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Remodelling the monetary policy (HUMAIR Shalwani)

AN unusual thing happened last fiscal year. The private sector businesses retired in the second half of the year about 79 per cent of the bank loans they had taken in the first six months, and made no additional borrowing. On the other hand, over the same comparable period, credit flow to non-bank finance institutions (NBFC) quadrupled, creating a big imbalance between lending to PSBs (private sector businesses) and NBFCs, both of which are part of the private sector. The State Bank of Pakistan (SBP) in its monetary policy statement of August 10 came up with explanations. But the fact that inflation remained in double digits in FY12 despite a minimal share of private sector credit intake in overall money supply has regenerated some old debates. Is inflation really a monetary phenomenona product of too much money chasing too few goods? Is monetary policy focussed on inflation-fighting losing importance? And, should central banks leave inflation worries behind and support government overspendings to spur economic growth? These days even financial markets are telling us that we should be focused on jobs and growth, wrote Paul Krugman in one of his columns in New York Times in July this year. He was referring to the fact that investors are now investing in US treasuries at zero and even sub-zero rates and such low-cost borrowings could be well utilised for financing public sector projects now to obtain a higher economic growth later on. A higher than estimated growth of 1.7 per cent in US GDP in April-June proves that government borrowings from banking system actually pay off. In last few years, Pakistan economy has expanded at a much slower rate than required to reduce poverty, feed, clothe and provide medical care to 180 million people. Instead of trying to accelerate economic growth through liberal private sector lending, banks have largely remained averse to it with the result that industrial output has either declined (as in FY10) or has increased slightly above one per cent (as in FY11 and FY12). In a market-driven economy, a part of the capitalist world economic order, one can understand banks failure in this regard. But a bigger question is: has the domestic monetary policy been of any help in ensuring larger private sector credit off-takes to enable businesses to enhance productivity? The SBP has the statutory authority and obligation to do whatever it can to regulate the monetary and credit system of Pakistan and to foster its growth in the best national interest with a view to securing monetary stability and fuller utilisation of the countrys productive resources.

The monetary policy is one key instrument to be employed to obtain this statutory goal. Senior SBP officials claim they design the monetary policy keeping in view this somewhat very broad and unique objective in mind. But has the SBP been regulating the banking system in a manner to achieve fuller utilisation of the countrys productive resources? In its monetary policy statement issued on August 10, the SBP detailed the reasons for lowestever actual lending to private sector businessesRs18.3bn only out of the total private sector credit of Rs235 billion, the bulk of which Rs121bn went to non-bank finance companies. However, the SBP authorities did not find convenient to explain this development in terms of demand-side issues and merely pointed out that banks were rather more interested in investing money in government papers. The nation expected that the central bank should have informed what it had done to correct the situation. The cost of external financing has reduced in recent years as a percentage of overall operational cost of businesses because of pricier energy inputs, imported inflation and handy internal financing available to highly profitable enterprises. Businessmen say that compared to 1990s when bank borrowings of even the most efficient industries accounted for at least one-fourth of the overall cost of business, such borrowings now merely make up 10-15 per cent of operational expenses. This means that by steering interest rates in one direction or the other, the SBP influences a nominal change in the cost of the goods and services produced by a companyand by extension on cost-push inflation in the country. Keeping this in mind we are trying to remodel our monetary policy with a view to making it more responsive to the ground realities, a senior central banker told Dawn when asked what the SBP was doing to avoid harming industrial growth in its fight against inflation. Unlike central banks of advanced economies, our monetary policy is not built upon the paradigm of inflation targeting. It rather aims at meeting the dual objective of ensuring sufficient economic growth while keeping inflation under check. Central bankers generally agree that avoiding a deep cut in policy rate fearing faster growth in money creation and its impact on inflation has become a moot point even amongst them. If net credit to private sector businesses went down to just Rs18.3 billion or about two per cent of the Rs946 billion worth of money supply (M2) the argument that availability of cheaper finance to businesses may push up prices, crumbles. The monetary policy statement of August 10 does not mention this fact very frankly but as it highlights other factors responsible for inflation like prices of imported goods, excessive government borrowings, withdrawal of subsidies, administered prices, energy crisis etc in detail, it is easy to deduce what actually the SBP is pointing out.

Even excessive government borrowing cannot be blamed for causing too much money chasing too few goods phenomenon because, after all, government uses all the money borrowed through PIBs, TBs or even national saving schemes either to repay domestic and foreign debts or to finance its expenses. And financing of expenses, however questionable they may be, plays a role in growthand is quite important when exports are falling and industrial growth is stalled, says a former advisor of SBP. Governments overspending (which creates fiscal deficit) is basically what? It is income for thousands of government contractors and sub-contractors and tens of thousands of government employees or for state-owned enterprises. All this, in turn, becomes part of GDP. Commercial bankers defend their overinvestment in government papers on the same ground. They say if banks stop lending to government when demand for private sector credit is low it would completely ruin the economy. Government officials, however, have a different point of view. Why banks and leasing companies cannot make money by doing more business in agriculture sector or with SMEs? Why are they contended with earnings on bills and bonds? questions an official of the Ministry of Food Security and Research citing example of how banks and leasing companies can make quick bucks if they lend for agricultural development. If this is what it is, then why fear slashing interest rates? It is not going to push up inflation. It will rather contain it by improving supplies of goods. But, of course, it will reduce profitability of those who earn not by producing anything but by actually blocking credit-flows to productive sectors.

