The central bank's move to raise the key policy rate by 150bp to curb inflation on the day the rupee falls 3.8% is sending a strong signal to the financial markets and the International Monetary Fund (IMF).
Short-term lending rates have now risen from 8.5pc to 10pc and are valid for the next two months. During this rate announcement, SBP said inflation in 2018-19 could remain between 6.5pc and 7.5pc against the 6pc target and economic growth would be slightly above 4pc.
The way our new government fulfills its commitment to creating new jobs in this economic growth prospect depends on its ability to implement greater fiscal discipline on the one hand and external financing on the other. Otherwise, growth will not be accelerated beyond 4pc and will limit the scope of job creation on a large scale.
Excessive tightening is required to bring policy rates into the double-digit area. If the rupee falls to a new low, the Bank of Pakistan (SBP) will have a serious impact on the local currency to discover its true value.
The IMF mission told the authorities that the Rupee was still overvalued in terms of funding and that it was not tight enough to check for an increase in money, saying the currency tightened before November 30th.
The rise in bank lending rates means an increase in financial costs for many industry sub-sectors that are no longer sitting in their cash pile due to lower output growth
Uncertainty about the IMF should be over when the Rupee rate rises to US $ 139.06 on November 30 and the policy rate is raised after the financial crisis.
These events, apart from their political positioning and attitude, indicate that Pakistan now has serious implications for pursuing a new IMF loan. Bankers say it is necessary to inform the financial markets that the finance minister, Asad Umar, is adding uncertainty that the government is not in a hurry to get an IMF loan.
In the last four and a half months of this fiscal year, banks' private sector loans have increased unprecedentedly. Why? Indeed, the government is borrowing from the central bank (reading the prints) in an effort to recover the commercial debts of the commercial banks and to cover their current expenses. This means that banks have no way to park excess liquidity except for loans to the private sector. And why is the private sector too busy borrowing from banks? They did so because they anticipated more interest rate hikes and knew that banks had funds to borrow.
"Thus, the most direct impact of the policy rate hike will be on the banks' private sector lending," said the treasurer of a large local bank. "In the future, you will see slower credit growth than you have ever seen."
The finance minister is now more likely to switch equipment after borrowing a lot of money from the central bank and retiring commercial bank credit. This is because the bank will lend more money to retire the central bank's debt. Banks will naturally hurry to lend to the government.
Interest rate hikes occurred at a time when large-scale manufacturing (LSM) was contracting. As industry sector credit demand is expected to slow down in the coming months, a more stringent interest rate is beneficial in that it will not hurt growth sentiment, such as when demand increases.
However, there is a bad point in that it is relatively well done and it is possible to stop the LSM sector, which can see growth through investment in production capacity.
However, the monetary tightening policy is to encourage savings to reduce expansion, curb investment for the foreseeable future, and promote local investment through regional savings in the future.
SBP said in its monetary policy statement that the policy rate hike of 275 percentage points since January and other policy measures could include domestic demand in the fiscal year. The central bank predicts that the economic growth rate for this fiscal year will be slightly above 4%, anticipating that last year's major crop production will be lower than 2018-19 and LSM's contraction will ease some economic activity.
During the first three months of this fiscal year, LSM production decreased by 1.71%. Ten of the 15 LSMs, including textiles, food, fertilizers, automobiles, and steelmakers, posted negative growth.
Following recent monetary tightening, the rise in bank lending rates means that the financial costs of the industrial sector, which are not sitting on their cash pile anymore, are growing, due to lower production growth.
On the other hand, the rise in bank interest rates will deteriorate even if the five sectors of LSM show an increasing trend of output. These are electronic products, leather products, paper and board, engineering products and rubber products. These subdivisions of LSM are already in trouble due to the high cost of imported inputs since Rupee depreciation.
Business leaders are afraid that the biggest impact of monetary tightening will affect SMEs. They are afraid that small business loans will increase with low economic growth, low rupees and high interest rates. And as a result, we can prevent banks from lending to small businesses. Especially when the government resumes borrowing from the bank. The federal government borrowed 2.9 trillion rupees from SBP for the purpose of collecting $ 2.630 trillion in commercial bank credit for this purpose from 1 July to 16 November.
But once Pakistan joins the IMF program, senior bankers say the government borrowing from SBP will have to be disciplined.
Dawn, Business and Finance Weekly, issued December 3, 2018