SBP Annual Report 2009-10-Price stability and growth

After having a challenging year in terms of achieving price stability, FY10 was a year of recovery in growth and ease in inflationary pressures for the country. This coupled with improvements in external sector indicators and exchange rate stability helped SBP to ease its monetary policy stance during the year with a 150 basis points cut in the discount rate. The first cut came in

August 2009 when the discount rate was reduced from 14 per cent to 13 per cent, Then in November 2009, it was further slashed by 50 basis points. However, in subsequent months of the fiscal year, SBP adopted a cautious approach by keeping the discount rate unchanged at 12? per cent keeping in view the resurgence in inflationary pressures and uncertainties in fiscal and quasi fiscal indicators. For the efficiency of monetary policy formulation, SBP increased the frequency of releasing monetary policy statements to six times in a year. Four of these are only briefs on monetary policy decisions issued as press releases while two are detailed accounts of prevailing economic conditions and policy decisions announced in press conferences. Another step for strengthening the effectiveness of monetary policy was the introduction of interest rate corridor in August 2009 that helped in anchoring the short term interest rates and improving liquidity management in the money market.

To develop and strengthen bond market in the country, an Electronic Bond Trading Platform (EBND) was launched in January 2010 through Bloomberg. The key features of this platform are dissemination of real time information to investors, ability for price makers to trade on firm and anonymous orders, straight through processing interface with local settlement systems, etc.

During the year, SBP expanded its analytical and research activities to micro level information of the economy to improve its understanding of economic dynamics. A primary survey was launched to study the price setting behaviour of economic agents. Contacts were established with different industrial and trading units to get firsthand knowledge of their activities and issues. And field trips were made to study economics of agriculture sub-sectors.

Monetary policy statement

To enhance the efficacy of monetary policy, the central bank decided in September 2009 to increase the frequency of monetary policy decisions to six times in a fiscal year. Hence, it was decided that monetary policy decisions would be announced in the last week of July, September, November, January, March, and May. It was also decided that the January and July decisions would be accompanied by a detailed statement and press conference, whereas the rest of the monetary policy decisions would be announced through a press release only. Hence in FY10, SBP issued four brief monetary policy decisions and two monetary policy statements. The monetary policy stance went through several stages during the year, from easing in the first half, to maintaining status quo in the second half. Striking a balance between improvements in various macroeconomic indicators and ongoing economic challenges, SBP eased the policy discount rate by a cumulative 150 bps in FY10.

The first move towards easing the stance was in consideration of the improvements in macroeconomic indicators. And the central bank decided to lower the policy rate by 100 bps w.e.f. August 17, 2009, as detailed in the monetary policy statement for July-September 2009. At that point in time, CPI inflation showed a declining trend, government borrowing remained within the quarterly limits specified in the IMF’s SBA, and SBP’s foreign exchange reserves exhibited a rising trend. The positive indicators, in turn, were reflected in a contraction in aggregate demand; much needed fiscal consolidation, and improved balance of payments position. However fiscal and real sector performance remained tenuous during the year. Lending to the private sector remained subdued and structural issues specifically electricity shortages diluted the optimism of a steady recovery. Sustainable recovery of the real sector of the economy was not possible without a revival of the business environment and availability of credit to the private sector. Structural weaknesses in the economy continued to pose a threat to inflation in the presence of uncertainty regarding outcome of ongoing fiscal consolidation and timing of official foreign inflows. This led to keeping the policy rate of the central bank unchanged in the MPS announced at the end of September 2009.

Although the cumulative flow of credit to the private sector showed retirement during the initial months of FY10, it witnessed significant improvements in the second quarter. This was in consonance with the growth in Large Scale Manufacturing (LSM). Throughout this period, the central bank strived to maintain monetary stability without jeopardising real economic activity. In this perspective, SBP decided to lower the policy discount rate by 50 bps in November 2009. However, inflation outlook in January 2010 turned vulnerable due to delays in fiscal consolidation and re-emerging international commodity price pressures. After careful evaluation of associated uncertainties in the economy, policy rate was kept unchanged at 12.5 per cent. In the subsequent months, inflation showed some persistence due to increases in electricity tariffs, adjustments in the prices of domestic petroleum products, and administered prices of commodities. In addition to this, uncertainties pertaining to fiscal and quasi-fiscal indicators, the central bank maintained the policy discount rate at this level in the MPS for March and May 2010.

Broadening access to the financial sector

SBP had constituted the Development Finance Group (DFG) in 2006 to cover a broad range of critical areas relating to fulfillment of development finance needs of deprived sectors that needs focused attention of regulators.

SBP introduced schemes which will greatly support the economy. To enhance storage capacity and develop agriculture produce marketing, SBP introduced Re-financing scheme for establishment of Silos, Warehouses and Cold Storages. Two Pilot Projects have been successfully completed and the third is underway to increase credit outreach in underserved agri. intensive districts of Pakistan. Relief Package was provided in the war affected areas of Fata and Khyber Pakhtunkhwa for remission/ write-off of small farmers agricultural loans (farm & non-farm) to revive economic activities in these areas. Besides, steps like: introduction of one window operation facility in pilot districts, simplification of agri. loan documents, and reduction in turnaround time, development of National Agriculture Insurance Scheme (NAIS) were also taken for promotion of agri. finance. SBP also expanded the scope of Refinancing Facility for Modernisation of SMEs by including almost all SME sectors. Further, to diversify the pool of borrowers under LTFF, SBP fixed a limit of Rs1 billion exposure allowed to an individual borrower. Scheme for Financing Power Plants using Renewable Energy with a capacity of upto 10 MW was introduced to encourage investment in the energy sector. SBP has taken several steps to ensure that the microfinance industry continues on the path towards sustainable growth. These include development of the Strategic Framework for Sustainable Microfinance (2010 to 2015). SBP also took a number of policy and programme initiatives in 2009 like permission to MFBs to increase limits on housing loans and implementation of the Microfinance Credit Guarantee Scheme and the Institutional Strengthening Fund. These initiatives are expected to bring about a positive impact on the performance of Development Finance Sector in the long run.

— Synopsis of SBP Annual Report 2009-10