Failure of monetary policy (Usman)


By Javed A. Ansari

The State Bank has failed to control inflation, stimulate saving and investment growth, enhance financial sector efficiency, and reduce poverty and the inequitable distribution of financial assets. The underlying cause of this failure is the abandonment of credit planning, which ensured both high sustainable growth and price stability during 1978 88, and the adoption of market based monetary policy. In its Annual Report 2010, a review of which has been carried out by the writer, the central bank notes that its monetary policy stance reflects its efforts to strike a balance supporting the domestic recovery and arresting inflationary pressure. This illustrates that the SBP has not so far formally abandoned its developmental role and it is therefore justifiable to evaluate its performance in terms of developmental objectives stimulating investment growth and reducing distributional inequities.

Nevertheless, the SBP`s market based monetary policy paradigm presumes that growth and distributional equity enhancement will be necessary and automatic consequence of achieving price stability and ensuring price stability should therefore be the primary objective of the central bank. The State Bank fully endorses this view that price stability is the main goal of (its) monetary policy. According to the SBP`s estimates inflation declined to 11.2 per cent by the end of FY 10 from 24.3 a year earlier. What part did the State Bank play in bringing about this decline? The SBP report 2010 does not address this question. The SBP attributes the decline to the adherence by the government to the IMF`s quarterly ceilings in deficit monetisation along with a sharp decline in the international commodity prices. Similarly, the rise in inflation which began in the second half of FY 2010 is attributed by the State Bank to (provision) of subsidised credit to the private sector, the planned rationalisation of power tariffs, shortfalls in foreign inflows, rising non-performing loans, lower than expected retirements from financing of commodity operations and increased public borrowing for public sector enterprises; so inflation is caused by the ministry of finance, by foreign donors, by the IMF and the international commodity markets. When the SBP responds by increasing interest rates it does not address the causes underlying inflation for rising interest rates do not directly influence the behaviour of government (which will not reduce its expenditure in response to rising interest rates) or the IMF (which will not stop insisting upon power tariff hikes) or the donors (who will not increase disbursements) or world commodity market players (whose prices never respond to interest rate changes in Pakistan). What the State Bank is trying to do is to shift the burden to adjustment of adverse global tendencies (rising commodity prices, donor fatigue, IMF policy preferences and increased turmoil in currency markets) on to the Pakistani consumer, specially the poor. The more the State Bank`s autonomy is enhanced, the more it becomes a willing servant of lending surveillance agencies and global financial markets. It seeks to compress domestic demand i.e. exacerbate poverty and distributional inequities for the purpose of enhancing global financial stability. An autonomous State Bank reports not to our ministry of finance but to the IMF and the Financial Security Forum (FSF). However, the SBP cannot play the role expected of it by the IMF and the FSF. It routinely misses its inflation targets. In FY 10, the SBP`s inflation target was nine per cent while inflation was 11.7 per cent. The State Bank has missed its inflation target in 2007 (by 33 per cent), 2008 (by 100 per cent), 2009 (by 90 per cent) and 2010 (by 33 per cent ). It has revised its inflation target for FY 11 from 11 per cent in July 2010 to 13.5 to 14.5 per cent is September 2010. Monthly FBS estimates for the first quarter of FY 11 indicate that this target will almost certainly be missed (by about 30 percent) and inflation is expected to range from 18 to 22 per cent in FY 11.

The SBP`s inability to ensure price stability emanates from the fact that the preconditions for the effectiveness of market based monetary policy simply do not exist in Pakistan. Two decades of research at PIDE and CBM have shown that neither broad money nor reserve money is exogenously determined, interest rate transmission mechanism are extremely weak, demand for real money balances is not interest inelastic and the central bank necessarily plays an accommodating role within the financial system. Most importantly, inflation in Pakistan is of a cost push nature and decreasing domestic demand does not reduce the price level. It merely shifts the social cost of escalating prices from one segment of society (the rich) to the other (the poor). The underdeveloped character of the financial system which makes market based monetary policy ineffective is recognised by the State Bank. The 2010 report notes that the financial intermediation ratio for Pakistan (M2/GDP) has declined from 45.8 in FY 07 to 39.4 per cent in FY 09 and the value of the money multiplier remained stagnant at 3.4 throughout FY 07 to 09. In Bangladesh, the value of the M2/GDP ratio rose from 48.8 in FY 07 to 53.9 per cent in FY 09 and the value of the money multiplier rose from 4.5 to 4.7 during this period. Financially, Pakistan is more underdeveloped than Bangladesh and as the SBP recognises this financial underdevelopment (is) a result of IMF conditionalities which impose strict limits on the growth of NDA. Pakistan`s financial underdevelopment is paradoxically caused by financial liberalisation. The currency to deposit ratio has risen by about 11 per cent during 2007 2010 and is significantly higher than in any regional economy. Market based monetary policy simply cannot be effective when the macro economy is definancialising. Pursuing financial liberalisation in such an environment is a major policy error. M2 growth in FY 10 exceeded M2 growth in FY 09 by 26 per cent but was nevertheless generally in line with programme parameters agreed under the SBA with the IMF. The central bank remained successful in meeting its NDA and NFA targets. Thus the State Bank admits its IMF`s agency role. Ultimately it is answerable only to its principal, the IMF. It does not set any monetary aggregate targets itself since the abandonment of credit planning. There can be no clearer evidence that the State Bank is now an imperialist currency board. It is no longer a national central bank. This agency role is reflected in the SBP`s loss of control over NFA flows. The FY 2010 NFA improvement the report notes was entirely due to IMF budget financing, IDA flows, the US logistic support for participation in its war of terror, ADB inflows and the complete elimination of SBP foreign exchange market support at the insistence of the IMF. NFA of scheduled banks declined significantly during FY 2010. Most significantly there was a major depletion of nostrum balances. Under relentless IMF pressure NDA growth declined from 30.6 in FY 08 to 15.4 per cent in FY 09 to just 12.7 per cent in FY 10. Private sector credit`s contribution to NFA growth has dead-lined from 13.3 in FY 08 to just 2.4 per cent in FY 10. Government contribution to NDA growth has declined from 30.6 in FY 08 to 7.9 in FY 2009 to 7.1 per cent in FY 10. Private sector credit`s contribution to NDA growth has declined from 13.3 in FY 08 to just 2.4 per cent in FY 10.

