The State Bank of Pakistan (SBP) Tuesday held a briefing for analysts to describe the situation of fiscal and current account, exchange rate, inflation, IMF programme, FATF and investment in government bonds by foreigners.
The briefing was presided by Dr Reza Baqir, Governor SBP, to improve communication with different stakeholders.
According to AHL Research report issued after the meeting, it was informed at the briefing that the country's economy was growing on the back of rising consumption, whereby savings were declining, resulting in higher Current Account Deficit (CAD) reflecting higher saving-investment gap. Real Effective Exchange Rate (REER) had been continuously appreciating and under the fixed exchange rate regime, a monthly CAD of up to USD 2 billion was being incurred.
On the fiscal side, the revenue-expenditure gap fueled a rise in public debt and the SBP took proactive measures to resolve these challenges such as depreciation of exchange rate that was allowed to reduce monthly CAD and interest rates were increased in advance to control inflationary pressure.
Non-oil CAD has come down close to zero from approximately USD 1 billion monthly. Baqir stated that Saudi Oil facility can help reduce oil-related CAD. However, Pakistan is still in a better position as compared to other countries' balance of payment stress.
He said a sustainable CAD does not mean a CAD of zero. A sustainable CAD is the one which can be financed through financial and capital inflows, therefore zero CAD is not the target level. Similarly, REER is showing the level from base year, and therefore does not show complete picture.
It was informed that deteriorating CAD was the primary reason behind increasing swaps and foreign exchange liabilities that led to decline in Net International Reserves (NIR). Reduction in CAD is expected to resolve these problems.
Timing of the IMF programme is right because the trend shows that CAD is on a lower trajectory. Overall, CAD has almost halved from USD 2bn monthly. Sources of compression of imports include reduction in import of services (including traveling), food, vehicles and machinery. Foreign traveling is a luxury and is affected tremendously. Imports reduced aggressively, while increase in exports is a gradual process due to time taken for expansion and other structural issues.
He said that monetary policy decisions are made by the MPC, which is an independent body. Inflation projections are being made which are kept under consideration. Forward Real Interest Rates are also kept under consideration, not past real interest rates.
Technical data is provided by the SBP and there is no representation of the Ministry of Finance on the MPC. However, regular meetings of the ECC take place where the SBP has representation.
Responding to a question regarding defending the level of the currency, the SBP chief said it cannot disclose information regarding the amount used for intervention.
Fiscal measures for primary deficit reduction are a better measure of discretionary spending, caused by deficit reduction measures including higher collection from sales tax, income tax, FED, customs duty, etc, primarily by increasing the base. Expenditure reduction is undertaken via freezing defense expenditure.
During the meeting, the SBP governor elaborated other fiscal measures including zero borrowing from the SBP, re-profiling of government debt and rebuilding the yield curve. Open market operations were allowed which supported the government's efforts to refinance its debt at longer maturities.
Liability management operations were undertaken to improve debt profile while coordinated efforts are being made to bring in liquidity in the long-term debt.
While giving a clarification on the exchange rate regime, the SBP governor commented that keeping a fixed exchange rate was not in our best interest, and there is no agreement on any level of exchange rate. The IMF does not want a fixed exchange rate, therefore, it would not want to target any level of exchange rate.
Free-float is also not desirable where no intervention is allowed in the currency markets. Sometimes sentiments take precedence from fundamentals, whereby authorities will bring back the market to fundamentals. The SBP would allow demand and supply factors to determine the exchange rate while it will also retain the right and ability to intervene if it senses disorderly market conditions.
Regarding volatility in exchange rate the governor stated that it is not unique to Pakistan. There are more than 50 or more emerging markets which are managing currency this way. Initially, there will be more volatility which is expected to tame down gradually. Intraday volatility is expected to come down, he added.
The economic outlook after taking these policy actions has improved considerably, while CAD has halved and continues to fall.
Current account deficit is lesser than countries facing balance of payment stress and there has also been a qualitative improvement in the outlook for inflation. Output gap is also kept under consideration to determine whether the economy is overheated.
Pakistan should also be open to investment in rupee denominated fixed income instruments and the SBP is looking at taxation issues for further clarity. Pakistan would like to attract foreign currency flows into its rupee debt in treasury bills. The country has had flows in treasury bills previously but the size was very small.
The SBP is confident on the sources of foreign currency listed in the financing plan. The IMF itself being the lender of last resort, ensuring that the financing plan is viable and practical. No lender of last resort would have given money to Pakistan if the financing plan was not feasible.
Regarding choosing core or headline inflation to determine interest rates, the SBP looks at core inflation and headline inflation both.
Talking about the comparison between Egypt and Pakistan, the governor stated that both are very different cases. Egypt had kept the exchange rate flat for a long time which meant that the pressure on exchange rate was much higher than Pakistan. Pakistan is entering the programme with a declining CAD, unlike Egypt. Egypt does not have euro clear either despite the fact that they attracted large investment. Treasury Single Account will be implemented in a gradual and phased manner and the transition will be orderly, Baqir maintained.
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