WHY ADAMANT ON KEEPING INTEREST RATE HIGH?
SHABBIR H. KAZMI
May 2 - 15, 2011
There is a growing realization among the analysts that keeping interest rate high has caused more damage to the economy, because the policy failed in bringing down inflation in the country. High interest rate has added to the burden of debt servicing for the government as well as the private sector but more importantly diminished investment prospects.
While the banks preferred to invest in risk-free government papers also offering very high return, they also became less interested in lending to the private sector. Pakistan needs a boost in its GDP growth rate, which cannot be achieved without adding new production capacities, creation of new jobs and boosting disposable income of people at large.
At present, Pakistan is facing the worst energy crisis of its history. While load shedding of electricity and gas is on the rise, tariffs are also increased in the name of recovery of full cost. High cost of energy as well as high financial cost is eroding competitiveness of the local manufacturers. Ideally, the government should bring down both the costs to provide new impetus to trade and industry. Since energy cost is linked to global prices of crude oil, the recent decline to less than US$100/barrel is a valid reason for asking reduction in prices of energy products.
Economists say that whenever a country faces recession interest rates are reduced to facilitate new investments. They also say Pakistan is trapped in a strange position where inflation is high and industries also face declining capacity utilization. Therefore, no copybook solution is available, demanding out of box thinking and introducing measures, which can help in containing rate of inflation as well as boosting capacity utilization to pave way for adding new productive facilities.
It is necessary to reiterate that high inflation in Pakistan is not due to any disruption in demand and supply equation but due to rising cost of commodities, particularly oil and food products. Therefore, without brining down prices of energy and food products, inflation rate cannot be contained. Experts say that higher prices of energy products in the country are due to mismanagement, wastages and disregard to good governance, added to this is blatant theft of electricity and gas. Hike in electricity and gas tariffs have not improved cash flow of the utilities but proliferated theft.
High spread of the banks is also a reason to bring down interest rate. With higher interest, the banks are able to earn as high as 7.5 per cent spread. This has prompted some the quarters to enhance corporate tax rate for the banks. However, they ignore a fact that the 'big-five' have been able to earn such a fabulous return because they have tons of money on which they do not pay any return. While some of the smaller banks are making marginal profit, others are accumulating losses. Banks charge huge interest rates on loans to farmers, SMEs and micro enterprises, and women entrepreneurs. Therefore, instead of increasing corporate tax for banks the government should make lending to some of the segments of economy mandatory for the 'big-five'.
While the banks were operating in public sector, part of their lending was SRO based, to the sectors considered important by the government. However, with the privatization of banks the policy has been discontinued on the premise that 'banks are not the charitable organization. Therefore, they should not be asked to lend to any segment of the society on concessional rate.' However, the sponsors of private banks ignore the fact that there is no suggestion to lend at concessional rate but asking for reduction in lending rates to disadvantaged groups is necessary for poverty alleviation.
While Dr. Shamshad Akhter was governor of the central bank, a suggestion was made to her that all the banks must contribute one percent of their total deposits for the creation of an endowment fund for disbursing loans at Kibor plus two percent rate to those segments of the society which have effectively remained excluded from the banking sector. Some quarters were of the view that accepting such proposals was not in the larger interest of banks. However, they completely ignore that the proposal fits in the 'inclusion policy' of the central banks aiming at offering banking services to all segments of the society.
Since the government aims at boosting revenue collection, the objective can be achieved by encouraging entrepreneurs to expand their businesses by adding new capacities. It will have snowball effect because import of machinery will help the government get more of duties and taxes. Increase in sale will help in collecting more of GST. Creation of new employment opportunities will create demand for almost everything.
It is encouraging that lately the central bank has refrained from increasing the policy rate. It is suggested that this time it must reduce the rate by 25 basis points, at least. This shift in policy will have a positive impact on the investors. The time has come to get rid of the policy of keeping interest rate high.