During FY 10, government borrowing for commodity financing and budgetary support has become much more expensive again due to IMF insistence on ceilings on SBP loans to the government and the consequent reliance on much more costly scheduled bank funds. As several Post Keynesians argue reliance on commercial banks for public sector financing necessarily exacerbates inflationary pressure. The inability of the government to meet the IMF/SBP borrowing targets during the last two quarters of FY 10 was mainly due to non-materialisation of expected flows for financing America`s war of terror. Inflation is also likely to be exacerbated by the State Bank`s demand for phasing out energy subsidies. Although the growth of credit to public sector enterprises fell from Rs1526 billion in FY 09 to just Rs85 billion in FY 10, the State Bank continues to toe the IMF line that nonsettlement of the circular debt issue in the energy sector (remains) a serious problem and argues for a major reductions in bank credit to public sector enterprises. The IMF credit starvation of the private sector continued unabated in FY 10. The SBP recognise that in real terms credit to the private sector declined by 13.9 per cent in FY 10. The SBP presents no proof for its insistence that lending to the public sector crowds out private sector lending. It admits that in FY 10, commercial banks continued to advance loans to the private sector despite higher lending to the government. Extensive empirical research demonstrates that in Pakistan the elasticity of substitution between public and private investment is very low and public sector lending crowds in private investment. The growth strangulating policy that has been imposed upon us by the IMF has led to a major fall in private sector credit growth for fixed investment which decelerated sharply from 25.3 in FY 09 to 8.4 per cent in FY 10. According to the State Bank Report 2010 financing for fixed investment by scheduled bank to the private sector amounted to just Rs45 billion in FY 10 where as the total advances of scheduled banks in FY 10 amounted to Rs3,175 billion hence the private sector fixed investment loans equalled a little over one per cent of the scheduled banks advances portfolio. Financing fixed asset growth is of trivial importance to our financial sector. It is not surprising that gross fixed investment as a ratio of GDP has been falling during FY 2007 FY 2010 and has now been reduced to a historical low of 15 per cent. During this period domestic saving as a ratio of GDP has fallen from 15.7 to 9.9 per cent. Pakistan has the lowest levels of investment and saving ratios throughout Asia. Stimulating investment and saving growth is no concern of the State Bank. The 2010 Annual Report lists no measures for growth stimulation either. Indeed the changes in the monetary policy framework it announces the setting up of the monetary policy committee, institution of an interest rate corridor in the inter-bank market and the increase in the frequency of monetary policy decisions are all proving to be the growth stifling. The monetary committee is dominated by Voodoo economists; the corridor has set a floor for maintaining a high interest rate regime and every monetary decision in FY 2011 has raised the policy rate. The State Bank remains committed to stifling investment and productivity growth;

and since the interest elasticity of saving is very low raising interest rates does not stimulate domestic saving. The State Bank proved to be ineffective in easing the very tight liquidity conditions that prevailed in our money market during FY 10 due to the very rapid growth in non-performing loans (NPL) The introduction of the interest rate. `Corridor` has done nothing to enhance the effectiveness of monetary policy transmission mechanisms. All it has done is to jack up floor over might rates from 1.5 in FY 09 to 7.4 per cent in FY 10. Ceiling overnight rates have risen to almost 14 per cent in FY 10 but financing under the reverse report ceiling facility fell by about 17 per cent in FY 10. To prevent a fall in the floor rate the SBP allowed liquid banks to avail of a repo floor facility of Rs602.1 billion in FY 10. Thus despite an injection of over Rs3,300 billion into the primary market, the State Bank policy stance contributed to a tightening of money market conditions during FY 20.

