Interest rate rise likely

The last time Pakistan's annual inflation was more than the 14 percent recorded in March, the country's official interest rates were a lot higher than they are today. That means the State Bank of Pakistan is left with little choice but to raise interest rates, even though it bumped its key discount rate up by 50 basis points in January, analysts and bankers say.
"We expect further monetary policy tightening by the SBP and at least another 50 basis points interest rate rise," said Asif Qureshi, research head at brokers Invisor Securities. The consumer price index rose in March by 14.12 percent from a year earlier, marking the biggest annual increase since March 1995.
Back then, the SBP discount rate was 15.5 percent - 5 percentage points higher tthan the current 10.5 percent. Analysts say a rate rise is the most likely option to tighten monetary policy largely because real lending rates have been negative for the last three months following the rapid pick up in inflation.
"While high global commodity prices are the primary cause of increased domestic inflation, maintaining negative real lending rates would aggravate the problem partly by encouraging less productive borrowings," said Qureshi.
"Though not unprecedented, negative real lending rates have historically not been a self-correcting phenomenon and required monetary tightening to tame inflation," he said.
Pakistan, like many other countries, is reeling from external price shocks from rising oil and food prices that its central bank can do little about. An added worry is the fact that M2 money supply grew 17.6 percent in March from a year earlier, which could exacerbate inflationary pressures by stoking domestic demand.
A coalition government sworn in less than two weeks ago has to deal with these economic problems, the bankers and analysts said. The previous government declined to reduce big subsidies on petroleum products, resulting in the fiscal deficit ballooning.
After pro-Musharraf parties lost national and provincial assembly polls, the caretaker government belatedly raised petrol and diesel prices twice last month - by up to 10.7 percent on March 1 and another 7 percent on March 16. While easing the burden on government spending, it added to inflationary pressures.
In March, food and beverages prices rose 20.61 percent from a year earlier. House rent, and fuel and lighting, increased by 10.60 percent and 8.52 percent, respectively.
Analysts forecast average inflation of more than 10 percent for the 2007/08 (July/June) fiscal year, which could force the central bank to raise rates before the scheduled release of its six-monthly monetary policy statement in July.
"While the external factors are there, in our opinion there is no choice for the central bank but to opt for further tightening the policy," said a banker at a foreign bank.
"The way things are going, inflation is unlikely to ease much soon, and so the central bank will have to act fast," he said. "I would say a 50-100 basis points increase in the discount rate should be coming very quickly," said the banker, who declined to be identified.