Saturday, 26 October 2013


Islamic Republic of Pakistan has faced various regimes of democracy and dictatorship since her birth. The macro as well as micro economic condition of Pakistan has seen ups and downs. Here as an over view of economic situation of Pakistan from 2005-2013. The data, statistics and facts have been extracted from the Monetary Policy decisions and Statements of fiscal year 2005-2013 published by State Bank of Pakistan.

Demand pressures in the economy were observed as a result of which SBP increased the policy rate by 100 bps and 150bps in two stages. Furthermore, adjustments in reserve ratios were done. In order to increase the supply of money injections of liquidity was done through open market operations. During the year 2005, SBP did monetary targeting.

Due to exceptional requirements of textile industry, there was excessive growth of reserve money. The economy faced supply chain food problem, which affected prices of food items. Significant rise in global community prices generated new inflationary pressures in most economies. Pakistan CPI inflation stayed around the same level much higher than target of 6.5%.
 Due to bunching of heavy foreign exchange inflows, slippage of money supply growth from its target was seen. As a result of impact of FY07 developments, broad money supply grew by 13.7%, GDP growth increased by7.2% and inflation target was 6.5%. Due to assassination of ex-prime Minister Of Pakistan Benazir Bhutto, losses were faced by various private and public sector enterprises. The policy rates announced by SBP were 9% in FY06 and 9.5% in FY07. Monetary targeting regime was followed in 2006 and mixed approach was adopted in 2007 considering various economic variables.

 Due to development programs in first half of FY08, monetary policy deviated from its frame work. The introduction of long term financing facility (LTFF) facilitated export growth up to Rs 8million. As a result of slippages from fiscal deficit target complications for monetary management increased. Delays in privatization resulted in brought gap in financing the deficit.
Issuance of global depository receipts and sovereign bonds financed almost 41% of budget deficit. Refinancing requirements were lower due to which reserve money growth slowed to 9.6%(stronger growth than planned ) and central bank financing grew to Rs.241.6 billion with market treasury stock reaching its record level of Rs.624.6billion.  Due to political uncertainty and pressure of govt. borrowings on financial system, liquidity management complications increased.
Liquidity injections in the system and decline in effective cash reserve requirements (CRR) resulted in private sector credit managed to grow by 10.4%. Export financing provided by banks as well as SBP provided export benefit of Rs.139.6 billion against export credit of Rs.131.6 billion.
During FY 2008, inflation increased to 8.7% on year on year basis, CPI inflation reached to 8.8%, food inflation was 12.2%.  Hence SBP adopted tight monetary policy which caused moderate increase in KIBOR and banks lending rates, and flat monetary conditions Index(CMI) along with fall in effective CRR. High annualized M2 growth was seen. Policy rate increased by 50bps to 10% .During first half of FY 08 SBP adopted Inflation Targeting Regime.
During second half of FY 2008, US mortgage crisis occurred which brought rise in commodity prices in international market and slide in US dollar against various currencies. The impact was global shocks in Pakistan, slow economy, along with inflationary and recessionary trend. Monetary and fiscal deficit contributed to macroeconomic imbalances. Government borrowing was within the limit i.e. only Rs 23.3 billion however resulted somehow in stability and softening of interest rates in later months. Increase in commodity prices in international markets brought economic stress and increase in CPI by 4.3% which resulted in food inflation. Increase in CA deficit by 1.5% resulted in pressure on exchange reserves. Hence SBP announced policy rate to be increased by 50bps to 10.5%.
Subsidies against increased electricity prices and poor supply chain administration brought decrease in CPI. Core inflation also decreased from 12.6%-10.7%. Strong foreign remittances resulted in surplus external current account and decrease in cumulative external account deficit. Due to increase in oil prices and cost push shocks lowered economic activities and slow down aggregate demand. The decrease in aggregate demand also decreased imports.
Increase in portfolio inflow, increase in IMF inflow, adequate DFI and decrease in non IMF official inflows resulted in improved financial accounts, increase in exchange reserves and increase in NFA. Decrease in Government borrowing caused fiscal pressure. Moreover, retirement of wheat financing and improvement in external flows brought improvement in market liquidity and flow of private to credit sector. Stagnant private sector investment decrease potential OP of economy.
Due to some risk to inflation, gradual stabilization of economy, uncertain fiscal consolidation and electricity crisis, SBP announced policy rate to be 13% following mixed approach in September 2009.
Decrease in inflation to 8.9% brought improvement in current external account. Government borrowing was within limits hence M2 remained along projected path. There was real sector improvement, which resulted in large Scale Manufacturing recovery phase after declining. Due to poor administration in supply chain, higher fiscal deficit than projected, increase in commodity prices in International Market and increase in gas and electricity prices, inflation increased between 0.5%-1.7%, CPI Basket also showed monthly increase than benchmark.
The Global economy started to revive which improved flow of liquidity across borders. This brought increase in Exports of Pakistan and private financial inflows. Decrease in DFI, decrease in portfolio inflow, decrease in official inflow, decrease in IMF inflow and uncertain non-IMF inflow caused problem of liquidity management and government budgetary financing.
 Strong inflow of worker remittances improved current account deficit. Increase public sector borrowing resulted in increase in net domestic assets (NDA), risk averseness of bank, increase in LMS and decreased chances to early retirement of borrowing for rice procurement. Improvement in electricity supply brought increase in private borrowing.
Hence it was concluded that Increase in economic risk and uncertainties because of increase in borrowing and limited economic growth, the policy rate decreased by 50bps to 12.5 for November 2009. SBP adopted mixed approach.