Monetary policy and employment (Taimour)


By Mahmud Ahmed | From InpaperMagzine | 8th August, 2011 The State Bank Amendment Bill 2010 has been designed to further empower the central bank to check excessive borrowing by the federal government in order to manage its widening fiscal deficit. - File photo OVER time, the SBP has acquired more autonomy to manage its monetary policy, while keeping in view the federal governments targets for inflation and economic growth. The State Bank Amendment Bill 2010 has been designed to further empower the central bank to check excessive borrowing by the federal government to manage its widening fiscal deficit. But the SBP has failed to check excessive government borrowing from the commercial banks, giving them an opportunity to make risk- free investment with high returns. In July, however, the federal government stopped borrowing from the central bank. Currency printing seems to have been ceased. And given the pause or decline in inflationary pressures, the policy rate has also been reduced by 50 basis points. At least on these two counts, the State Bank is moving in the right direction. However, much more is required to be done. The best of institutions become dysfunctional when evolving institutional reforms fail to keep pace with fast changing ground realities or policies they pursue, outlive their social utility. Given the current quality of economic growth which does not produce jobs, (or enough jobs) merely looking at growth figures for formulating the monetary policy is not enough.

Employment should be tagged with growth. The objective of the monetary policy should be to achieve a high growth rate with low inflation and full employment. While inflation hurts the poor the most, unemployment is worse for the deprived in the absence of any meaningful social security network. Inequity is the hallmark of the current banking and financial model that must be shed while targeting growth with social justice. The current over-aching issue is that industries are operating at 50 per cent of their capacity and agriculture is under-performing. Monetary policy does not provide stimulus to production-led growth, and thus limits the macro-economic stability that flows from a high rate of economic growth. So much has changed in the world that calls for a review of the key objectives for which the monetary policy is formulated. The financial wizards have to take into account the evolving changes taking place in the world economies after the near collapse of the international financial system, resulting in the Great Recession of 2008-2009 and the prevailing toxic debt crisis in the US and Europe. Clearly, it is the financial sector that is responsible for the unprecedented fiscal deficits that most governments in the West are finding so difficult to manage. The debt crisis will not go away any time soon. It is now the turn of financial markets to take a hit. A strong indication is that the sagging and shrinking economies will take a very long time to recover. If the State Bank persists with its tight monetary policy under the IMF pressure, banks will continue to pile up bad debts in a sluggish economy, with only government securities left to salvage them. In all probability, stagflation would be prolonged. A high interest rate serves the banking sector at the cost of other segments of the economy. The monetary policy needs to push up growth. Then the task of financial wizards is to develop a financial model that would produce high growth, with full employment and low inflation, something which is not possible while sticking to the failed Anglo-Saxon financial model. The so-called best international practices have turned out to be the worst. Markets lack self-discipline. While the State Bank should regulate lending to the government by limiting banks exposure to government securities, the private sector should not be penalised by the State Bank for the governments faults. No doubt, the fiscal deficit and excessive government borrowing is an enormous problem. For this, the government is responsible and it needs to observe austerity, cut waste, eliminate corruption and also economise on its spending. It is a task that can be better handled by elected representatives, whenever they acquire a sense of responsibility. . The issue cannot be resolved only by granting autonomy to the central bank. Autonomy does not exist in a vacuum but is rooted in the prevailing ground realities. Have the SBP governors been able to protect their independence or their legally guaranteed tenures?

The State Bank draws its authority and power from its mandate or charter. But it has not been able to avoid outside influences of powerful banks, the IMF and the government. When it tries to work with a bias to favour one or the other important stakeholder, its autonomy is eroded. The State Bank can enjoy operational freedom under a well-defined policy that serves common good.

Monetary policy discourages growth (Shaza)


From the Newspaper | Shahid Iqbal | 10th June, 2012 0

KARACHI, June 9: By keeping the interest rate unchanged, the economy can be saved from hyper inflation, but it may suppress the already low growth rate in the country. Experts said that the State Bank seems to have chosen an easy path by keeping the rates unchanged while blaming the government for the economic mess. Like State Bank, some top bankers saw no option but to keep the interest rate as high as 12 per cent. They believed that the monetary policy cannot be allowed to continue indefinitely. There is a need to reassess the interest rate stuck at 12 per cent for past eight months, said a senior banker. The banks, he said, are earning good money in this high interest rate policy, but options for lending to private sector are shrinking with poor economic growth. The State Bank has criticised banks for their reluctance to lend to the private sector which hurts the economic growth. The SBP says that private sector participation in economy has reduced because of irresponsible attitude of the commercial banks. Banks have no option but to invest in government papers, particularly when businesses are failing creating massive defaults putting pressure on banks to strictly manage their risks, said a senior banker. Banks invest 80 per cent of their deposits in government papers. Analysts said the fiscal deficit is a real challenge for both the government as well as the central bank.

