Analysts rightly worry when the financial press laments over government borrowing-induced liquidity trap, while quoting SBP officials regarding another impending rate cut on the same day. Though credit easing was urgently needed to trigger private sector investment, the manner of the sudden, and ambitious, 150 bp cut raised eyebrows because of already double digit inflation, a rupee nosedive and erratic oil prices in the international market. Criticism coming the new governor’s way, of the cut benefiting the government even as the economy flirted with runaway inflation, seems to hold weight now that the government’s addiction to debt has been confirmed. Despite the risk of compromising the risky monetary easing, Islamabad could not overcome its dependence on easy money. And now we have the classic liquidity trap.
The official argument is self-defeating. While shifting from central bank borrowing to advances from commercial banks is the lesser evil, it is not so in this particular case. Catering to official demands again crowds out private sector participation, defeating the very purpose of the cut. What another reduction will achieve is not clear, other than further reducing the government’s burden. Also, whatever little percentage points the exercise shaves off the inflation number, oil fluctuation in the international market can easily trigger agflation by upsetting input prices across the board.
It is yet more unnerving that while inflation trends and liquidity traps have economic remedies, they cannot be effective till the central bank has complete autonomy. Machinations at play so far reveal a disturbing erosion of that independence. Going by the trend so far, we can expect a generally loose monetary stance, with private investment continuously ruled out, and the government adding to the debt burden, at least till continuous rupee weakening and rising inflation necessitate yet another embarrassing, and painful, u-turn.