EDITORIAL: In a surprise move, the Monetary Policy Committee (MPC) left the policy rate unchanged at 22 percent, arguing that economic uncertainty has decreased and near-term external sector challenges have largely been addressed, subsequent to the approval of the Stand-By Arrangement (SBA) with the International Monetary Fund (IMF).
The surprise was embedded in the general interpretation of the SBA staff appraisal documents which emphasized that monetary policy “tightening cycle should continue” but with the proviso, “if needed to reduce inflation and facilitate external rebalancing” while insisting on a continued tight, proactive and data driven monetary policy going forward.
These specific directions no doubt prompted the Governor SBP Jamil Ahmed to state during his press conference that the MPC had taken account of relevant data and concluded that no further tightening was required in the near term or till the next scheduled MPC meeting on 14 September – the timing coinciding with the first SBA review to be based on end-September 2023 performance/continuous criteria.
There is overwhelming evidence that the looming possibility of default was averted subsequent to the SBA staff-level agreement reached on 29 June, however, one of the major risks to the programme as noted in the Fund documents was monetary policy miscalibration – a risk that the MPC dealt with through its pledge to continue market-determined exchange rate as a first line of defence against external shocks and support reserve build-up – a policy response to monetary policy miscalibration.
The constant refrain in the MPS, consumer price index (CPI) inflation moderating considerably from its peak of 38 percent year on year in May to 29.4 percent in June, was broad based and would remain on a downward trajectory due to subdued domestic demand and tight monetary policy stance, favourable outlook for global commodity prices and positive base effect, needs verification.
The MPS notes that the assessment of 20 to 22 percent in fiscal year 2024 takes account of the impact of recent measures (increase in electricity tariffs, change in duties and taxes on consumer items and raw materials) and their second round effects, a projection that is nearly 4 percent lower than what is projected in the SBA documents, though growth projections of 2 to 3 percent are in line with the IMF 2.5 percent projection – a differential that maybe premised on showing a better projection which relates to SBP’s own policy decision; but acknowledges risks from domestic and external shocks such as adverse climate events (floods continue to rampage large parts of the country in recent weeks) and global commodity price volatility (which has become pronounced after the lapse of the Russian-Ukraine deal on grain exports).
What has not been mentioned in the MPS and what plays a major role in fuelling inflation is the massive reliance on domestic borrowing by the government accounting for an interest bill absorbing two-thirds of tax revenue and as per the SBA documents leading to market issuance becoming more challenging with several unsubscribed auctions during last fiscal year and the issuance of domestic debt tilted heavily towards floating rate instruments.
In this context, for the MPS to claim investor confidence has shown improvement is baffling especially as the Finance Division’s Economic Update for July 2023 notes a 98.2 percent decline in credit to the private sector (July-June 2022-23) and a negative 9.9 percent growth in large scale manufacturing (LSM) sector with an even more disturbing negative 14.4 percent growth in May.
The MPS however does note the substantial deceleration of private sector credit but adds that improved financing mix after the unlocking of multilateral and bilateral external financing along with some uptick in economic activity would provide the space for moderate expansion in private sector credit this year.
The LSM sector has indicated in interactions with the media that higher input costs, not only credit costs but also major physical input costs including electricity and gas, make it unlikely for decisions to increase output in the near future.
And with the government nearing the end of its tenure and going into a typical pre-election mode - launching new projects which one would assume would have to be continued by the caretakers – it is doubtful if its reliance on domestic borrowing would allow for higher credit to the private sector.
CPI calculation takes into account subsidies released by the government and in this context it is relevant to note that the government raised subsidies from the budgeted 664 billion rupees last year to a whopping 1103 billion rupees in the revised estimates - a rise of 66 percent that not only fueled the budget deficit to unsustainable levels, a highly inflationary policy, but also allowed for understating inflation. In addition, the CPI for June was clearly not synchronized with wholesale price index of 32.8 percent or the sensitive price index for week ending 22 June 2023 of 34.05 percent, raising doubts about data authenticity.
The MPS, however, noted that data suggests that fiscal and primary deficits may exceed their revised targets for 2022-23 and the anticipated fiscal consolidation may undermine “the central bank’s efforts to contain inflation and inflation expectations.”
In short, the onus of a possible rise in inflation from the 20 to 22 percent projected for the current year will be laid at the doorstep of federal government policies, a blame that maybe easier to place once the caretakers assume the reins of power and deal with the pledge to “recalibrate”, a positive spin on the word “miscalibrate” used by the Fund, “monetary policy stance to achieve price stability”.
Copyright Business Recorder, 2023