The deficit forces the government to borrow huge money and compels the State Bank to manage inflation with less supply of money keeping the interest rate high. The State Bank said it made the money policy less effective. The central bank is facing a challenging task of monetary management amid falling rupee and mounting government borrowing, said Mohammad Sohail, Chief Executive of Topline Securities. The government has borrowed Rs1.085 trillion during the 11 months of the current fiscal year while rupee has lost three per cent against the US dollar during last 20 days. Both the trends may continue to move forward until fiscal reforms to turnaround the economy are not introduced, the State Bank has said. Mr Sohail said that along with the rupee deprecation and fiscal borrowing, the State Bank is required to consider the overall economic growth where investment to GDP ratio has fallen to record low level raising unemployment. The growth rate should be the focal point of the government as well as the State Bank but governments massive borrowing from banking sector and the central banks fear of increasing inflation kept the growth out of focus. The government struggles to meet the expenses by cutting the development budget while the State Bank keeps the money supply lower, blaming the government for inflation. Time and again the State Bank reiterated the alarming level of government borrowing as the underpinning reason for persistent inflation despite very low GDP growth, but the government failed to improve its revenue generation that forces it to borrow more and makes the monetary policy ineffective, said Khurram Schehzad, head of research at InvestCap Research. He was of the view that even if Pakistan succeeds to deal with the IMF for another loan, the conditions attached with the loan would be harsher due to existing poor economic indicators. The business community did not change their stance over the high interest rate. They said the higher interest rate has increased their cost of doing business while it also caused greater defaults. Banks said the high defaults forced them to restrict lending to the private sect Monetary policy: a response to fiscal expansion? (Nisma) By Sabihuddin Ghausi

State Bank Governor Dr Shamshad Akhtar did not mince words while holding fiscal

mismanagement during the first half of current fiscal year responsible for the widening fiscal and external account imbalances, making it imperative to further tighten the monetary policy for the next six months. She disclosed that the commercial banks and the central bank financed almost 60 per cent of budget deficit from July 07 to January 29, 08 making the job of liquidity management quite `challenging`. In the policy announced on February 1, the SBP raised the discount rate by 50 basis points to 10.5 per cent that may push the lending rates of commercial banks to 13 per cent plus. The SBP also enhanced cash reserve ratio (CRR) by 100 basis points for deposits of one-year term to eight per cent. Deposits of more than a year have been spared of CRR to give incentive to banks to offer better rates of return to their depositors. The risk to inflation outweighs the risk to growth, the Governor said, justifying her policy. The Governor elaborated that the developments in first half of FY 08 substantially deviated from the monetary framework, says a SBP press release on the Governor`s more than an hourlong speech on Thursday last. It warns complications for monetary management during the course of the year (07-08) mainly because of the slippages on fiscal deficit targets. Industry and trade leaders came out immediately with their harsh reactions on monetary policy, warning of a further slow down of businesses and closure of enterprises. Monetary policy is a major cause of slow growth in industrial sector and widening of economic inequalities in last few years, President of the Federation of Pakistan Chambers of Commerce and Industry (FPCCI) Mr Tanvir A Sheikh said in a statement on Friday. We are inviting State Bank of Pakistan Governor for a meeting with businessmen next week, Sheikh Amjad Rasheed, chairman of the FPCCI Banking and Credit Committee informed Dawn from Nowshera over telephone. He said the tight monetary policy has squeezed business activities beyond tolerance limits. Further monetary tightening will be killing for business`, he warned. Textile export factories are closing down and further tightening of monetary policy is bound to prove the proverbial last straw on camel`s back Shabbir Ahmad, a leader of value added textile products exporters association said. In their anger and fury, the industry and trade leaders overlook the government over-spending which seems to be showing no respite. The Governor disclosed that the government borrowed over Rs237 billion so far. Last year in the same period, it borrowed only one-third of this amount. The Governor was sceptical if the government would be in a position to retire Rs63.2 billion loans as projected for 07-08 credit plan. Where is the law that prohibits government to contain budget deficit to four per cent, asked a trader who is confident that State Bank of Pakistan can invoke this law and put a brake on unlimited government borrowing.

Bankers however defend the monetary policy. A top banker said that the monetary policy is the most appropriate and logical response to the current situation. It is true that inflation is on the rise during the current fiscal year he conceded but argued, Imagine what would have been the impact of a loose monetary policy on inflation. His assessment is that had there been no tight monetary policy, the inflationary pressures would have been three times more than at present. The banker repeated SBP Governor`s argument that real interest rate is still very low. Our real interest rate is hardly 4-5 per cent if you adjust the bank`s mark-up with inflation rate is one standard argument offered by all commercial and central bankers in support of present policies. Financial cost is just a small part of the total production cost is another argument of the bankers. The financial cost was only three per cent of sale proceeds about five years ago, Shabbir Ahmad retorted and said at present the financial cost is eight per cent of sale proceeds and is hitting the endurance limits. The government`s reliance on banking system for borrowing has led to 19.2 per cent monetary expansion in first half of this fiscal year. Dr Shamshad Akhtar`s advice to the government is to rein in fiscal slippages in next half of thel year. She also wants the government to mutually agree with State Bank to reduce its stock of papers from Rs624.6 billion to Rs305 billion, an average of last five years. Her advice was for holding jumbo auctions of long-term PIBs, more issuance of sharia-compliance instruments and to generate more inflows into National Savings Scheme. While industry and trade leaders were not in a position to offer any comment on this advice of the SBP Governor, a private banker confided that a plan is being prepared to shift burden of treasury bills and short-term papers to long- term instruments. No further details of this proposal were available but there are indications of consultations and meetings among the bankers on these issues. The private sector has not been crowded out as business people are trying to convey, a banker said. Private sector credit grew by 10.4 per cent during July 07 to January 19 as against 10.2 per cent growth of the same period last year. Till January 5 this year, the exporters were given Rs139.6 billion as against Rs31.6 billion last year. Under the Long-Term Financing Facility for export-oriented industries, a sum of Rs8 billion has been allocated for utilisation up to June next. The borrowers have been given option to borrow for three different terms. A three- year loan will carry eight per cent interest, five -year loan nine per cent and 10 -year loan 10 per cent. How can we think of setting up new factories when our existing plants are being closed because of financial and infrastructure problems, Adil Mahmood, a leader of All Pakistan Textile Association (APTA) said. He wants loans on concession rates for upgrading old plants that will also help in saving on electric and gas consumption. Financial concessions to textile is said to have caused inflation. Akbar Sheikh, a senior APTMA leader in Lahore attributes this monetary overhang to State Bank`s wrong money supply policy. How can textile industry be held responsible for this when a slight change in money supply can eliminate this possibility, he asserted. Another textile industrialist recalled that it was high lending that turned the industry sick in the 1990s.

