Reducing stocks of government borrowings and credit to private sector in the Broad Money (M2) has decelerated its growth during the first nine months of current fiscal year. According to SBP Third Quarterly Report, growth in M2 has decelerated sharply during July-April FY09 even as the depletion in Net Foreign Assets (NFA) of the banking system was checked following the improvement in overall balance of payments account since November 2008.
The YoY growth in M2 as on April 25, 2009 dropped to 8.4 percent from 15.3 percent a year earlier. "Sharp deceleration in M2 growth has resulted from declines in the contribution to the stock of broad money by government borrowings and credit to private sector," the report said. While the contraction in the stock of NFA lessened and credit to public sector enterprises (PSEs) expanded significantly, these were not large enough to arrest the deceleration in M2 growth.
The report pointed out that reducing credit requirement by the government as well as the private sector, and the fact that the improvement in NFA owes partially to weaker import demand, the slowdown in the growth of M2 points to a possible weakening of domestic aggregate demand.
Following the upturn in the country''''s external account, contraction in NFA of the banking system has eased gradually since December 2008. Even so, the cumulative contraction in NFA of the banking system stood at Rs 236.9 billion as on April 25, 2009.
The improvement in external account and hence the NFA of the banking system owed to decline in current account deficit as trade balance improved and workers'''' remittances remained strong, external financial inflows strengthened from multilateral and bilateral sources and substantial retirement of foreign currency loans to commercial banks, the report added.
Within the banking system, the extraordinary strong contraction in the SBP NFA seen in the initial months of FY09 eased out as major trends in balance of payments reversed in the subsequent months.
First, the IMF Stand by Arrangement helped the government acquire external budgetary financing inflows from other mutilateral and bilateral sources. Specifically, the government received 500 million dollars each from the World Bank and the government of China and another 100 million dollars in logistic support during the third quarter of the current fiscal year.
The resulting build-up of foreign exchange reserves and the decision to partially meet foreign exchange requirement for payments of oil import from the interbank market explain the current position of the SBP intervention in foreign exchange market.
Secondly, imports witnessed a large contraction during July-April FY09 resulting in quantitative improvement in trade balance, despite a complete standstill in export growth. The report said that NFA of the scheduled banks registered a net expansion of Rs 0.4 billion during Jul-25th-April FY09 compared to a contraction of Rs 77.8 billion during the corresponding period last year.
This reversal is mainly explained by strong rise in workers'''' remittances and substantial retirement of foreign currency loans by the business sector following large depreciation of the rupee against major currencies. Meanwhile, Net Domestic Assets (NDA) of the banking system registered a YoY growth of 16.9 percent during July-25th April FY09 compared to the YoY growth of 22.6 percent in the corresponding period of FY08.
The sharp deceleration in NDA growth of the banking system was contributed by declines in government borrowings as well as credit to non-government sector during July-April FY09. As a result, the growth in NDA of both the SBP and of the scheduled banks experienced significant slowdown.
While the decline in the growth of the SBP NDA is a direct result of quantitative ceilings on budgetary borrowings from the SBP under SBA, the deceleration in the growth of scheduled banks'''' NDA reflects the financial and economic risks faced by the country. With weak deposit growth and rising non-performing loans, banks have gradually shied away from extending credit to the private sector.
On its part, the credit demand from the private sector also shrank due to slowdown in economic activity exacerbated by power shortages, decline in external demand due to global recession and aggressive monetary tightening by the SBP over the last 12 months.
Thus, credit to private sector fell to merely Rs 48.6 billion during July-25th April FY09 compared to Rs 371.3 billion in the corresponding period last year. However, the impact of decline in credit to private sector was partially offset by the increase in banks'''' investment in risk-free government securities and loans to the public sector enterprises.
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