With increase in energy sector prices, the economy faced persistent inflation pressure. Improved BOP position, decrease in external current account deficit and decrease in external financial flows resulted in increase in foreign exchange reserves. With increase in LMS due to improvement in electricity supply and security, the private sector grew due to which Government and public debt decreased.
Weak fiscal position brought increase in uncertainty. The Government decided to decrease development expenditures, as a result of which surge in domestic prices and decrease in public sector investment was seen. Uncertain non tax revenues on account of foreign re-imbursement brought even more fiscal complications.
Increase in financing by friends of Democratic Pakistan (FDoP) and increase in debt financing by IMF caused banking sector resources to increase. Increase in circular debt resulted in risk averseness by banks and they would tend to negotiate higher rates in risk free securities e.g. KIBOR increased from 1.5 to 2%.
There was uncertainty in fiscal sector and MP stance had difficulty in maintaining the balance between inflation, financial stability and economic growth during FY 2010. The policy rate remained at 12.5% and SBP adopted mixed approach in March 2010.
Due to economic stabilization efforts in May 2010, contraction in external current account deficit containment of excessive recovery growth and reduction in inflation were seen. Power crisis decreased economic activities, weaken the fiscal situation and decrease in macroeconomic stability hence, bringing increase in inflation.  Steady worker’s remittances increased in exports and coalition support funds (CSF). Along with that increase in NFA and M2 liquidity increased in rupee value.
Increase in government borrowing for budgetary support resulted in increase in NDA, decrease in private sector credit and increase in fiscal account. Tax collection was less than required and another collection of Rs 354 million was needed. FBR tax-GDP ratio was less than 10% which was one of the lowest in the world. Tax-GDP ratio was needed to be increased. Revenue deficit was 1.5%  of GDP and might cross 2% by the end of the year. Government cut developmental expenditure to decrease revenue deficit which resulted in damage to infrastructure, limited productive capacity and increase in inflation.
Decrease in productivity, increase in inflation, increase electricity prices and increase in petroleum brought increase in CPI, increase in sensitive Price Index and increase  in Non food, non energy price index. SBP while using mixed approach announced policy rate for May 2010 to be 12.5%.
In September flood hit the country resulting in fragile macroeconomic stability, low growth, increased inflation, stressful BOT and fiscal accounts. There was increase in government borrowing as well. Due to loss of infrastructure and agricultural damages, growth slowed down and exports decreased. This resulted in shortage of food leading to food inflation.
There was increase in private consumption the Government got busy meeting demand of food by victims and rehabilitation leading to deterioration of fiscal accounts. Increased electricity prices, induction of reformed GST and increased government borrowing from SBP caused increase in inflation. Decreased investment in domestic national savings increased foreign borrowing.
Budget deficit brought increase in government borrowing from SBP leading to unstable macro economic variables. Increase in external CA deficit and uncertain foreign inflows resulted in decrease in foreign reserves and pressure on exchange rate. With expansion in broad money, NFA increased. SBP adopted inflationary targeting and increased policy rate by 50bps to 13% as affective from September 2010.
High inflation, fiscal slippages and power and energy crisis caused destabilization of economy. Along with that, adjustment in fuel prices and energy, post flood disruption in supply chain added inflation increment. Increase in Govt. borrowing from SBP. Increase In security expenditures and flood related expenditures along with power sector subsidies, narrow tax base, decreased tax to GDP ratio, depreciation in rupees, increase in total debt, and decrease in productivity by private sector enhanced fiscal complications.
Increase borrowing and money creation resulted in high inflation leading high interest rate. With increase in petroleum and electricity prices and  food prices due to flood, increase in CPI by 0.6% on month on month basis occurred. Widening of tax by introducing reformed GST, power sector subsidies and limited Govt. borrowing from SBP resulted in long term economic growth.
Increase in working capital credit requirement of private sector resulted in higher in private sector prices and increased interest rates by banks. Decreased growth in NFA and deposits bought challenges of liquidity management. With real  real growth of 2.5% and decrease in public and private sector debt caused decrease in external CA deficit. Higher cotton prices made export earnings to be increased tp $7.1 Billion.
In conclusion economy was having emerging risk and uncertainty, there was a need to decrease private sector borrowing to manage fiscal position, there was restless govt. borrowing from SBP along with that increase in NDA ratio was associated with CPI inflation. Considering all factors SBP announced policy rate to be increased to 14%. Inflation targeting regime was followed in November 2010.