Monetary policy, govt borrowing (Danish) By M. Ashraf Janjua

A discussion is going on, both in policy circles and in public, on the current stance of the monetary policy. Unfortunately, this debate, divorced from the impact of fiscal operations and of government directives on monetary policy, is misplaced. Even the International Monetary Fund which has again been brought back in the driver`s seat due to wrong macroeconomic policies of the past decade, has failed to underscore the real problems of monetary policy. Monetary policy continues to be equated with credit policy for the private sector. Credit to private sector is not even the main source of money creation. Historically, monetary expansion has been largely driven by direct and indirect government borrowings, its specialised credit schemes and by the behaviour of the external sector, whose direction is also determined by the government. There is a lack of understanding about the transmission mechanism of monetary policy as well. Monetary policy operates through control on the balance sheet of the central bank and commercial banks. The main reliance of monetary policy in any country is on the use of instruments to change the balance sheet of the central bank and the commercial banks. It can be done by a combination of instruments that impact the primary reserve base of the banking sector and the cost of credit. If either the cost of credit or the reserve money base of the banking system is influenced by the fiscal operations and government directives, the monetary policy degenerates into a policy aimed at rationing credit to the private sector as a residual item and to control credit cost to private sector. The most unproductive sector will under such a scenario impose a penalty on the private sector, which is the real engine of growth and development. Futility of such an approach either to regulate money supply or control inflation will continue to manifest in the actual outcome being different from goals of an effective monetary policy. It is this context of the determinants of monetary expansion and transmission mechanism of monetary policy that led the State Bank of Pakistan (SBP) to initiate legislative reforms during 1993-97 in order to insulate the balance sheets of SBP and commercial banks from the exogenous factors, including the government. The purpose was to empower SBP to have complete control over its own balance sheet and, through it, and an independent rate of return policy, regulate the balance sheet of commercial banks. Once SBP was empowered to control its own balance sheet and the exogenous influences on commercial banks` balance sheet were eliminated, the board of directors of SBP could formulate a monetary policy with the most important objective of promoting economic growth within the framework of relative price stability. That is the main task of any central bank and prerequisites for realisation of those objectives legislated so as to make SBP as the sole regulator of money growth and cost of credit.

Expansion (or contraction) of money is driven by three independent sources. It consists of public sector borrowing from the banking system, including government initiated credit programmes for the private sector, the injection or contraction of liquidity by the external sector depending on government policies impacting foreign trade and foreign borrowings and credit demand from the private sector. Both, public sector borrowing and changes in foreign exchange reserves have to be managed in a manner consistent with the stance of monetary policy and not the other way around. It is for this reason that the government was mandated to limit its borrowing from SBP to the level determined by its board of directors on the basis of its assessment of the absorptive capacity of the banking system based on a target rate of inflation and credit requirements of the private sector. Additional government borrowing from commercial banks were to be made through an auctioning system in which the cut off rates were to be decided by SBP based on monetary policy requirements. Similarly, to have a say in the matter of external accounts., it was mandated that external account targets may be jointly worked out by the government and SBP in regular meetings of the Fiscal and Monetary Policy Coordination Board (FMPC Board). All these provisions are enshrined in the amended SBP act. But, contrary to the above legal provisions in the recent past, government has been allowed to borrow at will from SBP without any resistance from the monetary authorities. Similarly, contrary to the new provisions of SBP Act, the authority to determine cut off rate for government borrowing from commercial banks has been handed back to the government by SBP, and the legal requirement of regular meeting of the FMPC Board are not being met. In fact, the legally set up board has ceased to operate in practice. The legal power acquired for SBP through a protracted effort of legislative reforms during 199397 has been in practice surrendered back to the government by SBP, and therefore monetary policy has taken its old form of a passive mirror image of the operations and directives of the government. The SBP is at a crossroads now having legal power to formulate and implement an independent monetary policy and the actual state of affairs whereby it has failed to use its new legal authority. It is not the lack of legal power or lack of legislative autonomy that stands in the way of formulation and implementation of an independent monetary policy by SBP. It is the lack of will or courage to use that authority. No further legal reforms can bestow to monetary authorities that will and courage. It is its own internal professional strength and moral standing that needs to be enhanced for conducting of a truly independent monetary policy that serves national economic objectives of economic growth and relative price stability. It may be noted that the autonomy given to the superior courts in the 1973 constitution became a reality only when the will and courage was mustered by the sitting judges. In the same way, the legislative autonomy of SBP can only be translated into reality by the will and courage of its governors.

