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The State Bank of Pakistan (SBP) on Thursday raised its benchmark interest rate by 300 basis points, from 17 percent to 20 percent—the highest level in 27 years—to anchor “inflation expectations,” which is now expected to average out at 27-29 percent this year.
Noting that the Monetary Policy Committee (MPC) had highlighted near-term risks to the inflation outlook from external and fiscal adjustments, it said many of these had materialized, with national CPI inflation surging to 31.5 percent year-on-year, and core inflation rising to 17.1 percent in urban, and 21.5 percent in rural areas. Clarifying that the MPC had noted recent fiscal adjustments and exchange rate depreciation had deteriorated the near-term inflation outlook, it said it now expected inflation to continue to rise for several months before gradually declining.
On the external side, the MPC noted that despite a substantial reduction in the current account deficit (CAD)—it has declined by 67 percent thus far this fiscal year compared to the same period last year—scheduled debt repayments and a decline in financial inflows amid rising global interest rates and domestic uncertainties were continuing to exert pressure on foreign exchange reserves and the exchange rate. Stressing that concerted efforts were needed to improve the external position, it said concluded the ongoing 9th review under the International Monetary Fund (IMF)’s Extended Fund Facility would help address near-term external sector challenges. The MPC also stressed on urgently undertaking energy conservation measures to alleviate pressure on the external account and meet the import requirements of other sectors.
Referring to the recently passed ‘mini-budget’ and the fiscal measures it has imposed, the MPC said it was expected to help contain the otherwise widening fiscal and primary deficits. “As highlighted in earlier statements, the envisaged fiscal consolidation is critical for economic stability and will complement the ongoing monetary tightening in bringing down inflation over the medium-term,” it said, warning that any significant fiscal slippages would undermine monetary policy effectiveness in the context of achieving the objective of price stability.
The MPC, read the statement, also assessed the impact of further monetary tightening on financial stability and the near-term growth outlook. “The [MPC] views that the risks to financial stability remain contained, given that financial institutions are broadly well capitalized. On growth, however, there exists a trade-off,” it said, reiterating that the short-term costs of bringing down inflation are lower than the long-term costs of allowing it to become entrenched.
“Barring unexpected future shocks, the MPC noted that today’s decision has pushed the real interest rate in positive territory on a forward-looking basis,” it said, claiming this would help anchor inflation expectations and steer inflation to the medium-term target of 5-7 percent by the end of fiscal year 2025. The statement concluded with the MPC agreeing to hold its next meeting in just one month, on April 4.