The central bank is likely to keep its interest rates unchanged in the next monetary policy announcement today (Wednesday) and adopt a wait-and-see policy before deciding on further economic tightening, say market analysts.
The State Bank will announce its monetary policy in Islamabad at 4pm today.
In November, the central bank had raised its policy rate by 1.5% to a five-year high of 10%. The central bank adopted a tight monetary policy in September 2018 and has been raising its benchmark interest rate since then.
The main objective was to fight inflation and achieve stability in the economy that was overheating on the back of higher spending and rising imports. The rupee depreciated more than 27% last year, which also created inflationary pressures in the months that followed.
Our government’s expenses exceed its revenue by Rs2.2 trillion and we spend $2 against every dollar we earn. This double loss, coupled with rising inflation, was likely to “compromise the sustainability of the high real economic growth path”, the central bank had said in September.
Among other tools, the central bank uses its monetary policy every two months to fight inflation and stabilise the economy. The monetary policy rate affects every interest rate in the market. A higher rate means commercial banks also raise their interest rates, making borrowing more expensive for individuals, businesses and the government.
By increasing interest rates, the SBP causes the economy to slow down, which keeps the job market under pressure. In simple terms, factories hold off on investments and new expansion and the government cuts back on development projects. This means there are less jobs to go around.
For example, textile is the biggest private sector borrower of banks and employs 15% of our labor force, the third largest by any sector. Since the sector relies on bank financing, higher interest rates discourage it from taking loans and thus slow down both its growth and ability to create jobs. This is precisely what happened after the SBP increased interest rates, as large scale manufacturing (factory workers) took the biggest hit.
However, majority of market analysts SAMAA Digital spoke to say inflation was slower than expected in December and our dollar reserves have also improved after we received $3 billion from Saudi Arabia and another $1 billion from the UAE. The SBP, therefore, will wait and see the full impact of previous rate hike before deciding on further tightening.
Experts say 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.
Inflation is slower and the government has to balance its growth, which is why it may not increase the policy rate on January 30, analysts say. However, they didn’t rule out a further hike in the next policy, which will be announced in March.