Macro Analysis /

Pakistan Economy: Monetary Policy Review

  • SBP has kept PR unchanged as demand moderation and recent trade data points towards improving external account

  • The pause seeks fruits of lagged impact of monetary and fiscal tightening rounds

  • Downside risks can emerge from exogenous factors namely monsoon spells which can hurt growth and inflation outlook

Intermarket Securities
23 August 2022

SBP pauses tightening, necessitating strong adherence to Fund directives

SBP has kept the policy rate unchanged as domestic demand has started to moderate and recent trade data points toward an improving external account. The pause after 800bps of hikes since Sep’21 comes after inflationary outcomes have been largely in-line with SBP expectations and current policy standing well anchored. The lagged impact of tighter monetary and fiscal measures on aggregate demand, with 3-4% growth in FY23E, corroborates adequately with the impact of softer commodity prices and high base effect on inflation, allowing SBP to stick to its FY22 inflation forecast at 18-20%. However, the current pause carries downside risks mainly from recent prolonged monsoon spells which can not only hurt the growth outlook but also surprise with perishable food inflation.

  • The recent swelling of broad inflation (24.9%) in Jul’22 is the after-effect of reversing the energy subsidy package while core continues to inch upward. This momentum will start subsiding at a faster pace beyond Sep’22 from the softer commodity prices as well as the nascent PKR recovery. More prominently, crude oil future’s path has shifted downwards, portraying a cooling off of external price shocks after the peak was attained; however, they are still higher than the pandemic levels. The only surprise in the inflation forecast will likely emerge from monsoon spells which have destroyed perishables and can be a key supply-side risk ahead.

  • Softer commodity price impact and demand moderation is shown by Pakistan’s trade deficit, which halved to USD2.7bn in Jul’22, while remittances remained strong. This stands partly attributable to temporary administrative measures to curb non-essential item imports. These measures will be eased in coming months where the program resumption to the 12 months ending Jun’23 will bring adequate external financing of USD33bn, overall import bill will likely be contained by clearly adopting the targeted fiscal consolidation of c.3% of GDP and implementing the strong measures to reduce energy demand. Structural reforms of alignment of domestic energy tariffs with international prices and broadening the tax base remain key to fiscal target delivery.

  • Under the renewed IMF Program, Fx reserves are targeted to reach USD16bn, including the USD4bn from friendly countries. This encapsulates a current account deficit (CAD) target of 3% of GDP (IMS estimate: 3%) as Pakistan ensures IMF directives are keenly implemented. Without the aid from friendly countries, including USD2bn from Qatar, USD1bn under the Saudi oil facility and USD1bn from UAE, the reserves target would potentially reduce to USD12bn, which translates into an inadequate import cover.

SBP maintains confidence in the ending of overheating of the economy by Jun’23 with real GDP converging to its long-term path. Most of the demand contraction is also visible in non-oil volumes of import bill while remittances have remained steady. The current halt in monetary tightening is justified, as long as Pakistan acutely follows IMF’s directives and subdues energy demand through administrative measures. A lot of Fund’s stipulations are in this MPS announcement which can regress Pakistan’s recovery if popular measures come forth in the run-up to General Elections 2023. Albeit, this pause improves market sentiments broadly, especially towards a few ignored cyclical names including DGKC, CHCC, PIOC, FCCL, MUGHAL and INDU.