Karachi, March 31, 2023 (PPI-OT): Policy Rate likely to increase by 150bp to 21.5%

In the upcoming Monetary Policy Statement (MPS) announcement, we expect the State Bank of Pakistan (SBP) to continue with the ongoing monetary tightening, increasing the Policy Rate (PR) by 150bp to 21.5%. We do not rule out a higher increase.

Our expectation stems from ongoing developments that indicate the government and regulator (SBP) are making all efforts to secure progress on the ongoing IMF program, which has not shown much progress on its 9th review pending since Nov-2022.

With mounting inflationary expectations recent shorter tenor government auctions have indicated a higher estimate as cut offs for the 3M papers came in at 21.99% (+200bp from prevailing PR). Secondary market yields currently hover 160bp above the PR.

Expect 150bp PR increase

In the upcoming Monetary Policy Statement (MPS) announcement, we expect the State Bank of Pakistan (SBP) to continue with the ongoing monetary tightening, increasing the Policy Rate by 150bp to 21.5%. This would be the 10th hike in the ongoing cycle, taking the cumulative increase to 14.5ppt in a span of 18 months, remaining the sharpest increase. If so, the benchmark interest rate would go to a 25-year high, where last the interest rate (which was the Discount Rate before) were at these levels was in the late 90s.

To recall, SBP has preponed the upcoming MPS announcement, by almost three weeks, to April 4, 2023 for SBP to continue monitoring the ongoing situation and make timely decisions relevant for the economy and markets. This was following a preponed meeting held on March 2, 2023 vis-a-vis scheduled MPS on March 16, 2023, in which SBP took the Policy Rate from 17% to 20% over higher inflation concerns.

Tough IMF conditions keep inflation readings elevated

Our expectation stems from ongoing developments that indicate the government and regulator (SBP) are making all efforts to secure progress on the ongoing IMF program, which has not shown much progress on its 9th review pending since Nov- 2022. The need of resuming IMF program has invited various tough decisions which include higher revenue collection measures, increasing electricity and gas tariff, increasing the pace of PDL collection, etc. These set of measures have taken a position of being a pre-requisite to resuming the Fund’s program which not only entails the Fund’s next tranche but also opens up the window of external financing from other lenders at a time of the country running an import cover of just one month.

We have already witnessed the impact of most of these measures in the ongoing high inflation trend, while weakening PKR/US$ parity also continues to transmit into imported inflation, primarily fuel and food.

Room for more

With mounting inflationary expectations recent shorter tenor government auctions have indicated a higher estimate as cut offs for the 3M papers came in at 21.99%. Though secondary market yields did not completely replicate the same, the 3M TBill yield is currently 160bps higher than the Policy Rate.

Given ongoing headline inflation trend, the negative real interest rates still stand at ~14ppt from ~34% CPI (expectation for March), while at 5ppt when taking average of the 12M fwd inflation readings of ~25%. Hence, we do not rule out room for a higher interest rate increase.