As a result of tight monetary policy, monetary aggregates have weakened significantly as on June 10 for FY2006 compared with the corresponding period of last year. According to the State Bank (SBP) Third Quarterly Report issued here on Saturday, the growth in money supply (M2) has decelerated to 13.3 percent during July-June 10 FY2006 from 16.2 percent in the same period last year.
This slowdown was driven primarily by deceleration in the growth of both private sector credit and net foreign assets. The SBP maintained a tight monetary policy throughout FY2006 in order to contain inflationary pressures.
The instrument used for containing monetary growth was predominantly open market operations through which the SBP drained out excess liquidity from the interbank market without bringing any significant change in the benchmark six-month T-bills rate. The discount rate was also kept unchanged during the period.
The downtrend in the NFA of the banking system during most of July-June 10 FY2006 is driven by two apparently contradictory developments - sharp widening of country''s current account deficit, and firming expectations of exchange rate stability.
Although receipts from the PTCL privatisation and the Eurobond issues prevented a net decline in the NFA of the banking system during the period, the growth is still significantly below of previous year''s levels.
The NDA of the banking system showed a growth of 16 percent during the financial year 2006 compared with the growth of 19.6 percent during the same period of last year.
As in previous year, the current increase in NDA was driven principally by the growth in credit to the non-government sector. By end of February 2006, the government borrowing for budgetary support from the banking sector had exceeded Rs 98 billion annual target set for FY2006 by 64 percent, principally due to substantial borrowings from the SBP.
However, inflows under the PTCL privatisation and issuance of Eurobonds during March 2006 allowed the government to retire a large part of these borrowings.
As a result, cumulative government borrowings from the banking sector dropped to Rs 120 billion during July-June 10 FY2006, which remains higher than last year.
The growth in private sector credit during the period under review was a little higher than the annual credit plan estimates for the year, but was significantly lower than the increase during the same period of FY05.
This slowdown is despite larger increases in trade-related loans and the private sector commodity finance during July-May FY2006 compared with the preceding year. This slowdown in the credit market appears to be driven by both demand and supply side factors.