In the first monetary policy announced under Acting Governor Dr. Murtaza Syed, the SBP has raised the Policy Rate by 150bps to 13.75%. Consensus called for a 100bps increase. The SBP has also increased interest rates on concessionary loans for exporters, and linked them with the policy rate going forward. The central bank is less categorical on forward guidance, a departure from recent practice, instead choosing to highlight the primacy of data in setting interest rates. That said, the SBP appears to believe market rates have overshot (T-bill yields were in the 14.50%-14.75% range in last week’s auction), with “appropriate action” possible so as to achieve closer alignment with the policy rate. This may include the use of longer-term OMOs, in our view.
The stated reasons for the rate increase include:
Stronger than expected 6% GDP growth in FY22 and a positive output gap. FY23 GDP growth is expected in the 3.5%-4.5% range
Elevated external pressures, on Russia-Ukraine, China shutdowns and a stronger US$. While the CAD may reduce to 3% of GDP in FY23, the import cover has quickly fallen to just 1.5 months which has reflected in sharp PKR weakness this month.
A worsened inflation outlook, pushed by an expansionary fiscal stance (primary deficit). We expect FY22 CPI to average near 11.5%. The SBP expects inflation to remain “elevated” in FY23, before falling towards 5-7% by the end of FY24.
The SBP is now acting more proactively than before. However, it is shouldering a disproportionate burden given the fiscal side continues to be profligate (e.g. fuel subsidies still in place). The effectiveness of the monetary policy is also heavily dependent on the results of the ongoing talks with the IMF. These could potentially be subject to delays given the lack of high-level political backing thus far. Successful resumption of the IMF programme should help ensure that Pakistan’s external financing needs in FY23 are more than fully met. Failure to do so would risk a full-blown Balance of Payments crisis.
We maintain our constructive view on Pakistan equities, with the assumption that the IMF programme will come through soon and alleviate pressure on the PKR. Interest rates appear to have peaked, market valuations are already much below previous cyclical lows, and there is significant scope for improvement on politics and policymaking with elections due in 1.5 years at the latest. Our top picks include UBL, MEBL, LUCK, SYS and ILP.