SHAMSUL GHANI (shams_ghani@hotmail.com)
Jan 19 - 25, 2009

With the sharp deflating of international oil and commodity prices, the global inflation has started making reversal. In the euro zone, the twelve month inflation fell to 1.6 per cent in December from 2.1 per cent in November. This has been the lowest level during a period of over two years. The European Central Bank (ECB) follows the policy of keeping inflation close to but less than two percent.

In the wake of the recent developments, the ECB interest rates are expected to fall to almost zero. After the cuts in policy rates by the US, Japan and China India has followed suit by opting for the fourth rate cut during the last four months. The Reserve Bank of India's key lending rates now stands at 5.5 per cent with its reverse repo rate also receiving a cut of 100 basis points to stand at 4 per cent.

With the sharp decline in global inflation and the threat of recession looming large, all of the leading world economies have resorted aggressive policy rate cuts. Pakistan, on the other hand, seems caught between the scourges of highly resistant inflation and impending recession. We have less to blame on global economic developments and lot more on our policy failures and financial mismanagement. The oil and commodity price booms having busted, we feel little relieved in the wake of the changing scenario.

With India and Pakistan operating on the same geo political plane one feels flabbergasted while trying to understand the wisdom of upping our policy rate for the fourth consecutive time with the possibility of a fourth rate hike lurking around. With an almost 75 per cent drop in oil prices, our headline inflation still stands tall at 23.34 per cent, showing nominal decline of 6.6 per cent against the October figure of 25 per cent. The reason is simple; the savings on energy bill are not being passed on to the economy. These are either being pocketed by the government itself, or are being used to grease the palms of OMCs.

State Bank's interest rate hike aimed at controlling credit and money supply has so far failed to produce desirable results as the core inflation target remains elusive. A persistent high core inflation may give a reason to IMF to ask SBP to up the policy rate by another 150 basis points. How much the falling global oil and commodity prices have contributed to whatever inflationary relief has come vis--vis the SBP monetary control measures is not clear. What is amply clear is that SBP has traded off economic growth to achieve the goal of controlling inflation.

Jan 7.8 - 9.7 - Jul 14.7 13.1 19.7 17.9
Feb 8.1 3.85 10.0 3.09 Aug 16.4 11.6 22.3 11.6
Mar 9.3 14.81 11.2 12.00 Sep 17.3 5.5 22.8 5.5
Apr 10.8 16.13 16.3 45.54 Oct 19.3 11.6 22 11.6
May 12.3 13.89 16.1 (1.23) Nov 18.9 (2.0)    
Jun 13 5.69 17.9 11.18 Dec 18.8 (0.5)    

The problem facing the economy and the consumer is diehard inflation which has its roots in an illogically high policy rate. The curtailed flow of credit to business and industry coupled with its higher cost have given rise to cost-push inflation. The resultant sluggish business and industrial activities have cut the output level. During the quarter July-October, 2008, the large scale manufacturing sector which is a true representative of the real sector, recorded a negative growth of 6.2 per cent. The impact of 200 basis point increase in policy rate during November last will be known when the figures for the last quarter of CY 2008 are released. The use of policy rate tool has obviously resulted in a higher economic slowdown vis--vis a nominal relief on the inflation side.

In the eyes of our creditor organization IMF, our economic woes have roots in our external account position and not recession. One should expect such type of statements as they are supportive of a higher SBP benchmark rate policy. Being an import dependent economy, we are at the mercy of international oil and commodity prices. In the given situation, it wouldn't take an economist to understand that the import side of our external account sheet is dependent on the volume of our imports and the corresponding international prices and therefore, we can do little to manage this side to our satisfaction - a prudent ban on luxury imports notwithstanding.

What we can effectively do is to give a boost to our exports which is only possible when our industry is given space to peacefully exist and perform wholeheartedly. An "out of the world" policy rate is definitely not going to flourish peace and space for the industry. The deep-in-trouble textile sector is the first casualty of high policy rate regime. Other sectors too are inevitably showing signs of attrition.

The present unexpected slump in oil prices can not be taken for granted. We are in a highly tricky and turbulent market. Only last week, the oil price range expanded from under forty to over fifty dollars a barrel. Any untoward geo political developments may once again send the oil prices rocketing and the historical price relief may go as fast as it came. Once the tottering global economies get back on the track, the speculative forces are likely to get back in action. For us, the way out is to develop and broaden our industrial base to increase value added exportable output. This is the only available option to improve our external account position. And for this, the SBP policy rate needs to be brought down to a realistic level to give the required impetus to commercial and industrial activities. Moreover, the huge relief in oil prices should be made good use of by passing it on to the key sectors of economy. The transport and energy sectors should be the first beneficiaries who in turn should share the price cuts with the masses and the industry.