crisis. The other countries have already reduced the interest rate to the lowest level. As compared to13 percent interest rate in Pakistan, the neighboring India is currently managing 3 percent. Under the new monetary policy, effective from August 17, Pakistan's central bank for the second time this year cut its discount rate, its key policy rate, by 100 basis points to 13 per cent. A fall in annual inflation to 11.2 percent in July from 19.1 percent in March provided the central bank a passage for the one percent cut in the policy rate announced on August 15 to give breathing space to the country's ailing economy.

The business community has termed the recent reduction in the discount rate by one per cent to 13 percent just a peanut that would not lead to the revival of industry under the prevailing economic condition. Critics say that monetary tightening is not justified in a country where consumer financing has not been more than five percent. The experts believe that the ongoing fight against militants in the country's northwest as well as uncertainties created by the slump in global demand and domestic power shortages adds to the challenge of pulling the economy out of an extended phase of sluggish activity.

The central bank also announced a review of the monetary policy every other month to make it more responsive to the changing economic situation. The bank had cut the interest rate by 100 basis points to 14 percent in April after increasing it by 500 basis points last year to curb inflation that reached a 30-year high.

"Monetary policy will maintain its oversight of inflation and its role in improving macroeconomic imbalances, simultaneously supporting real economic activity," the central bank's Governor Salim Raza told a news conference on August 15 while unveiling monetary policy for the period to the end of September.

The consumer price index (CPI) inflation rose 11.17 per cent in July from a year earlier, easing from 13.13 per cent in June, according to Federal Bureau of Statistics (FBS). The lower inflationary pressure led the central bank in April to cut its key discount rate by 100 basis points to 14 per cent, to stimulate the a sluggish economy that posted two per cent growth in the last fiscal year 2008-09, slowest in 10 years.

The businessmen, who have been demanding for at least 2 to 3 percent cut in interest rate, do not believe that one percent cut is enough, as the country's economy is facing an unprecedented crisis. They urge the government to make further cut in the interest rate to turn the economy around and enhance industrial productivity, which was at its lowest due to multiple reasons including acute energy shortage. Critics say that the present monetary policy is not an expansionary policy in its contents but it is the continuation of the concretionary monetary policies adopted by the central bank for the last three years. Currently, the central bank's policy rate at 13 per cent is still 10 per cent higher than Indian central bank's policy rate of three per cent.

The benchmark Karachi Stock Exchange (KSE) 100-share index on August 17, the first trading day of last week, fell 0.98 per cent or 78.76 points, closing at 7,932.55 points. The market witnessed intense selling, as investors reacted on limited easing in discount rate by 100bps in monetary policy recently announced by the central bank. Investors were expecting over 200bps cut in the interest rate, but the central bank's decision to slash interest rate by only one percent turned the market sentiments negative, according to the analysts. The late recovery after the initial sell-off on reports of positive Pakistan's credit rating by the Moody's from negative to neutral allowed the market to stage a smart rally. The KSE 100-share index after having fallen early below the resistance level of 8,000 at 7,857.29 managed to recoup a good part of losses and ended at 7,932.55.

Under the IMF demands, the government raised interest rates that caused slump in the industrial sector leading to a decline in revenue collection and slowdown in exports proceeds. The export-oriented units are facing difficulties in marketing due to the country's poor law and order situation, security problems, and the country's image, which affected the ability of local exporters and producers to meet the delivery deadlines.

The country's exports in July were recorded at $1.488 billion as compared with exports of $1.879 billion in July 2008, according to the FBS. The imports in July 2009 registered a decrease of 25.63 percent with total imports at $2.639 billion against the imports of $3.548 billion in July 2008. Trade deficit fell 31.09 percent to $1.150 billion in July against the deficit of $1.669 billion in July 2008.

The economic growth revival largely hinges on the performance of the manufacturing sector. The soaring power and gas tariffs are likely to put additional burden on the industry and squeeze the gross margins of the industry. The local manufacturers forecast more industrial closures and job losses over the next one year.

The analysts fear that 9.5 per cent consumer inflation target set by the government for the current fiscal year could be overshot due to a rise in oil prices and removal of power subsidies. Inflation rose at a record high of 25.3 per cent in August 2008 due to higher commodities and oil prices before easing in 2009. Lowering inflation is one of the key economic targets under the IMF program launched last November.

Devaluation of local currency against all major international currencies is the reflection of weakness of the economy. Local currency dropped the most in last two months as higher prices for commodity imports and payments on overseas borrowings boosted demand for US dollars. It lost 2.4 per cent of its value last month. Depreciating rupee benefited the country's crony capitalists who made money by selling cheap exports, but it hurt the middle class raising taxes in the middle of the financial crisis. The rupee is presently being traded in the inter-bank market at over Rs82 per dollar.