Aug 8 - 14, 2011

State bank of Pakistan has pursued tight monetary policy for years primarily to contain inflation which is and should be a matter of serious concern for the people as well as the policy makers.

The increase in interest rate was allowed with a good intention to check the inflationary pressures, yet the financial regulator should have kept an eye on the side-effects of the higher interest rate also.

One of the major impacts of the high interest rate is the ever-increasing number of non-performing loans or rise in infected portfolio of the banking sector that is a matter of concerns.

According to a senior banker, the non-performing loans have reached to an alarming level of Rs500 billions due to high rate of interest prevailing for quite sometimes in Pakistan.

Majority of senior trade and industry leaders have welcomed the move of the State bank of reducing the policy rate by 50 bps from 14 to 13.5 percent which they said is a right step in a right direction but this decision is not enough to bring trade and industry back on track as interest is still too high and therefore should be brought to a single digit.

Prominent business leaders said that SBP's decision to reduce bank rate by half percent is not sufficient to produce results in the backdrop of unabated increase in power tariffs and oil and gas prices, which altogether have rendered Pakistani products uncompetitive in the export market.


It is interesting to note that the decision of the central bank to reduce the policy rate by 50bps was the first cut in policy rate since November 2009 against the expectations of the stakeholders as there was a general opinion that any relief in the form of softening of the monetary policy would come in the second half of the financial year 2012.

However, the recent cut has come after a 150bp tightening cycle during first half of financial year 2011 which must be a pleasant surprise for the stakeholders looking at the depressed economic situation since long.

A cut of 50bps has brought a smile on the grim faces to the least of business community hopeful of further relief in the days to come.

It is important to mention that the monetary policy announced by the State bank of Pakistan (SBP) last week has clarified that inflationary pressure is well within the government's target and lower than estimate of 12.4 per cent.

The financial experts believe that the SBP has the potential to lower discount rate by a further 50 to 100bps. However, it depends on a variety of factors including revival of stalled IMF program, improved Pak-US relations, and affordable international commodity prices.

Actually, the slightly lower inflation and reduced government borrowing from the central bank provide potential room to the financial regulator to ease the monetary policy.

The financial analysts are of the view that SBP would adopt a wait-and-see stance during first quarter of financial year 2012 on account of fiscal constraints, higher inflationary pressure in the Ramadan season, and rising concern that the trend in borrowing from SBP and external account improvements could reverse later during the year. The possibility of reversal in the government policy of borrowing from the banks cannot be ruled out. Hence, much depend on how far and how long the government is adhered to the policy of fiscal discipline especially in terms of restricted borrowing from the central bank and the commercial banks during the current financial year 2012.

The SBP has itself highlighted its concerns on potential demand pressures vis-a-vis higher rollover requirements, potential challenges to external sector faced by the Pakistan economy in case of US financial crisis, resultant global economic downturn, and the need for government to broaden tax base and coordinate with provinces to implement its plan of reduction in fiscal deficit in financial year 2012.

In a nutshell, SBP is hopeful about FY12 inflation and borrowing targets i.e. commitment by the government to reduce fiscal deficit and contain borrowings from SBP.

Meanwhile, the central bank expects that the government would be able to meet its borrowing requirements as per the pre-announced T-bill auction target of Rs750 billion during first quarter of the new financial year.

The government would also adhere to its commitment of zero net borrowings from SBP and that the projected foreign inflows would be realized but there is many a slip twixt the cup and the lip.


What did the country gain out of a tightened stance of the central bank regarding monetary policy is a question to ponder upon by the financial regulator. On the other hand, the high interest rate has adversely affected the private sector demand for bank loans, increasing incidents of non-performing loans as stated earlier, almost zero activity in the highly vibrant sector of real estate and property development due to high cost of financing, drastic cut in car financing and consumer market.

It is obvious that the oil pushed inflation cannot be governed with tightening of monetary policy. One of the effective solutions is to find import substitute for oil as the import bill on account of oil is feared to take a quantum jump of over $16 billion by the end of the current financial year.

In fact, to control one aspect of the economy we are losing unlimited economic opportunities lying idle due to liquidity crunch faced by the large scale manufacturing sector and small and medium industries at a massive scale across the country. The sufferer of the situation is the masses living on subsistence.