The central bank has decided not to hike the interest rate in the current quarter, much to the appreciation of the private sector. The latter would, ideally, have wanted a decrease but would like to get whatever they can in these times of inflation. The reason the SBP did not hike up the rate could possibly be because the inflation projections – not too cheerful, granted – seem to be correct.
Again, this is not to imply that things are rosy on that front; just that inflation is set to remain at a dismal 12 per cent, as was projected at the start of the current fiscal year. The central bank is more concerned about deficit financing, which will fuel inflation and lead to large price hikes. The deficit situation doesn’t look too good. The reason why the state bank, or the IMF, or any other analyst, makes only a so-far judgment on inflation and not a projection till the end of the fiscal is that one never knows what the throes of desperation can force the finance ministry to do. Deficit financing by borrowing from the central bank is the easiest solution, when all else fails, for the government. And the inflation that accompanies that (because the central bank doesn’t really have any money of its own; it will simply roll new wads of currency notes off its mint) doesn’t make for a pretty picture.
There is another way for the government to borrow money without yielding a direct inflation; borrow from the private banks. But this is accompanied by what economists (and laymen as well; the term is quite self-explanatory) call the “crowding out” effect. Credit provision for the private sector is squeezed tighter in what already is a tough business environment.
The simpler but tougher approach would be to curtail spending. This could be done through plugging the leaks at the state owned public sector enterprises, by expanding the tax base and by rationalising the tariff structures at the utility companies. It is these “real factors” that can make things better in the long run, not any manipulation of the money markets.