State Bank of Pakistan (SBP) governor Shamshad Akhtar has called on the government to cut borrowing from the central bank, as well as diversifying its commercial borrowing. These initiatives would assist monetary policy and help ease the crowding out of private sector credit.
"The government should resort to the lowest amount of borrowing possible from us and look at funding from non-bank sources such as Pakistan investment bonds and national savings schemes,” Akhtar told Emerging Markets. “This is an entirely new debate but one I am going to have with the government.”
A reduction in government borrowing from the central bank would curb the risk of the budget deficit becoming monetized and fuelling inflation. Akhtar also said that, in her role as debt manager, she wanted to lower the government’s stock of bank borrowing, to incentivise the banking sector to lend more to private institutions.
Between July 2006 to April 2007, the government borrowed 180 billion rupees (Rs) from the SBP, compared with only Rs37 billion in the previous year. This brought its outstanding stock of debt to the SBP at the end of March 2007 to Rs530 billion, only marginally below the Rs556 billion borrowed from commercial banks.
Sakib Sherani, chief economist at ABN Amro in Islamabad, was interested to see how the move towards fiscal and monetary coordination would play out.
“The central bank has been unhappy with the composition of government borrowing which it has mainly financed. The SBP has proposed a ceiling but it is unclear whether the ministry of finance has accepted it,” he told Emerging Markets.
In addition, SBP governor Akhtar reaffirmed her commitment to a tight monetary policy, in view of inflationary pressures from high food prices, high consumption due to economic growth and salary increases in the June 9 budget.“My position is that the current monetary tightening stance is adequate,” she told Emerging Markets.
Akhtar said she hoped that in the long-term the country could adopt an inflation-targeting regime, but explained: “We don’t have a conducive environment for this at the moment. We need quarterly GDP figures and to develop a model to create a new monetary framework: this involves a totally different way of thinking.”
Sherani was reassured by Akhtar’s stance: “no self-respecting central bank can cut rates given the inflation problems.” He added that monetary policy was “beholden to shocks in food prices which have increased inflationary expectations.” But he also underlined how far Pakistani monetary policy had already come since Akhtar’s appointment in December 2005.
“Two years ago the central bank focused entirely on promoting growth but now governor Akhtar has been focusing on price stability,” Sherani told Emerging Markets.
Rising food prices forced the central bank in to increase its policy rate by 50 basis points to 9.5% in July 2006. Food inflation increased 11% last month and has a 40% weight in the CPI basket. This has led the SBP to forecast average inflation for the 2006-2007 fiscal year at 7.7%-7.9%, significantly above the government’s target of 6.5%.
On the vexed question of political instability, which has risen following President Musharaff’s removal of the country’s top judge in March 2007, Akhtar downplayed possible risks, arguing that the country had a stable policy environment so investors should be confident that reforms will continue.
“In the last few years, the country has developed its political institutions and operates like a healthy democracy. And we have been one of the most liberal economies in Asia since the 1990s, just look at the privatisation of banking sector in 1991,” she told Emerging Markets.
However, Sherani was more cautious: “I think investors are underestimating the political risks, Pakistan is still a potential wild-card. If the country’s key reformers, President Musharraf and Prime Minister Aziz leave then this will damage the country’s economic prospects in the eyes of investors.”