Karachi, July 19, 2023 (PPI-OT): IMF SBA: Limited space for manoeuvrability

The IMF has released the staff report detailing the agreement reached with Pakistan’s authorities for a new US$3bn (SDR2,250mn) Stand-By Arrangement (SBA).

Amongst the major observations, the IMF agreement has hinted at potential further tightening in the upcoming policy statements with a view to achieving positive forward looking real interest rate in the short term.

While the IMF itself projects FY24 end CPI at 16.2% (avg FY24: 25.9%), the statement notes that core inflation is set to recede ‘only very gradually’ in FY24 on account of tightening of policies operating with a lag.

On the currency side, while the guidance on prioritization of certain types of imports has already been withdrawn, the IMF has introduced a band of maximum ±1.25% average premium/discount between the interbank and open market rates during any consecutive 5 business day period.

The banking sector has also been specifically highlighted where while the sector remains adequately capitalized (CAR at 16% - above the required 11.5%), issues relating to four banks currently not meeting the CAR threshold should be resolved either through increased capitalization, resolution or liquidation.

On the energy side, the IMF has recommended pursuit of medium term reforms to reduce costs and contain / clear circular debt. At the same time, implementation of the WACOG bill adopted in Mar’22 has been recommended.

Implementation of the Treasury Single Account (TSA) by end Oct’23 has also been recommended and endorsed by local authorities.

Overall, the document indicates space for manoeuvrability by Pakistan’s authorities remains low where implementation of agreed upon tenets with the IMF will have to be carried through. IMF has indicated again and again within the document that both domestic and external risks for Pakistan remain high and are tilted towards the downside.

Monetary Policy – the big question mark! The IMF’s statement on monetary policy is a quag- mire and potentially indicates more hikes to come in the near term, with the staff appraisal explicitly stating ‘the tightening cycle should continue if needed to reduce inflation and facilitate external rebalancing’. Of particular prominence is the staff expectation of core inflation receding only very gradually, which may indicate higher for longer interest rates. While average FY24 CPI is projected at 25.9% by the fund, end FY24 (Jun’24) CPI is projected at 16.2% where SBP’s balancing act on risk vs kick-starting the economy will be interesting.

Currency – Market determination or is it? The IMF has critically asserted the GoP needs to abstain from informal influence on the currency market through import management and/or LC approval guidance. At the same time, the IMF has introduced a band of maximum ±1.25% average premium/discount between the interbank and open market rates during any consecutive 5 business day period. While the intentions behind the said premium spread are understandable, pent up currency demand may potentially result in a flourishing grey currency market with higher rates on offer as a consequence of the said step.

Banks and Energy get a mention: On banks, the IMF noted that while banks remain adequately capitalized, resolution of the CAR issues being faced by some banks (4 in total) needs to done on a priority basis. Implementation of Treasury Single Account (TSA) by end Oct’23 has also been put to pen by the Government itself and endorsed by the IMF. At the same time, on the energy side, medium term reforms for resolution of circular debt as well as the implementation of the WACOG bill (Weighted Average Cost of Gas) get a shout out.

The Verdict: Overall, the document indicates space for manoeuvrability by Pakistan’s authorities remains low where implementation of agreed upon tenets with the IMF will have to be carried through. IMF has indicated again and again within the document that both domestic and external risks for Pakistan remain high and are tilted towards the downside. From Market’s vantage, indication and / or interpretation of IMF’s wording on interest rate is likely to keep the recent euphoria in check where volatility may remain the name of the game till the MPS on July 31, 2023.