KARACHI, July 30, 2024 – In a decisive move to stimulate economic activity, the State Bank of Pakistan (SBP) announced a reduction in its key policy rate by 100 basis points, bringing it down to 19.5 percent. The decision, effective from July 30, 2024, was revealed by SBP Governor Jameel Ahmed following a meeting of the bank’s Monetary Policy Committee (MPC).
The MPC highlighted that inflation in June 2024 was slightly lower than anticipated. The inflationary impact of the FY25 budgetary measures aligned with earlier expectations, and the external account showed improvement, evidenced by an increase in SBP’s foreign exchange reserves despite substantial debt repayments.
Economic Indicators and Rationale
The committee observed several positive economic indicators, including a significant reduction in the current account deficit and an improvement in SBP’s foreign exchange reserves, which rose from $4.4 billion at the end of June 2023 to over $9.0 billion. Additionally, Pakistan reached a staff-level agreement with the International Monetary Fund (IMF) for a 37-month Extended Fund Facility (EFF) program valued at approximately $7.0 billion.
Despite the cut, the MPC maintained that the monetary policy stance remains sufficiently tight to guide inflation towards the medium-term target of 5-7 percent. The decision takes into account ongoing fiscal consolidation efforts, the anticipated realization of external inflows, and the necessity of addressing structural weaknesses in the economy.
Sectoral Performance
The real sector exhibited mixed signals, with high-frequency indicators showing moderate economic activity. Notable gains were observed in auto and POL (excluding furnace oil) sales, and fertilizer offtake in June, while large-scale manufacturing saw a sharp improvement in May 2024, driven primarily by the apparel sector. However, growth in the agriculture sector, which performed strongly in FY24, is expected to slow down in the current fiscal year, supported by satellite imagery and input conditions for Kharif crops. Conversely, activity in the industry and services sectors is anticipated to recover, supported by lower interest rates and increased budgetary development spending. The MPC projected real GDP growth for FY25 in the range of 2.5 to 3.5 percent, compared to 2.4 percent in the previous year.
External Sector and Fiscal Considerations
The current account deficit narrowed sharply in FY24, falling to 0.2 percent of GDP from 1.0 percent the previous year. This improvement, coupled with financial inflows, bolstered SBP’s FX reserves. The MPC expects a modest increase in imports, alongside robust growth in exports and workers’ remittances, which should keep the current account deficit within 0-1.0 percent of GDP in FY25. The anticipated financial inflows, including those from the IMF program, are expected to finance the deficit and strengthen FX buffers.
The government’s fiscal balances showed improvement in FY24, with a primary surplus and a reduced overall deficit. However, the committee expressed concern over increased reliance on domestic banks for deficit financing, which could crowd out private sector borrowing. The government aims to achieve a primary surplus target of 2.0 percent of GDP for FY25, with the MPC emphasizing the importance of fiscal consolidation and timely external inflows for macroeconomic stability.
Inflation and Monetary Outlook
Headline inflation rose to 12.6 percent year-on-year in June 2024 from 11.8 percent in May, driven by higher electricity tariffs and Eid-related price increases. However, core inflation remained steady at around 14 percent. The MPC expects average inflation to range between 11.5-13.5 percent in FY25, down from 23.4 percent in FY24, contingent on fiscal discipline and stable energy prices.
The SBP’s decision to cut the policy rate reflects a balance between supporting economic growth and containing inflationary pressures, with the MPC confident that the current monetary policy stance remains sufficiently tight to achieve its inflation targets.
