IN the current fiscal year, the federal government allocated 7.3 trillion for interest payments, exceeding the combined budget for defence, pensions, subsidies, grants, and other expenditures, which summed up to approximately 7.1 trillion rupees. According to the Monthly Economic Outlook by the Ministry of Finance for December 2023, there has been a 63% increase in interest payments in the first five months of the current fiscal year compared to the same period last year. Interest payments in the previous fiscal year were 5.52 trillion, and if the current trend continues, they are expected to reach 9 trillion by the end of this year, implying an additional 1.7 trillion in actual markup expenditures compared to the budget allocation.
Notably, in the past year, there was approximately a 24% increase in public debt, while interest payment amounts increased by about 63%. The question arises: What led to such a significantly higher increase in markup payments compared to overall debt? Those with an understanding of the economy recognize that the policy rate, i.e., the official interest rate, is the fundamental reason for this disproportionate increase. During the budget preparation for the fiscal year 2022-23, Pakistan’s policy rate was 13.75%, with 3.95 trillion allocated for interest payments. By the end of the last fiscal year, the policy rate had reached 21%, resulting in an additional 1.6 trillion being spent on markup payments, totaling 5.52 trillion.
During the preparation of the budget for the current fiscal year (2023-24), the interest rate was 20%, and an allocation of 7.3 trillion was made for markup payments. Later, the interest rate was further increased to 22% by July 2023. Consequently, markup expenditures are heading toward 9 trillion. Pakistan has one of the highest policy rates globally. Determining the policy rate is a mandate of the State Bank’s Monetary Policy Committee, and the State Bank is a government institution. The question arises: Why does a government institution increase the burden on its own government by raising the interest rate? The reason is that the State Bank believes that an increase in the interest rate can control inflation in the country. This policy is also supported and forcibly imposed by international financial institutions.
Is the policy rate really helpful in reducing inflation? There are two types of economic theories on this matter. The first theory, widely accepted and endorsed by international financial institutions, suggests that increasing the interest rate leads people to reduce their spending, resulting in a decrease in aggregate demand in the country and a consequent reduction in inflation. According to the other theory, an increase in the interest rate leads to an increase in production costs for factories, and the factories pass on this cost to consumers, causing a further increase in inflation. Many renowned economists, including Nobel laureates Christopher Sims and Joseph Stiglitz, support the alternative theory.
Numerous real-world events, both domestic and international, support this alternative theory. For example, during the People’s Party government in Pakistan, the interest rate was around 14%, and inflation was also approximately 14%. During the PML-N government, the interest rate was reduced to 5.75%, and correspondingly, there was a decrease in the rate of inflation. Similarly, at the beginning of the PTI’s government, the interest rate was increased in the hope of controlling excessive inflation, but inflation continued to rise. Due to the COVID-19 crisis in 2020, there was a reduction in the interest rate, resulting in a decrease in inflation. However, in 2021, the interest rate started to rise again, and along with it, the cycle of an increase in inflation began. These pieces of evidence reflect that, in recent economic history in Pakistan, an increase in the interest rate did not lead to control over inflation. Nevertheless, the SBP insists that it is necessary to increase the interest rate to reduce excessive inflation.
The SBP’s policy, deemed both factually inconsistent and highly inhumane, is acknowledged by the institution itself to contribute significantly to inflation, primarily driven by rising food prices. This approach suggests that effective demand management to curb inflation necessitates a reduction in people’s food consumption, impacting aggregate demand. The question arises: Is it reasonable or ethical to compel individuals to cut their food intake due to economic policies? Unfortunately, the SBP and monetary economics appear indifferent to the humanitarian aspects of their decisions, seemingly adhering faithfully to the directives of the International Monetary Fund (IMF).
According to the State Bank Act, the SBP is bound to compile a comprehensive report on the State of the Economy and present it to Parliament. The SBP compiles this report every year, and its reports contain everything except an analysis of the validity of its own monetary policy. The SBP does not have any single evaluation report that assesses the validity of monetary policy and resultant markup expenditures.
In essence, if the high-interest rate policy persists, the amount spent on interest payments by the end of the current fiscal year will reach nine trillion rupees, while all other government expenditure is less than seven trillion rupees. If the interest rate is brought to the levels of India or Bangladesh, an annual saving of almost seven trillion is possible, which is sufficient to double every other budgetary allocation. Despite this, the SBP insists on the current policy rate. In this situation, it is our right to ask why this expenditure is being imposed on us.
On election days, expected public representatives often approach the public at their homes, so it is the time to convey them the message. I request informing these prospective representatives about this injustice of the SBP and convince them to play a role in stopping the SBP from this public exploitation if they are elected to the House. At least ask the SBP to submit an evaluation report on the validity of the interest rate policy and resultant expenditure imposed on the public exchequer. This one step would be sufficient to redirect the economy of the country toward the path of progress.
—The writer is Director, Kashmir Institute of Economics, Azad Jammu and Kashmir University.
Email: [email protected]
views expressed are writer’s own.
