Déjà Vu – 50bps Hike in DR

SBP increases Discount Rate by 50bps: Amidst concerns regarding macroeconomic stability, State Bank of Pakistan decided to further tighten monetary stance, increasing Discount Rate (DR) by another 50bps, taking it to 14%.

Persistence in CPI inflation driven primarily by fiscal weaknesses: According to SBP, post-flood supply shocks and disruptions have now subsided, and should help bring down food inflation. However, insufficient revenue collection and narrow tax base have led the government to rely on SBP to finance defense and flood related expenditures (PKR266bn), furthering inflation expectations. This trend will most likely keep inflation in double digits throughout FY11 and FY12.

GoP needs to commit to and implement required fiscal reforms: In the given circumstances GoP must implement all fiscal reforms recommended by IMF, including RGST, reduction in power sector subsidies, as well as flood surcharge. This will help mobilize domestic resources, reduce borrowing and tame inflationary expectations, promoting overall macroeconomic stability.

SBP to continue with tight monetary stance: Given SBP foresees inflationary pressure to persist well into FY11 we could either see SBP hold DR at 14% or undertake further tightening in the upcoming policy announcements. Nevertheless, future direction of monetary policy will largely depend on 1) Progress on fiscal reforms (RGST, Reduced power sector subsidies) 2) Foreign Flows.

Persistence in CPI inflation driven primarily by fiscal weaknesses

While flood induced supply disruptions have caused food inflation and hence headline inflation to peak, the Central bank expects the momentum to slowdown. However, concerns regarding relentless government borrowing from SBP to finance defense and flood related expenditures stand as they did when the last Monetary Policy decision was announced. Weak revenue generation, delayed progress on fiscal reforms, including Reformed GST, reduction in power subsidies and imposition of flood surcharge have left GoP with no other option but to undertake inflationary borrowing from SBP (PKR266bn FYTD) to finance its expenditures. Consequently, inflationary expectations have continued to gather pace, causing CPI to become downward rigid. Hence, despite a relatively optimistic view on Current Account Deficit (healthy inflow of remittances and receipt of Coalition Support Funds to lend support) and decelerating food prices, the SBP foresees medium term inflation to remain in double digits. This expectation of persistence in inflationary pressure has prompted the Central Bank to adopt a proactive stance, inducing a 50bps hike in DR.

GoP needs to commit to and implement required fiscal reforms

In the given circumstances GoP must implement all fiscal reforms recommended by IMF, including RGST, reduction in power sector subsidies, as well as flood surcharge. This will help mobilize domestic resources, reduce borrowing and tame inflationary expectations, hence promoting overall macroeconomic stability.

SBP to continue with tight monetary stance

Given the SBP foresees inflationary pressure due to excessive government borrowing to persist well into FY11, we could either see SBP hold DR at 14% or undertake further tightening in the upcoming policy announcements. Nevertheless, future direction of monetary policy will largely depend on 1) Progress on fiscal reforms (RGST, Reduced power sector subsidies) 2) Foreign Flows.

Economic & Political News

Government set to increase oil prices

The government is all set to increase oil price in line with the hike in global oil prices effective December 1, 2010. Oil and Gas Regulatory Authority (Ogra) will notify the price rise today (Tuesday). Price of petrol will increase by PKR1.73/litre, HOBC by PKR2.17/ litre, High Speed Diesel (HSD) by PKR2.14/litre, Light Diesel Oil (LDO) by PKR2/litre, kerosene oil (SKO) by PKR1.58/ litre, PKR1.78/ litre JP-4, and PKR1.57/ litre JP-8.
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