Chief Economist and Research Advisor at State Bank of Pakistan (SBP), Dr. Ali Chaudhry, has said that the most difficult part is behind us. The cumulative growth of Pakistan was in double digits in the last two years and the economy was overheating, and to handle it, SBP had to increase the policy rate by 8 percent very quickly and if we compare this with other countries, SBP responded in a short space of time.
He highlighted that the sentiments and confidence in the economy matter a lot and this has been emphasized in the MPS as well.
The IMF program will anchor confidence in our policies which is a signal of credibility for the economy of Pakistan and through this, we will also see stability on the exchange rate front.
He was addressing questions of the anchor person in the SBP Podcast Series Episode 8 which mainly dealt with the parameters that the Monetary Policy Committee (MPC) of the SBP considers while taking the decisions on the policy rate. The Chief Economist also shed light on whether the measures taken by SBP since September last year have delivered the desired results.
Elaborating on the policy rate, he said the decision is taken by the MPC members, which are ten including the Chairperson.
It comprises of three external economists, three members of the Board, and three internal members of SBP and Governor SBP. After a lot of deliberations including presentations given by the SBP team on latest economic indicators and sector-by-sector outlook of the economy, the MPC takes the decision.
He further explained that this committee is independent of the SBP Board. “Our team has to present all the facts and figures before the MPC committee related to all sectors in a very objective manner, besides presenting the results of Econometric and General Equilibrium models which analyze the whole economy very closely in one piece,” he summarized. He observed the decision of the MPC doesn’t necessarily have to be unanimous and if there is a split then the Governor will have the casting vote.
The Chief Economist noted that the MPC decided to pause based on three basic reasons:
The desired results of the previous policy rate hikes were being achieved i.e. aggregate demand is being slowed down. We can verify this by looking at the sales numbers of the cement, and auto industries the demand in the economy has slowed down. Large-scale manufacturing is also slowing. The second reason for halting the policy rate was the impact of floods which we still do not know accurately but the impact of floods will eventually affect the economic indicators and growth.
He said the SBP will get the initial data related to the impact of floods on the economy in the next four weeks and compare it with the 2010 floods.
The third point is that our current data outturns on inflation suggest that projections on inflation need not be revised, so the current inflation is no surprise for the State Bank.
‘We have maintained our projections of inflation at 18-20 percent for the current fiscal year’ he revealed. It may be noted that the next MPC meeting is scheduled after six weeks and the exact situation of the economy is expected to be clearer by that time. He said it is important to consider the outlook of inflation in the near term, the price of POL in international markets has decreased in the last few weeks, and similarly the price of commodities has also decreased slightly. Overall, the projections of inflation of SBP remained unchanged. ‘These three reasons explain the decision of MPC to pause for the time being,’ he concluded.
Responding to the rumors about the country defaulting, Dr. Ali Chaudhry said that it’s not happening and stated that from now on the country’s economy is poised for an improvement and noted Pakistan had experienced a demand shock as well as a supply shock from the perspective of oil.
He said the impact of demand-side pressure on inflation was almost 60 percent and 40 percent was due to the supply side because of oil and commodity prices.
The impact of the steps taken in the last few months can now be witnessed as demand for everything has shrunk. This is very important for us as the number one objective of SBP is to achieve price stability. Now, the SBP’s target is to deliver price stability of 5 to 7 percent in the medium term.
In reply to another question, the Chief Economist reiterated SBP’s stance that after the amendment to SBP Act, the bank’s job is to deliver price stability.
Our inflation target is 5-7 percent for roughly eight quarters. As the projection for inflation improves in the future, the policy rate will eventually be decreased along with that improvement. On the other hand, a high level of inflation hurts the demand of businessmen as well. In fact, such high levels of inflation are not good for economic actors.
He revealed that at present Pakistan is going through an austerity phase and as projections for inflation were improved, the policy rate will eventually be decreased. ‘On the flip side, a high level of inflation hurts the demand, and that every contraction is different from the other be it the IMF driven or otherwise, he claimed.
Replying to a question about whether austerity means reducing our expenditures and consuming in line with our income, Dr. Chaudhry answered there are two ways to address the situation: either we increase taxes or we decrease our expenditures.
These different types of austerities have different intensities for growth; the impact of tax-type austerity on economic growth is more as per some recent academic studies due to the effect it has on confidence and sentiments. Pakistan generally has used expenditure type austerity and its impact is less and rebounds very quickly.
Elaborating on the exchange rate regime in Pakistan, he said it is now market driven; when the supply of dollars is greater than the demand and if the sentiments of the market are positive, then the rupee will appreciate at a market-determined exchange rate. Likewise, if import payments are high, and there is a demand for dollars, then the dollar will appreciate.
