In a decisive move, the State Bank of Pakistan (SBP) slashed its key policy rate by a substantial 250 basis points to 15%, marking the fourth consecutive reduction since June. This aggressive step, totaling a 700 basis point decrease, reflects the central bank’s confidence in the declining inflation trajectory, which has been steadily approaching its medium-term target range of 5-7%.
The nation witnessed a 44-month low in annual inflation at 6.9% in September, followed by a slight uptick to 7.2% in October. While this downward trend is encouraging, real interest rates remain significantly positive, indicating the SBP’s cautious approach. The International Monetary Fund (IMF) also shared this optimism, revising its inflation forecast for Pakistan downward to 9.5% for FY25, a significant improvement from the earlier estimate of 12.7%.
Lower borrowing costs are expected to yield substantial benefits for the economy. The SBP anticipates federal debt payments to fall below 50% of government revenues in the current fiscal year, a significant reduction from the budgeted 60%. However, the impact on private credit remains uncertain.
While the recent rate cuts have been more aggressive than anticipated, the SBP remains vigilant about potential risks to the inflation outlook. The monetary policy statement highlights the role of delayed gas tariff and petroleum development levy adjustments, alongside decelerating food inflation and favorable global oil prices, in the recent disinflation. Any future adjustments in energy prices, as required by the IMF program, could lead to renewed inflationary pressures.
Additionally, the shortfall in tax collection poses a significant challenge. The government may need to introduce a ‘mini budget’ with additional taxes in the third quarter to meet fiscal targets, particularly the primary balance target. The IMF has already rejected any downward adjustment of tax targets.
Geopolitical tensions in the Middle East also add to the uncertainty. While the country can absorb a 10-15% increase in oil prices, any further escalation could destabilize the fragile external account.
In conclusion, while the recent economic indicators have shown positive signs, including easing inflation, stabilizing external accounts, and lower borrowing costs, a cautious approach is necessary. The road ahead is fraught with potential challenges, and sustained economic recovery will require prudent policy decisions and favorable global conditions.
