Karachi—Higher imports coupled with lower remittances can affect balance of payments. This may warrant earlier than expected reversal in interest rate. The central bank’s Monetary Policy Committee (MPC) sits on an easy decision in its upcoming meeting due next week for bi-monthly review of monetary policy. To this end, the status quo decision seems a foregone conclusion and it is expected that more convincing vote count (eight out of ten members opted for status quo) as near-term inflation path remains unchanged while latest data on twin deficit is more supportive of status-quo decision However, the easy decision entails one important unwarranted implication.
With possibility for banks to make money on duration call stands reduced and the big maturity of Pakistan Investment Bonds/T-bill well behind, the incentives for banks to carry overblown balance sheet to undertake proxy fiscal financing has practically diluted. As a result, it is believed that banks’ focus on low duration is likely to further intensify. The participation by banks in the upcoming PIB auction (due on 28-Sep 201616) will prove to be a key litmus test.
Two clear implications reduced duration of government’s liabilities, and possibility of higher reliance on central bank to fund fiscal deficit. Following government’s decision to maintain domestic gas prices in 1H17, oil price movement remains a major risk to inflation outlook together with higher monetary growth (13.67% in FY16 vs 13.2% in FY15) predicated on excessive government borrowing, which remains a key demand side risk. Inflationary pressure is likely to resurface in 2H17 as the impact of low-base wears out and the cost/demand side pressure creeps up on the back of likely recovery in commodity prices and government borrowing.
A key risk to inflation outlook stems from above-expected deterioration in the Balance of Payments (BoP) and ensuing risk to currency stability.
A slightly higher current account deficit estimate of US$3.4bn (1.1% of GDP) in FY2017. In recently released minutes of meeting of last MPC, the central bank has acknowledged structural challenges to efforts on building up Foreign Exchange reserves and pressure on trade account.