Improvement in external account deficit retrained Govt. borrowing from SBP and stable financial markets allowed Govt. to focus more on fiscal improvement. Check on Govt. borrowing, tax reforms, subsidies and forward looking debt strategies lead to economic growth. Dissipation of effect of flood on food prices, incomplete pass through of oil prices, smaller adjustment in electricity prices, subsidy of power sector, decrease in the Govt. borrowing and GST exemption to some extent resulted in inflation rate to decrease from 15.5 to 12.9%.
Monetary expansion aligning with productive economic capacity increased NFA. Increase public debt and decrease bank credit of private sector resulted in challenges of monetary management. Implementation of credit medium term budgetary frame work decreased revenue deficit. Middle East and North Africa uprising and damaged economy of Japan due to Earth quake affected Pakistan in many ways. Improvement in BOP caused increase in foreign exchange reserves. Using mixed approach SBP decided to keep policy rate at 14% for March 2011.
Persistent inflation, weak OP growth and decrease in private investment resulted in large budget deficit. Strong export earning along with robust growth in remittances however brought CA surplus of $748 million, increase in Foreign exchange reserves, increase in NFA and stable and liquid rupees.
Increase in cotton prices increased exports by $ 25 Billion. Private sector working capital was 3.2% and total deposits were 5.3% which gave increase to private sector credit. GDP growth was below 4%, which brought decrease in real private investment and increase in consumption demand. Increase in domestic demand and aggregate supply of OP and rising debt caused difficulty in bringing inflation down.
There was a need to Increase private investment and productive activities to manage debt burden. Along with implementation of fiscal reforms should be made. Decrease in Govt. borrowing was required to decrease fiscal deficit. SBP announced policy rate to remain at 14% and adopted mixed approach in May 2011.
Reduction in policy rates by 50bps in July 2011 lead to Decline in CP inflation and decline in govt. borrowings from SBP resulted in external current account  position stability, decline in foreign exchange reserve as well due to payments. Severe energy crisis and precarious law and order conditions made domestic economic environment least conductive for productive activities.
Flood in Sindh resulted in falling short of the annual GDP growth target. Persistence of govt. borrowings from scheduled banks , exchange rate depreciation and upward adjustments in the administered prices of energy increased inflation to 9.5%.  Closing aggregate demand and supply gap reduced inflation pressure. Due to decline in foreign financial inflows and increase in oil import payments there was depreciation in rupee of 1.7% against US $, decline in foreign exchange reserves and stressed liquidity conditions.
SBP decided to reduce polcy rate by 200bps to 12% by following exchange rate targeting in October 2011.
Decrease in policy rate by total 200 bps resulted in support of private investment in the economy. Average CPI inflation remained within the announced target. Fiscal weaknesses and falling foreign financial inflows lead to risks of macroeconomic stability and challenging market liquidity situation.
Increase in wheat support price by Rs.100 to Rs1050 per 40 k and CPI inflation, along with growing government borrowing from the banking system resulted in inflationary pressure. Abnormally high cotton prices, high international oil prices of $110 per barrel and strong growth in non oil imports brought increase in total imports growth and trade deficit.
Net direct and portfolio inflow were $207million due to which larger external current account deficit was seen. Net outflow $113 million in official loans decreased liquid foreign exchange reserves. Decline in financial inflows and external current account deficit resulted in reduction of Rs.115 billion in net foreign assets(NFA). To increase the demand for money liquidity injections by SBP through OMOS of rs.340 billion was done.
SBP announced that the policy rate would remain at 12% and mixed approach was adopted in September 2011.

