Interest rate: Analysts divided on rate revision ahead of monetary policy


KARACHI: 

A hike of 50 to 100 basis points in the discount rate is inevitable in the current fiscal year, although experts disagree whether the much-anticipated increase will be made in the upcoming monetary policy announcement.

Most analysts polled recently by The Express Tribune said there is little doubt the State Bank will increase the monetary policy rate – the interest rate at which banks borrow from the central bank through its discount window – in order to tighten money supply in line with requirements of the International Monetary Fund (IMF).

“Two weeks ago, we were expecting a rise of 1% in the discount rate. But recently, market expectation has changed. Now we believe the interest rate will be up 50 basis points in the upcoming announcement,” Standard Capital Securities CEO Naushad Chamdia said while speaking to The Express Tribune.

He added the interest rate will likely go up another 50 basis points in the October announcement. The State Bank announces its policy rate every two months.

“By December, we expect the rate to be 10.5%, up 1.5 percentage points from the current 9%. It is our understanding that this is precisely what the donors have been arguing for,” he said.

According to Global Securities Research Analyst Umair Naseer, his brokerage firm expects the interest rate will go up 50-100 basis points in the policy announcement this month. Even if the Consumer Price Index (CPI) rises to 8.5% in August from July’s 8.2%, the difference between inflation and the discount rate – also called the real interest rate – will still be around 50 basis points.

“This makes upward revision in the interest rate highly probable because the gap between the two rates has been in the range of 100-150 basis points on average in recent years,” Naseer said.

However, JS Global Capital Head of Research Farrah Marwat believes status quo will most likely prevail in the upcoming policy announcement. “We don’t know for sure whether the IMF has explicitly called for an immediate reduction in the discount rate,” she said while questioning the perception that the IMF is inflexible on this issue.

“I think the SBP will leave the rate unchanged for now because the real interest rate is still positive despite a rising inflation rate,” Marwat added.

Negative interest rate

According to conventional wisdom, the real interest rate in the economy should ideally be positive. However, some market analysts believe the central bank of a developing country like Pakistan should maintain a low interest rate even if it results in a negative real interest rate – meaning a discount rate that is lower than the inflation rate in the economy.

“Although there are implications of a negative real interest rate, I believe a low discount rate is absolutely necessary for economic growth in a country like ours. It also helps the government, as it is a big borrower itself,” Next Capital CEO Najam Ali said.

Opponents of a negative real interest rate say it destabilises the exchange rate, as money flows out of the country into another economy that offers a higher interest rate.

Sometimes, people convert their wealth into another currency in such situations, which brings the local currency under pressure.

“I think the exchange rate in Pakistan is not as closely related to the interest rate as it is in developed economies. In Pakistan, people cannot easily send their money abroad,” Ali said.

He added in a country like Pakistan the depreciation of the currency is actually the difference between US and Pakistani inflation rates. “That’s why I think there should be a drastic cut in the interest rate,” he noted.

Published in The Express Tribune, August 22nd 2013.

Like Business on Facebook, follow @TribuneBiz on Twitter to stay informed and join in the conversation.