Monday, December 16, 2024
Islamabad (News international / Pakistan News - APP - 16th December, 2024) The Monetary Policy Committee (MPC) of the State Bank of Pakistan has decided to reduce the policy rate by 200 bps to 13% with effect from 17th December, 2024. According to the MPC’s expectations, headline inflation has declined to 4.9% per annum in November 2024. The statement issued after the Monetary Policy Committee meeting said that the main reason for the decline in inflation was the continuous decline in food inflation and the gradual fading of the effects of the increase in gas prices in November 2023. However, the committee noted that core inflation, which is at 9.7%, is proving to be unwavering, while the inflation expectations of consumers and businesses are changing.
The committee therefore reiterated its previous estimate that inflation may remain volatile in the short term before stabilizing within the target range.
At the same time, growth prospects have improved somewhat, as indicated by the recent increase in the high-frequency indicators of economic activity. Overall, the Committee’s assessment was that its approach of cautious cuts in the policy rate is keeping inflationary pressures and external account pressures in check and, at the same time, is supporting economic growth on a sustainable basis.
The Committee noted important developments since the last meeting that may have implications for the economic outlook. First, the current account remained in surplus for the third consecutive month in October 2024, which, on the back of weak inflows and heavy repayments of government debt, helped the State Bank of Pakistan’s foreign exchange reserves to increase to around $12 billion. Second, global commodity prices remained broadly favorable, which had a positive impact on domestic inflation and the import bill.
Third, credit to the private sector has recorded a significant increase, reflecting the overall easing in financial conditions and banks’ efforts to meet the loan-to-deposit ratio. The gap in tax collection has widened compared to the target. In view of these circumstances, the Committee’s analysis was that the overall impact of the policy rate cut has started to materialise since June 2024 and will continue to materialise over the next few quarters.
In this context and in view of today’s decision, the Committee noted that the real policy rate is suitably positive to keep inflation stable within the target range of 5-7 percent. According to the statement, the data received indicate improved prospects for economic growth. The risks to output in the overall crop scenario in the agriculture sector have receded to some extent.
This is based on encouraging early information, including better-than-expected cotton production and satellite imagery of the wheat crop area since the last meeting of the Monetary Policy Committee. The pace of industrial activity is also picking up. Key sectors of large-scale manufacturing (LSM) such as textiles, food, automobiles, petroleum products and tobacco were already showing robust growth in the first quarter of FY25.
Moreover, the latest high-frequency indicators such as domestic sales of cement, automobiles, fertilizers and petroleum products suggest that this momentum of industrial activity is continuing. The improved prospects of the commodity-producing sectors and the impact of the decline in inflation will also support the services sector. Going forward, improving business confidence and accommodative financial conditions are expected to support economic growth.
In view of these developments, the MPC expects real GDP growth to remain within the upper half of the estimated range of 2.5-3.5 percent during FY25. The current account continued to improve and it registered a surplus of $0.2 billion during July-October FY25, driven by substantial remittances from workers and robust export performance.
Exports grew by 8.7 percent, led by high value-added textiles, rice and petroleum. At the same time, the import bill remained limited due to favorable international commodity prices, although import volumes increased significantly. The narrowing of the gap between the interbank and open market exchange rates and accommodative policies helped stabilize workers’ remittances.
In addition to the current account surplus, foreign investment inflows also improved, which increased the State Bank’s foreign exchange reserves, although government inflows were low. If the trend of workers’ remittances and exports continues in the future, and international commodity prices also remain favorable, the current account deficit in FY25 is expected to remain close to the sub-zero to one percent of GDP threshold, as forecast.
Thus, the State Bank’s foreign exchange reserves will exceed $13.0 billion by June 2025. The revised financial operations data for the first quarter of FY25 showed an improvement in both the overall and primary balances. FBR’s revenue grew by 23 percent year-on-year during July-November FY25, but this is significantly lower than the growth rate required to achieve the annual tax collection target.
On the expenditure side, the lower than budgeted revenues will lead to significant savings in interest payments on domestic debt. These lower interest payments will help the government control the fiscal deficit; however, achieving the primary surplus as per the target will be difficult. In this regard, substantial efforts and additional measures will be required to meet the annual revenue target.
This situation highlights the importance of fiscal reforms to broaden the tax base and achieve the desired fiscal consolidation. At the time of the last meeting of the Monetary Policy Committee, the growth of broad money M2 was 15.2 percent at the end of November, which declined to 13.9 percent year-on-year. The decline was mainly due to the decline in net domestic assets of the banking system due to the decline in government debt, while the share of net foreign assets in the overall growth of broad money (M2) increased.
The improvement in financial conditions and efforts to comply with the minimum loan-to-deposit ratio by the end of December 2024 led to an acceleration in the provision of credit by banks to the private sector and non-bank financial institutions. Credit to private sector enterprises increased significantly, and consumer credit also increased significantly during October 2024.
In the liabilities category, deposits continued to be the main contributor to the growth in M2, although the currency-to-deposits ratio increased slightly. Headline inflation further declined to 4.9 percent on a year-on-year basis in November from 7.2 percent in the previous month. This significant decline was mainly due to the favourable base effect of gas prices, along with continued moderation in food inflation and easing in global commodity prices.
The Committee noted that these factors are expected to continue in the near term, which could lead to further decline in headline inflation in the coming months. Similarly, the Committee estimated average inflation for FY25, which is significantly lower than the earlier forecast range of 11.5-13.5 percent. Meanwhile, it was observed by the Committee that core inflation declined marginally in November, while consumer inflation expectations increased further.
At the same time, the inflation outlook is subject to a number of risks, including additional measures to address the revenue shortfall, a resurgence of food inflation, and rising global commodity prices. Despite these risks and the expected gradual fading of the favorable fundamental effect, taking all factors into account, the Committee was of the view that the monetary policy stance was appropriate to stabilize inflation within the target range.
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