The 650bn rupee question:
will monetary tightening bridge the divergence between monetary and fiscal policy? When the government is being fiscally frivolous, is the interest rate the only way to make them stop? By Ariba Shahid
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arlier this week, the State Bank of Pakistan announced a 150 bps policy rate hike. Conventional wisdom would say that the logic behind a policy rate hike is inflation. Higher interest rates make loans more expensive for both businesses and consumers, and everyone ends up spending more on interest payments But more even than getting the government to increase interest payments, the goal of the SBP in increasing the policy rate seems to be dissuading the government from borrowing more. In essence, the move is a babysitting measure meant to discourage the government from being fiscally irresponsible. The official explanation given behind the hike was that “this action, together with much needed fiscal consolidation, should help moderate demand to a more sustainable
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pace while keeping inflation expectations anchored and containing risks to external stability.” The SBP’s call for “timely action” to “restore fiscal prudence, while providing adequate and targeted social protection to the most vulnerable” also indicates that a key element of the statement released by the central bank is the divergence between the monetary and fiscal policy. This is the first time in the recent few years where the SBP is calling for fiscal prudence. This hints at how things may have gotten out of hand. The MPS pointed towards the pressures added by an expansionary fiscal policy. The SBP said that the fiscal stance in FY22 is now expected to be expansionary instead of budgeted consolidation. The impact of this divergence is that the SBP is left to do the brunt work and make up for the gap left by the government which has left an impact on economic indicators and fundamentals.
The Rs 650bn misalignment
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he IMF projected expenditure to be at $ 11,731 bn for FY22, however, the estimated value for the year turns out to be $12,381. As per IMF estimates, the government of Pakistan has overstepped in public spending by at least $650bn than what was previously projected. This includes current expenditure, interest expenditure, subsidies expenditure, and development expenditure and net lending. “External pressures remain elevated and the inflation outlook has deteriorated due to both home-grown and international factors. Domestically, an expansionary fiscal stance this year, exacerbated by the recent energy subsidy package, has fueled demand and lingering policy uncertainty has compounded pressures on the exchange rate,” read the statement.
