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The State Bank of Pakistan on Thursday raised interest rates by 300 basis points (bps) to 20 percent, an all-time high in the country, to stem explosive inflation.
According to TV channel 24News HD, the SBP, in its monetary policy statement issued here on Thursday, at its meeting on March 2, 2023, the Monetary Policy Committee (MPC) decided to raise the policy rate by 300 basis points to 20 percent. .
During the last meeting in January, the committee had highlighted the near-term risks to the inflation outlook from external and fiscal adjustments. Most of these risks have materialized and are partially reflected in the inflation outcome for February. National CPI inflation has risen to 31.5 percent year-on-year, while core inflation rose to 17.1 percent in urban areas and 21.5 percent in rural areas in February 2023.
At the meeting, the MPC noted that recent fiscal adjustments and exchange rate depreciation have led to a significant deterioration in the near-term inflation outlook and a further upward drift in inflation expectations, as reflected in the latest wave of surveys. The Committee expects inflation to rise further in the coming months as the effects of these adjustments play out before it begins to fall, albeit at a gradual pace.
The average inflation this year is now expected to be in the range of 27-29 percent against the forecast from November 2022 of 21-23 percent. In this context, the MPC emphasized that anchoring inflation expectations is crucial and warrants a strong policy response.
On the external side, the MPC noted that despite a significant reduction in the current account deficit (CAD), vulnerabilities persist. In January 2023, CAD fell to $242 million, the lowest level since March 2021. Cumulatively, CAD – at $3.8 billion in Jul-Jan FY23 – is down 67 percent compared to the same period last year. Despite this improvement, scheduled debt repayments and reduced financial inflows amid rising global interest rates and domestic uncertainties continue to put pressure on foreign reserves and the exchange rate. The MPC noted that foreign exchange reserves remain low and concerted efforts are required to improve the external position. In this regard, the conclusion of the ongoing Ninth Review under the IMF’s EFF will help address external sector challenges in the short term. In addition, the MPC emphasized the urgent need for energy conservation measures to ease the pressure on external accounts and meet the import requirements of other sectors.
The latest fiscal measures – including a hike in GST and excise duties, reduction in subsidies, adjustments in energy prices and austerity measures – are expected to help contain the otherwise widening fiscal and primary deficits. As emphasized in previous statements, the planned fiscal consolidation is essential for economic stability and will complement the ongoing monetary tightening to bring down inflation over the medium term. The Committee emphasized that any significant fiscal deviation will undermine the effectiveness of monetary policy in achieving the price stability objective.
The MPC also assessed the impact of further monetary policy tightening on financial stability and the near-term growth outlook. The committee believes that the risks to financial stability are still limited given that the financial institutions are generally well capitalized. When it comes to growth, however, there is a trade-off. The MPC nevertheless reiterated its earlier view that the short-term costs of bringing inflation down are lower than the long-term costs of keeping it entrenched. Barring unexpected future shocks, the MPC noted that today’s decision has pushed the real interest rate into positive territory on a forward-looking basis. This will help anchor inflation expectations and guide inflation to the medium-term target of 5 – 7 percent by the end of FY25.
The committee also decided to hold its next meeting on April 4, 2023.