Nov 10 - 16, 2008

All seems to have been set for the re-entry of IMF program as the central bank in line with the IMF conditionality of further tightening of the policy rates is likely to increase the interest rates of banks; which is quite evident from 97bp hike in three-month T-bill yield last week.

In fact the auction held last week, three-month T-bill yields breached the psychological barrier and policy rate level of 13%, indicating hike in policy rate going forward. It may be mentioned that increase in policy rate is one of the top priorities being insisted by the IMF.

The central bank not only raised three month T-bill cut-off yield by 97bp to 13.53% vis--vis policy rate of 13.0% while accepting bids worth Rs53billion but also rejected all bids for six month and one year paper sending a clear message regarding increase in policy rates in coming days.

Actually, the economic recession, even after approval of Saudi Oil Facility, has left no option for the government but to embrace an IMF program as a long term solution of the financial crisis. The increase in policy rates has also been witnessed in recent IMF program subscribers including Iceland and Hungary since the two countries taking advice from IMF have raised policy rate by 600bp and 300bp respectively.

In case of Pakistan, the IMF has reportedly suggested an increase of 350bp in policy rates however the market sources anticipating increase of approximately 150-200bp.


Meanwhile the inflation has already touch the peak level and is likely to slow but demand pressures are still evident which increases balance of payment risk.

Analysts are of the opinion that full-year inflation would stand at 17.5% and would come down to single digit level by May 2009 which would be the time when the state bank might go soften its monetary policy stance from first quarter of financial year 2010.


The banking sector's spread continues its rising trend after witnessing a dip to the level of 6.78% in June 2008 that was being taken as an after effect of minimum profit payment of 5% on saving accounts.

In the month of September 2008, spread of the banking sector recorded at 7.49%, cumulating an average three months (3Q2008) spread of 7.3%. Interestingly, September 2008 banking sector spread is at two year high level. Furthermore, it is the 3rd highest banking sector spread observed during last 5 years.

As a matter of fact, banking sector 80% loans are based on floating rates where KIBOR is used as a benchmark. The prevailing liquidity position is causing an upward pressure on KIBOR, which is also reflecting in lending rates of 13.34% - 43bps and 202bps higher on MoM and YoY basis respectively in the month of September 2008.

It may be mentioned that during October 2008, average 6 month KIBOR is 77bps higher than the September 2008 indicating that the lending rates are to be on higher side in months to come. On the cost of fund side, banks have started to raise deposits at higher rates, 12-14% rate of return are being offered to depositors for a one year term deposits. For a longer tenure (that is for 5 to 10 years) banks are also offering lucrative return up to 18%. However, this phenomenon is not disturbing the spread because of the reason that the term deposits represent hardly 30% of the overall banks' deposits.

Meanwhile the spreads of the banking sector are likely to stay above 7% in the backdrop of a tighter liquidity scenario and monetary tightening. The banking spread will not likely to move down to 7.0% as the interest rate pass through is more on lending than deposit rates.


Increasing inflation and fiscal subsidies have maintained demand for higher working finance for both private and public companies. With a reversal in the direction of commodity prices, most likely the liquidity will squeeze to reverse on the back of lower demand for working finance.

Apart from recent liquidity measures initiated by the central bank, the outflow contraction in the coming months driven by commodity price reversal, and higher public capital inflows such as multilateral inflows and bilateral assistance from friends of Pakistan bound to improve liquidity position. These measures however may not resolve the immediate liquidity crisis. In order to counter the crisis, situation calls for besides expediting flow of development funds from ADB, IDB and World Bank for injecting liquidity, the government should clear outstanding payables to WAPDA, which, in turn should help IPPs and Oil Market Companies retiring inter-corporate and commercial bank debt. Therefore, money for lending to the private sector would be available.


Meanwhile the central bank has enhanced refinancing limit to100% to banks against export finance provided by them to exporters under Part-I of the Export Finance Scheme. So far, the State Bank was providing export finance to the banks up to 70 percent.

It may be pointed out that in order to ensure adequate flow of credit to exporters, SBP has taken various initiatives in the recent past. At the beginning of the current financial year, Governor, State Bank has already increased Banks' limits under EFS by 25% to fulfill the credit need of exporters. However, it was observed by the State Bank that various banks are feeling difficulty in providing financing facilities to exporters due to exhaustion of limits under the Export Finance Scheme and increasing requirement of credit due to exchange rate depreciation. Therefore, it has now been decided to resolve the issues regarding financing requirements of both the exporters and the banks by providing 100% refinancing to banks under EFS.

Financing under EFS is a subsidized source of finance from SBP involving a subsidy of about 8 percent for exporters to enable them to compete in the international markets to boost exports from the country. As the funds provided under EFS involve huge subsidy from SBP, Exporters Associations have been advised to ensure rightful use of funds by their members through self regulating mechanism, in addition to the regulatory mechanism put in place by the SBP to prevent misuse of financing.


NEW DELHI : Interest rates on bank loans are all set to go down by 0.5 to 0.75 percentage points. That was the clear signal sent out by public sector banks soon after their chiefs met finance minister P Chidambaram last week. With private sector bank chiefs also meeting the FM, rate cuts are unlikely to remain confined to state-owned banks.

On the flip side, banks are also likely to reduce the interest they pay on deposits by about half a percentage point, to make sure their profitability is not eroded.

Following the meeting, State Bank of India (SBI), Bank of Baroda (BoB), Central Bank of India (CBI) and UCO bank, among others, said they would cut their prime lending rate (PLR) by 50 to 75 basis points (100 basis points is equivalent to one percentage point).

PLR is the rate at which banks lend to their most credit-worthy customers. It is also treated as a benchmark with interest rates on most retail and term loans linked to it.


The total liquid foreign reserves held by the country stood at $ 6,758.1 million on 1st November, 2008. The break-up of the foreign reserves position is as under:-

i) Foreign reserves held by the State Bank of Pakistan:

$3,529.7 million

ii) Net foreign reserves held by banks (other than SBP):

$3,228.4 million

iii) Total liquid foreign reserves:

$6,758.1 million