The State Bank of Pakistan has projected a durable recovery with the economy returning to full capacity in the coming months. However, Covid-19 and external shocks still pose a serious challenge to the outlook.
The Monetary Policy Committee decided to maintain the policy rate at 7pc, as per market expectations, for the third time after cutting it by 625 basis points, down from 13.25pc, at the time the global pandemic hit the economy last February. However, it is expected to raise the rate as “the recovery becomes more durable and the economy returns to full capacity.” According to SBP Governor Dr Reza Baqir, the policy rate remained unchanged as it was necessary “to provide needed support to the emerging recovery” while the financing conditions continue to be accommodative with real interest rates “slightly below zero on a forward-looking basis.”
“The Monetary Policy Committee felt that the existing accommodative stance of monetary policy remained appropriate to support the nascent recovery while keeping inflation expectations well-anchored,” the SBP said in a statement. It also provided guidance that it planned to keep interest rates unchanged in the near term in the absence of unforeseen developments, adding that any changes to interest rates as the economy recovered would have to be measured and gradual.
The MPC noted that domestic recovery has gained some further traction since the committee’s last meeting in November, 2020. Economic activity data and indicators of consumer and business sentiment have shown continued improvement and while the inflation rate may increase due to increase in utility prices, the rise would be transient. Inflation is still expected to fall within the previously announced range of 7-9pc for FY21 and trend towards the 5-7pc target range over the medium-term.
The economic recovery, which started in July, has strengthened in recent months. Large-scale manufacturing (LSM) grew by 7.4pc year-on-year in October and 14.5pc in November. The manufacturing recovery is also becoming more broad-based, with 12 out of 15 sub-sectors registering positive growth in November and employment beginning to recover. So far this fiscal year, LSM has grown by 7.4pc against a contraction of 5.3pc during the same period last year.
Pakistan’s trade deficit has risen after a rise in imports of machinery and industrial raw material, in line with the pick-up in economic activity, while remittances and exports continue to grow steadily. The current account remained in surplus during the first half of FY21, at $1.1 billion compared to a deficit of over $2 billion during the same period last year, mainly driven by workers’ remittances. The current account deficit for FY21 is projected to remain below 1 percent of GDP. The SBP said fiscal developments have been largely in line with this year’s budget and the government continued to adhere to its commitment of no fresh borrowing from the central bank.
According to the central bank, financial conditions remain appropriately accommodative at the early stage of the recovery, with the real policy rate in slightly negative territory on a forward-looking basis. As demand recovers and inventories fall in some sectors, working capital loans have also picked up for the first time since the onset of the pandemic, although their level remains lower than last year.
In agriculture, cotton output is likely to decline more than expected based on latest production estimates. However, it is likely to be offset by improved growth in other major crops and higher wheat production due to the rise in support prices along with announced subsidies on fertilisers and pesticides for Rabi crops. While social distancing is still affecting some service sectors, wholesale, retail trade and transportation are expected to benefit from improvements in construction and manufacturing activity.
As Pakistan expects to grow slightly above 2pc in FY21, Moody’s Investor Service forecast Pakistan’s economy to grow by 1.5pc during the current fiscal year and found Pakistani banks to be stable owing to the government support but warned banking sector risks were growing. “Economic activity will remain below pre-outbreak levels, although the economy should return to modest 1.5pc growth in fiscal year 2021,” Moody’s said in its outlook for the Pakistani banking sector.
The International Monetary Fund (IMF) has also praised Pakistan for improving its business environment. In a report entitled ‘Economic Governance Reforms to Support Inclusive Growth’, the IMF said that Pakistan had reduced the period for obtaining permits required for construction through reforms of the business laws. “Pakistan is one of the countries in the Middle East, North Africa and Central Asia, where the time period has reduced because of the measures taken for the development of the construction sector,” the report said. Citing the example of Pakistan, the IMF said the country had increased tax revenues by giving incentives to tax collectors.
Undoubtedly, the economic situation has improved since April-June 2020, yet it has not achieved the required levels. In its latest report, the Asian Development Bank forecast broad economic recovery in Pakistan with 2pc GDP growth in fiscal year 2021, with improved economic sentiment. In its Asian Development Outlook, the ADB said, “Broad economic recovery is projected for fiscal year 2021, with GDP growth estimated to rebound to 2pc, lower than forecast in 2020. The forecast assumes that the Covid-19 impact will subside by the end of the second quarter of the fiscal year, allowing global conditions to normalise and economic sentiment to improve.”
Despite the positive projections for Pakistan’s economy, rising prices are the biggest issue of the people of the country. The government is optimistic about bringing down inflation. However, people have lost hope of any relief from the government after a 15pc hike in the power tariff.