Low level of exports, increased oil prices and lack of financial inflows resulted in stressed liquidity conditions in the market. Decline in private investment had adverse impact on medium term inflation Growth and employment prospects. Shortfall in external sources increased Government borrowings. Growing government borrowing requirement (from 218 billion – 373 billion), weak private demand, increase in international oil prices caused adverse effect on inflation.  Increase in Size of fiscal borrowing, lack of investments decreased medium term productive capacity of economy.
Decline in investment to GDP ratio was a cost of economy more visible in term of private and government borrowings. Adjustments in fiscal position brought liquidity injections by SBP to keep the payment system functioning and financial markets stable. Liquidity pressure and short term liquidity injections resulted in increase in Inflationary risk.
External current account deficit, declining foreign inflows, declining trend of export quantum, substantial external debt payment led to decline in foreign exchange reserves and external position under pressure. Few developments in external sector exerted downward pressure on rupee liquidity.
Encouragement of depositors to put their savings in govt. securities through investors portfolio securities (IPS) account brought improvement in financial deepening and competition in banking system and better returns on deposit overtime.  Introduction of 5%floor on all categories of savings/PLS saving product caused average deposit rate of all saving related products increased from 2.1 % to 5.25%.
Economy needed significant fiscal and energy sector reforms, early realization of planned financial inflows was required and banks were required to pay a minimum profit rate of 6% on PKR saving/PLS saving products. Considering all these conditions SBP adopted mixed approach and decided to have same policy rate of 12% in April 2012.
Inflationary pressures, external and fiscal pressures, scheduled banks avoidance in extending loan to private businesses, energy shortages resulted in slow-moving GDP growth and adverse impact on economic conditions. Fiscal borrowing from banking system, particularly from SBP was within path so inflation was controlled. Expansionary fiscal position and aggregate demand pressures led to offsetting of weak private demand especially investment demand.
Limiting and retiring budgetary borrowing from banking system and implementation of consistent and credible policies proved to be helpful in moving away from the undesirable equilibrium. Persistent energy shortages, unstable law and order conditions, no energy sector reforms brought decline in investment to GDP ratio moreover and shrank the demand for fresh private credit.
Absence of fiscal reforms, sheer volume of borrowings from banking system, expectation that the trend of borrowing would continue the gap between fiscal revenues and expense increased and there was a fall in private investment to GDP ratio to 12.5%.
No increase in additional revenues caused difficulty in reducing the scale of borrowings from scheduled banks and retiring the borrowings from SBP. External current account deficit (3.4 billion cushioned by workers remittance) and lack of sufficient external inflows to finance deficit led to Lack of development in external sector.
Repayment of IMF loan resulted in SBP’s net liquid foreign exchange reserves declined to $ 11.3 billion. Problem of euro zone increased the uncertainty in the global economy. Moreover, appreciation of us dollar decreased oil prices and oil bill of oil payments. However, it had positive development (save up to $700 million from import payments in FY13).
Economy needed fundamental reforms to improve the economic performance. Borrowing from banking system rose to Rs.1098 billion and from SBP Rs.414billion in the same period. Year on year CPI inflation raised to 12.3%. Borrowings should be minimized.SBP did no specific targeting and announced same policy rate of 12% in June 2012.
Resumption of monetary easing brought change in  behavior of borrowers in private sector and scheduled banks to improve economic conditions. Reduction in fiscal borrowing needs from the banking system improved supply of credit to the private sector. Increase in private investment demand reduced inflation. Retirement of Rs. 412 billion of fiscal borrowing from SBP brought down core inflation by having beneficial Impact on inflation expectations. Weak financial inflows and deficit in current account balance made it difficult to create money from accumulation of net foreign assets of banking system.
Decline in year on year growth in loans to private sector businesses from 22.4% in FY08 to 0.7% on end of FY12 and declining interest rate environment helped to reorganize strategy of scheduled banks . Scheduled banks initiated again performing their basic intermediary role and channel loan able funds to private sector. Consistent shortage of energy, lack of effective utilization of installed productive capacity and weak global economy adversely effected the demand for fresh credit. Export growth remained unresponsive.
Energy sector reforms were needed for Revival of private credit, investment, sustainable medium to long term economic growth . To strengthen the liquidity management framework SBP should have implemented certain measures. Comprehensive fiscal reforms, broadening tax base, reduction in waste full subsidies, and better co- ordination between federal and provincial government in terms of keeping consolidated fiscal position under control, were required to keep borrowing from SBP under control and avoid negative consequences of excessive borrowings from scheduled banks.
The policy rate in October 2012 was declared to be reduced to 200bps to 10%. Exchange rate targeting was adopted.
Credit extended to private businesses remained muted, deceleration in CPI inflation is faster than the projected path and small Current account deficit position n were events led to improvement in economic performance. Declining financial inflows and substantial debt repayment resulted in stress on external position and decline in reserves of SBP from $10.8 billion to $8.6 billion.
Direct and portfolio investment flows led to total net capital and financial account inflows declined from 7.2 % of GDP in FY07 to 0.7% of GDP in FY12. Decline in foreign exchange reserves resulted in contraction of rupee liquidity. Depreciation in rupee by 3.3% affected the size of outstanding external debt in rupee. Lower interest rates resulted in potential effect on credit demand, increase in imports  and return on rupee denominate assets relative foreign currency assets.
Year on year growth of 26.4 % fiscal borrowing from banking system led to monetary expansion. Persistent energy shortages and output gap resulted in stagnant economic conditions coupled with deceleration in CPI inflation (November 2012 6.9%), food inflation dropped down to 5.3%  and non food inflation to 8.1%.
Fiscal authority relied on domestic sources and not on SBP for financing fiscal deficit ,comprehensive fiscal reforms along with scaling down of liquidity injections were required by SBP. To remove fiscal deficit, tax collection capability should have been improved and decrease in expenditure of interest payments were required in FY2012. Contraction took place in the manufacturing sector due to energy shortage, Targets of Improvement in availability of energy and reduction in fiscal borrowing had not been achieved. Demand for and supply of credit to the private sector remained sub optimal.
Policy rate further declined to 50bps to 9.5%. SBP adopted exchange rate targeting.

