The State Bank of Pakistan (SBP) in its Monetary Policy Committee (MPC) announcement today held its Policy Rate unchanged at 13.25%. This was in line with our expectations. Market had also anticipated no change in interest rates. In a Bloomberg Poll of 41 respondents, 36 had opined no change, 4 were for 25 basis point reduction while 1 respondent expected 50 basis point hike.

SBP has stated that its inflation expectations are unchanged from previous policy announcement and is sufficient to bring inflation down to target range of 5%-7% over the next 24 months. SBP is of the view that the inflation on new base shows broadly the same trend as the old base. We believe that inflation is expected to rise in the 1HFY20 while softness is expected by the start of the next calendar year. Full year FY20 inflation is expected to average 11-12%.

SBP is looking at gradual slowdown in economic activity, which was in line with expectations and expects GDP growth for FY19 at 3.5%. Further, SBP has stated that external sector continues to show improvement and SBP has lately been able to build reserves. Regarding the fiscal situation, the SBP showed concern on the large FY19 fiscal deficit but at the same time stated that tax revenues (net of refunds) during the Jul-Aug’19 were commendable.

It is interesting to note that secondary market yields on government paper have been gradually coming down with 1-yr T-Bill trading at 13.72% compared to auction cutoff of 13.93% held on 11th-Sept’19. This is primarily because market’s thirst for yield in light of low supply of longer tenure paper and expectation of a peak in the current interest rate cycle.

It should be noted that in our strategy report published on July 15, 2019 (see here), we had opined that interest rates can increase by a further 100 basis points. The SBP subsequently raised rates by 100 basis points in its July 16MPC announcement to 13.25% and has maintained status quo today.

We eye that unless Pakistan’s foreign exchange reserve increase significantly, interest rates will remain at current high elevated levels. The IMF Staff Report dated July’17 (see here) forecasts Jun’20 reserves at USD 14.5bn, which may not be enough to warrant a rate cut, we believe. SBP has also stated that it has seen first few months of encouraging macroeconomic numbers and sustainability of this trend is critical. (Courtesy – BMA Capital Management Ltd.)