In the circumstances what is needed is professionalism and moral courage on the part of SBP to adhere to the existing provisions of the State Bank Act rather than recommending further changes in laws for the formulation and implementation of an independent monetary policy. The fault does not lie in the laws but in their enforcement. Without a check on government borrowing from SBP as determined by its board, and without adherence by the government to the rate of return policy as determined by SBP, and without regular meetings of the FMPC Board, the talk about the autonomy of SBP or an independent monetary policy will remain futile. (The author is professor of economics at College of Business Management and former deputy governor (Policy) of State Bank of Pakistan) Monetary policy and the central bank autonomy (Kainaz) By Javed Akbar Ansari

The most serious failure of Musharraf regime was its inability to address the inherent structural weaknesses of the national economy. The economic mandarins who were ushered into power by him were all partisans of the Voodoo magicians (new classical economists) who believe that withdrawing the state from the market is both necessary and sufficient for attaining potential output and steady state growth. The present global financial turmoil illustrates the absurdity of this doctrine so dramatically that further comment becomes unnecessary. Musharraf`s economic team has comprehensively dismembered monetary policy and laid the basis of a full fledged financial crisis. Their monetary policy has imposed a terrible cost on the poor. This article will detail the cost borne by the poor of faulty monetary policy and outline some expectations of the poor from the new supposedly social democratic regime. (Remember roti, kapra aur makan). The most painful cost borne by the poor of monetary policy is of course inflation. CPI growth rose from 7.8 per cent in FY07 to 12.0 per cent in FY08- a rise of over 50 per cent. The inflation accelerated in the second half of FY08 after the SBP had raised the discount rate thrice, cash reserve requirements twice and statutory reserve requirements to almost 20 per cent. A major cause of accelerated food inflation was the ineffectiveness of monetary policy measures in stimulating agricultural production, growth of which was halved falling from 3.7 per cent in FY07 to 1.5 per cent in FY08. The SBP attributes this as it attributes almost all of its failures to policy errors of the government. The State Bank puts the blame for all of the ills high inflation external and fiscal imbalances and crowding out of private investment on government`s SBP borrowing.

However, the SBP Report FY 2008 presents no evidence estimating the actual contribution of the government`s SBP borrowing to the growth of inflation and external and fiscal imbalances. Attributing inflation to central bank borrowing by the government is an obsolete Voodoo doctrine discredited by post-Keynesian economists such as Goodley and Lavoie who demonstrate conclusively that this need not be the case especially when the economy faces cost push inflation as is the case in Pakistan. In the SBP Annual Report 2008 blaming the post-Musharraf government for all policy failures of the State Bank is a constant theme. The State Bank under Shamshad Akhtar wants the PPP government to adopt a faulty policy stance cutting back all subsidies, abandoning the poor and mortgaging monetary sovereignty to the IMF. Subservience to Voodoo monetarist doctrine has eroded the State Bank`s control over money supply; in FY08 reserve money grew by 21 per cent -faster than in FY07. The SBP`s policy transmission mechanism the impact of changes in the discount rate on bank retail rates weakened significantly, the rupee depreciated dramatically and the current account deficit rose to 8.4 per cent of GDP. All this says the State Bank report was exclusively due to the sins of the government especially its refusal to cut food and oil subsidies. The SBP is thus not responsible for anything. The SBP can find no ground for blaming the government for the ineffectiveness of its interest rate policy in controlling private sector credit demand, so for this it blames NBFCs epecially mutual funds. The SBP`s comprehensive failure in controlling inflation is reflected in the trimmed mean core inflation measure (a measure of inflation supposed to measure only those price changes influenced by monetary policy). This registered a year- on- year rise of 17.2 per cent by June 08 as against 8.7 per cent the previous year. The SBP presents no evidence to substantiate its claim that the FY08 inflationary pressures. stems from global price shock. Empirical studies at CBM and PIDE show that this is not the case. Nor is there any evidence to show that the SBP has any capability to reduce the first round or second round pass through effects of rising global prices. Quite the contrary, the SBP lauds the government`s bold decision to pass on to the consumers the cost of imported inputs. This will ensure allocative efficiency. SBP recognition of the ineffectiveness of its tight monetary policy became evident in the first quarter of FY09 when it responded to the Pakistan market`s credit crunch by a drastic reduction in reserves, a massive liquidity injection through OMO`s and discount rate cuts, reduction of cash reserves requirements and abolition of SLR for a significant proportion of bank depositors. SBP`s claim that monetary over hang was significantly reduced during FY08 is false. M2 grew by over 15 per cent in FY08. M2 has grown significantly faster than nominal GDP during most of FY00 to FY08 and Ishrat Hussain`s cheap money policy has been a major cause of accelerated inflationary pressure.

