The State Bank of Pakistan (SBP) on Saturday reduced 25 basis points in the policy/discount rates to 5.75 per cent from 6.0 per cent in a meeting of monetary policy committee.
The decision of the board of directors is in line with the expectations of the market analysts and pundits who had forecasted a reduction of 50 basis points as all the country’s economic indicators are in better position including the year-on-year inflation.
Towards the end of current fiscal year (2015-16), macroeconomic conditions continue to improve, the central bank statement said. Headline CPI inflation, despite its continuous increase on Year-on-Year (YoY) basis, would remain below its FY16 annual average target of six per cent. Real GDP growth is set to exceed its FY15 outcome of 4.2 per cent, while remaining below its target of 5.5 per cent. Current account deficit is likely to shrink to the previous year’s level of around 1 per cent of GDP and the expected surplus in balance of payments would be marginally less than the FY15 level. Foreign exchange reserves are still projected to maintain upward trajectory.
As expected, the SBP said, headline CPI inflation sustained its rising trend for the seventh consecutive month and on YoY basis rose to 4.2 per cent in April 2016 from the low of 1.3 per cent in September 2015. In addition to the seasonal impact of perishable food items and services, this increase owes to further waning of the base effect and second round impact of decline in oil prices. Similarly, core inflation measures have broadly followed a rising trend in this fiscal year indicating buildup of underlying inflationary tendencies. Despite these trends and developments, the inflation outlook for FY16 was low, it added.
However, going into 2016-17 inflation is likely to attain a higher plateau.
Major sources that would determine this path are as follows. First, relatively faster pickup in demand compared to its gradually improving supply dynamics could lead inflation on a higher side. Second, rising global oil price along with modest recovery in non-energy commodity prices will pass on to the domestic consumer prices. Third, some risks, such as imposition of new taxation measures and increase in electricity and gas tariffs, if realized, would put upward pressure on CPI inflation.
Expansion in industrial activities and services sector would salvage some of the lost momentum to GDP growth due to the losses from cotton and rice crops. Recovery in large-scale manufacturing, which grew by 4.7 per cent during Jul-Mar FY16 compared to 2.8 per cent in Jul-Mar FY15 is expected to continue further on account of improving energy and security conditions. At the same time, buoyant growth in construction and improved demand for consumer durables has persistently indicated revival in domestic demand in the current fiscal year. This is also reflected in uptake in credit to private sector which increased by Rs 314.7 billion during Jul-Mar FY16 compared to Rs 206 billion during the same period of 2014-15. Thus, GDP growth in 2015-16 is expected to provide the needed sustainability in growth trajectory and the basis for further improvement in 2016-17.
On the external front, stability in the balance of payments and upward trajectory in foreign exchange reserves mainly owes to a combination of favorable developments both in the current and financial accounts. Steady workers’ remittances and low oil prices have helped contain the current account deficits at manageable levels while multilateral and bilateral inflows have largely contributed to the surpluses in the financial account.
In the current fiscal year as well, favourable trends in these factors are expected to yield an overall surplus in the balance of payments with SBP’s foreign exchange reserves estimated to increase to over four months of import coverage; up from around three months at end-FY15. Going forward, foreign direct investment is projected to increase as the work on projects under the China Pakistan Economic Corridor gains momentum. On the other hand, owing to some anticipated uptick in commodity prices along with improvements in domestic energy supplies exports receipts are likely to recover marginally. However, with weaknesses in private capital inflows persisting for some time now, uncertainty may arise if there is an adverse change in oil price or workers’ remittances.
