If Pakistan were a person, it would have probably been diagnosed with bipolar disorder.
Few trips to Gulf capitals; swaggering performances at Spring meetings; a couple of Ted Talks in DC exhorting the virtues of ‘how’ over ‘why’; a door dash run to Davos, and voila! Market confidence in Pakistan’s macroeconomic direction is restored. It seems commercial interests are so desperate for good news on the external front that even a friendly wink from bilateral partners would send their hearts racing. No need to know whether any real headway is made on energy reforms, or what exactly is federal government’s roadmap to bridge the fiscal gap. Finally, a tireless team of superheroes has taken over the reins of power, and “the city of Townsville will be safe once more”.
Outside of failed states such as Haiti or active conflict zones such as Syria, Pakistan still ranks among the top 10 countries with the highest rate of inflation. The latest headline reading remains the highest in the South Asian region: 5 times higher than India, twice that in Bangladesh. And never mind Afghanistan, which is sitting at minus ten percent as of February 2024 (apparently, the clampdown on smuggling slowed down inflation here somewhat, but stamped it out altogether across the western border).
In central banks across the world, a pervasive reluctance to ease the monetary screws persists, made worse by a conspicuous absence of forward guidance viz the timeline on when easing might begin. Yet, Pakistan wants to lead the world into the next great age of monetary easing. Never mind that the CPI is still 13 percentage points off SBP’s target range. Never mind also that the latest monthly reading has turned out to be stubbornly sticky.
Central to the discourse is the 12-month inflation forecast, which may initially appear rosy on the surface but harbors substantial risks, particularly emanating from volatility in oil and energy markets. Premature easing risks precipitating capital outflows, exacerbating exchange rate pressures, and stoking imported inflation.
Importantly, the MPC still lacks visibility on the federal budget, and whether it would continue down a path of stabilization or would be used to prime the pump. To insist that the federal government will not act out of desperation to secure a lifeline from politically significant commercial interests is to be in denial of 75 years of political history. Let’s not forget that the PML-N-led setup in Islamabad is a minority government in all but name.
The path to inflation stabilization from hereon is contingent on energy tariffs cooling off. Still, the decision-makers have yet to publicly lay out a path to reach that elusive goal. Why is it so hard to believe that another round of energy tariff increases would not make it into the list of upfront conditions for the next Fund program? The whole country could use a break from energy inflation, but given our track record, SBP would be well advised to not treat the best-case scenario as its base case.
This uncertainty also extends to the realm of foreign direct investment (FDI). Let’s be fair, if the investment opportunity in agriculture showcased to prospective Arab investors were so irresistible, plenty of local investors would have lined up long ago. More importantly, Egypt’s experience shows that when equity interest is at stake, investment flows from Gulf kingdoms can take their sweet time to materialize.
While the allure of immediate relief may be tempting, MPC should ask itself what purpose a rate cut at this stage might serve. An easing of up to 100bps at a time when the base rate is actually at 22 percent would not really be of much substance to commercial and industrial borrowers. Not only would the cost of borrowing remain stubbornly high to turn LSM growth green overnight. More importantly, on most short and long-term outstanding advances of commercial banks, the new rate would only kick in at the beginning of the next calendar quarter, i.e. July 01.
Meanwhile, SBP has another MPC meeting scheduled in June before the current quarter ends. By then, the federal budget may have even been presented, and the timelines may have also moved up on the IMF program, with greater visibility on whether central banks around the world choose to move closer to easing. Pakistan will have also seen two more months of inflation readings, hopefully substantially below twenty percent.
The only participants truly desperate for a rate cut right now are equity market investors. The problem? So far as they are concerned, a 100bps cut won’t go far enough. If SBP goes down the path of easing now, it would send a crucial signal to market participants. They would smell blood, and soon ask for more.
Which is why the current SBP leadership would be well advised to take under consideration the lessons of the 2020-22 cycle, and the devastation premature and excessive easing can wreak on an economy.
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