Debt repayments declined foreign exchange reserves by $2 billion (from $8.7 billion in January  2013 to $6.7billion in march 2013). Decrease in year on year inflation by 1.5% points (from 8.1% to 6.6%) provided ease in policy rate. (divergent policy choices for SBP). Low financial inflows and high debt payments provided difficulty to finance external current account deficit of  $700 million, hence there was more pressure on BOP.
Increase in interest rates discouraged speculative demand for dollars by keeping rupee denominated assets sufficiently money spinning. Substantial decline in inflation resulted in increase in real return on rupee denominated asset and depreciation of 5.2% in nominal effective exchange rate (NEER). Moreover, The real effective exchange rate depreciated by 4.2% along with increase in competitiveness of external trade sector.
Increase in real cost of borrowing led to decline in private investment and low growth economy. Loans to private business increased by 173.3 billion along with that 450 bps decline in policy rate since beginning of FY12 led to modest growth 2.9% in large scale manufacturing (LSM) sector and encouragement of further borrowings by private sector. Excessive borrowings from the banking sector including SBP ( on cash basis for budgetary support $925billion) resulted in fiscal imbalance, upward pressure on systems liquidity, market rate increase and restraining growth in private sector credit.
Untargeted subsidies, lack of tax reforms, high borrowings and increased debts servicing expenditure provided liquidity through open market operation (OMOs) as long as inflation expectation remained manageable. High level of subsidies financed by government, high rate of fiscal borrowings used to pay already accumulated debt, muted private sector investment expenditures led to substantial fiscal borrowings, high growth in M2 inflation, dampening effect on aggregate demand.
SBP announced policy rate to be 9.5% and adopted mixed approach in April 2013.
Elections in May 2013 brought clarity in political front, change the behavior of banks in auction of government securities. Stock market also reacted to the event and showed rise in index. Improvement in consumer confidence, inflation expectations and  economic conditions were observed.
Absence of financial inflow, high fiscal borrowings, power shortages and worse security conditions led to strong impediments to growth and stressed BOP. Increase in GST by 1& ( from 16% to 17%) changed the tax structure for some goods and services along with adjustment in electricity tariff resulted in average inflation increment from  target of 8% with moderate aggregate demand. Muted real economic activity especially private investment expenditure led to decline in inflation trend. Declining inflation trend and below target GDP growth resulted in reduction in policy rate.
Repayment of IMF loan and lack of financial inflows stressed out BOP. Relative political certainty caused continuation of economic policies for some time. Decline in inflation brought increase in real return on rupee denominated assets. Absence of tax reforms, untargeted subsidies and energy sector problem increased the fiscal deficit (8.8% of GDP , higher than earlier projections).
Zero net external financing resulted in more pressure on domestic sources in particular banking system. High fiscal borrowings (Rs.1230 billion for budgetary support and 413 billion from SBP brought upward pressure on system’s liquidity, increase in short term market interest rates, restrained growth in private sector credit.
CPI inflation was 5%, core inflation was 6.7%, provisional estimate of GDP growth for FY 13 was 3.6% (which is lower than 4.3% target of the year), private fixed capital formation was1.8%, and growth in LSM was 4.8%, stressed bop but inflation under control.
SBP announced reduction in policy rate by 50bps to 9%. The exchange rate targeting was adopted.

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