In a sign that the economic slowdown will continue to persist a bit longer, the State Bank of Pakistan increased its monetary policy rate by 0.25% on Thursday.
The central bank has been raising its benchmark interest rates since September 2018 as it pushes for economic stability.
Today’s rate hike indicates that the economic slowdown will continue and keep businesses as well as the job market, especially in the manufacturing sector, under pressure.
Controlling inflation and ensuring economic stability are two of the SBP’s core functions. To achieve these goals, the central bank uses, among other tools, its policy rate, the interest rate at which commercial banks borrow money from the central bank.
Revised every two months, the SBP’s policy rate affects every interest rate in the market. A hike in the SBP’s rate means commercial banks will also increase their interest rates, making borrowing more expensive for individuals, businesses and the government.
For example, the textile sector is the biggest private sector borrower of banks and employs 15% of our labour force, the third largest by any sector. Since the sector relies on bank financing, higher interest rates are likely to discourage it from taking loans and thus slow down both its growth and ability to create jobs. And this is already happening because among all sectors, large scale manufacturing has taken the biggest hit since the central bank started increasing its policy rate.
Since last September, the central bank has increased the policy rate by 2.75% to a six-year high of 10.25%. Because of higher interest rates, the government, the largest borrower from banks, will have to cut back on development projects and hold on to its hiring plans. Even using your credit card or financing your next car will become expensive when interest rates go up.
The economy is facing a double challenge. The government spending is much higher than its revenue, which results in a deficit (loss) of Rs2.2 trillion a year. On the other hand, our monthly imports are more than twice our exports. This double loss coupled with rising inflation is likely to “compromise the sustainability of the high real economic growth path”, the central bank says.
The recent monetary and fiscal (government) policies are likely to affect large scale manufacturing (like factories) and economic activity (business expansion) may slow down in the financial year ending June 2019. This is because the general macroeconomic policy is focusing towards stabilisation, the SBP said.
According to experts, we have been trapped in this cycle of fast economic growth followed by a contraction every few years. This is because our growth is led by imports, which become unsustainable beyond a certain point because our exports do not increase proportionately.