SBP governor sees interest at this level in the future
The Monetary Policy Committee (MPC) of the State Bank has decided to maintain the policy rate at 7%.
The MPC has given forward guidance, the outlook of interest rate in times to come, this time to boost the confidence of investors.
“We are now in a much better position [economically] to give forward guidance,” said State Bank Governor Dr Reza Baqir in a press briefing on Friday. “We are seeing interest at this level in future. And if changes have to be made then it will happen in an orderly manner.”
The interest rate stood at a level of 13.25% till early last year before the economy came under immense pressure due to the COVID-19 pandemic. The State Bank brought down policy rate to 7% in few months to give support to the deteriorating economy.
Baqir attributed the stability in the economy to improvement in current account balance. Pakistan’s current account balance generally remains in deficit but during the first six months of the ongoing fiscal year, current account is in surplus of $1.13 billion. It has also helped in building reserves to over $13 billion. The current balance was in a deficit of $2 billion for the same period last year.
He further said that market-based exchange rate has also helped the current account show improvement.
He added that the economy has improved but the monetary policy supports recovery. A stable policy rate will help economy to recover further.
Baqir said that the expectations are the inflation rate will remain between the range of 7% to 9% during the fiscal year 2021. Moreover, the inflation country saw was either due to food inflation or due to electricity or oil prices, which are temporary, therefore the decision was taken to maintain the policy rate.
Controlling inflation and ensuring economic stability are two of the State Bank’s core functions. To achieve these goals, the central bank uses, among other tools, its policy rate. This is the rate at which commercial banks borrow money from the central bank’s discount window.
The State Bank’s policy rate, revised every two months, affects every interest rate in the market. In other words, a higher policy rate means commercial banks will charge more, making borrowing more expensive for individuals, businesses and the government.
Higher interest rates make loans expensive. Businesses, which rely on bank financing, stop new projects, the government cuts spending on development projects, and consumers stop availing auto finance, home loans, and even reduce credit card use. In a nutshell, a higher interest rate shrinks economic activity and also slows down job creation.
On the other hand, a lower interest rate encourages people and businesses to borrow more, which in turn increases consumption on the national scale. Since the overall demand is high, it makes the prices of goods rise, thus inflation increases.
The role of the central bank is to maintain a level of interest rates that keeps inflation in check while also not reducing economic activity.