Inflation isn’t the monster it used to be—at least, not for now. But complacency is dangerous. The central bank’s real challenge isn’t celebrating a short-term reprieve; it’s preparing for when inflation inevitably comes roaring back. The real question isn’t if it will return, but how long we have before it does.
In just six months, the SBP has slashed the policy rate by 900bps, or 41 percent—the largest and fastest monetary easing outside the pandemic. Back then, the SBP had cut rates by 625bps, or 47 percent, in just over three months. But here’s the kicker: the pandemic warranted such measures. Can the MPC seriously claim that today’s economic conditions justify easing at a scale this aggressive?
The “expansionists” argue that lowering rates was a foregone conclusion if the MPC were to ensure the relevance of the policy rate. That makes sense. After all, Kibor has been trailing the policy rate since at least October. For much of Q4, the market has been flush with liquidity as banks disburse advances at throwaway rates to meet ADR targets. But if the premise is that ADR-created liquidity will be sucked out of the market following the New Year, will the market rates not self-correct? Ergo, unless the MPC wants the credit bonanza to continue, should it not remain ahead of the curve, reining in the market’s irrational exuberance?
Yet, at 13 percent, the policy rate is still very much within crazy territory compared to the long-run average of 10 percent (or lower). With monthly inflation down to mid-single digits, the real rate also appears sufficiently positive, whether on a spot or forward-looking basis. And it is expected to remain so over the next 12 months, even if the MPC shaves off another three percentage points from the policy rate. Why should the MPC not press ahead with easing—maybe even accelerate it?
The central bank provided answers in its post-MPC briefing, yet somehow managed to reach a different conclusion. Firstly, core inflation is proving to be stubbornly sticky, with both goods and services core inflation above both historical averages and the medium-term target range. Secondly, even before the economy could enter a ‘proper’ growth phase, non-oil import volume is already back to peak FY22 levels. Thirdly, unless the precipitous fall in market interest rates decelerates, private sector firms could very well get used to the ADR-created burst of what is so far supposed to be temporary liquidity injections.
And all this comes at a time when—by SBP’s own admission—economic growth is projected near three percent. Production of all five major crops is expected to underperform compared to last year. Large-scale manufacturing (LSM) continues to clock in negative territory, flatlined above what is possibly the lowest base in decades. Industry capacity utilization levels are estimated below the ‘smart lockdown’ period of Sep-20 to Sep-21. And export unit prices are inching downward. Yes, macro indicators look great, but have the fundamentals shifted materially enough for the central bank to begin pumping growth?
At this point, you may argue that since the real rate remains significantly positive, the SBP has sufficient room to slam the brakes on easing the moment it suspects that the chicken is overcooked. And with both primary and current account balances very much on track, there is no serious risk of the inflation trajectory being derailed anytime soon. So, march on with easing; next stop, single-digit territory?
Quite the opposite. If the SBP’s GDP growth projection is accurate, the three-year average economic growth rate for the hybrid MSZ regime (initialed after its three key faces) comes out at 1.9 percent. Come June 2025, during budget-making, the ruling coalition will all but lose patience clamoring for growth. After all, the ‘hybrid’ thesis is premised on the fact that historically, Pakistanis are happy to trade in democracy and rights in exchange for consistent improvement in purchasing power and well-being. Ergo, if political unrest is to be avoided, then growth must resume at all costs. And that’s when the fiscal side shall begin to unravel.
When the pressure to unleash growth levers descends from the twin cities, does the MPC truly believe it will be able to resist it? Notwithstanding all the lofty ideals about autonomy and operational independence. If you buy this line of argument, does it not stand to reason that the SBP should leave itself sufficient accommodative space to appease political realities at that time, without violating its cardinal rule of maintaining positive real rates and keeping sight of its medium-term target?
When the promotion of economic growth was dropped from the SBP’s mandate following the passage of the amendment act three years ago, policymakers understood that the road from legislation to execution wouldn’t be easy and that both political and private interests would take a while to adjust to the realities of this brave new world. But no one could have known that the SBP would be the first in line to undercut its mandate and hard-won independence.
Our New Year’s wish? That the MPC learns to pace itself before it’s too late.
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