In FY08, the difference between M2 growth (16 per cent) and GDP growth (19 per cent) was small. The fall in M2 growth is entirely due to the negative growth of net foreign assets (minus 32 per cent) over which of course the SBP has no control. Had NFA growth been non-negative (zero) M2 growth would have significantly exceeded nominal GDP growth in FY08. During FY08 domestic credit net grew by 30 per cent and other assets net by 20 per cent. Actual M2 growth exceeded targeted M2 growth by 14 per cent. There is virtually no difference in the M2 growth rate of FY07 and FY08 if we exclude the exceptional M2 growth rate of June 2007.It is Ishrat Hussain`s policy of stimulating consumer credit demand which is hurting the poor. The incidence of inflation is highest on the lowest income group according to the State Bank which defines the lowest income group as those with income levels below Rs.3,000 per month. While the poor are starving, consumer demand remains strong. We continue to import Cadillacs from America and perfume from Paris. It is this artificially bloated consumer demand which has led to the explosive growth of the current account deficit and the massive draw down of foreign reserves in FY08. The policy makers loss of control over the macro economy is illustrated by the dramatic change in the overall external balance. The FY07 surplus of $ 3.7 billion was converted into a huge deficit of $5.8 billion in FY08. Inflow of foreign capital also decelerated significantly during FY08. Monetary policy has been as ineffective in stabilising foreign capital flows as it has been in restraining consumer credit demand. The ineffectiveness of monetary policy is also reflected in the deceleration of bank deposit growth. Deposit growth declined by more than 25 per cent in FY08 compared to FY07 despite the rise in interest rates. Interest rate changes also did not succeed in reducing bank lending to the private sector. Bank advances growth was concentrated in the corporate sector and was for working capital and trade financing. Advances for fixed investment declined during FY08 and the agriculture and the small scale sector remained acutely credit starved. Decline in deposit growth was accompanied by a drop in the over all M2 to GDP ratio. This was also the result of decline in NFA and indicates the increased external sector vulnerability of the tottering monetary management system. The sharp increase in the currency to deposit ratio in FY08 indicates the lack of confidence of the public in the banking system. This is also reflected in the rapid growth of foreign currency deposits during FY08. Rising risk is also indicated by the sharp rise in the credit / deposit ratio which at end of FY08 exceeded 82 per cent. The SBP jacked up the interest rate structure during FY08 but average deposit to average lending rate spread remains at about seven per cent. Foreign bank lending to deposit rate spread has increased and most foreign banks continue to ignore the five per cent saving deposit rate floor set by SBP, on one pretext or another. SBP`s liquidity management was also a failure -as usual, the SBP blames the government for this. Overnight repo rates remained highly volatile. The SBP failed to retain commercial bank interest in TB auctions which is the main reason behind expanded government borrowing from SBP. Increase in TB cut of rates was quite ineffective. Debt maturities roll over proved to be very inadequate. Investments in PIBs fell by more than 20 per cent during FY08.

Market based monetary policy has, during FY00-FY08, manifestly failed to achieve its objectives ensure monetary stability, control inflation, effectively regulate reserve money and credit money growth. But its greatest crime is that of omission. The SBP prides itself on having no distributional targets. What this means in practice is that the SBP encourages the scheduled banks to play an exploitative role. This becomes evident when we look at the distribution of bank deposit and credit accounts. Banks are serving as a vehicle for transferring billions of rupees from the poor to the rich every year. This is where their profits come from. In 2008, those with deposits of less than Rs0.1 million each (the poor) held 78 per cent of the total number of bank deposit accounts. However, their share of the total amount in these accounts was only 15 per cent. As against this, those with more than Rs5 million in their accounts had less than 0.1 per cent of the total number of bank deposit accounts but their share of total bank deposits was 37 per cent. In 2008, the poor (those with less than Rs0.1 million each) had 68 per cent of total bank advances accounts but their share in bank advances was less then 0.6 per cent. As against this, the share of those with more than Rs5 million in their advances accounts was only five per cent of the total number of advance accounts but their share of total amount lent by the banks was over 70 per cent. Banks transfer funds from the poor to the rich. Total deposit of the poor (those with less than Rs0.1 million) amounted to Rs584.7 billion in 2008. The total amount lent to them by the banks was only Rs28.8 billion. The total amount lent to the rich (those with investment account limits in excess of Rs5 million) was Rs1973.8 billion. The deposits of the rich in 2008 were Rs1394.5 billion-thus the banks transferred Rs594.3 billion to the rich. This transfer of money from the poor to the rich has happened every year during 1999 to 2008. During this period, according to one CBM estimate, at least Rs3 trillion have been transferred from the poor to the rich by the banking system. The vast majority of the population have no accents to the banking system. The number of deposit accounts have been falling every year during FY2000 to FY2008. In FY2008, there were only 24.9 million deposit accounts. Depositors, of course, have several accounts each. According to NBP research, the total deposit accounts to total depositors ratio is 1.4. This means that only about 18 million people in a population of 163 million have bank deposit accounts, 89 per cent never need to open the door of a bank. This grotesque mal-distributive financial system preys upon the poor. Its distortions are accentuated by market based monetary policy which presumes the universal validity of Voodoo macroeconomic theory. Voodoo (representative agent) macroeconomics presumes that

Money supply (especially reserve money) is an exogenous variable. Saving, investment, bank lending etc. are sufficiently interest elastic to make the central bank chosen interest rate structure a fulcrum in the monetary policy transmission mechanism. An optimum output maximising real sector equilibrium is automatically generated when the central bank chooses the right interest rate structure and this also automatically generates a welfare maximising pattern of income distribution. Government borrowing from the central bank is necessarily inflation enhancing and therefore fiscal policy should be subordinated to monetary policy. Post Keynesians and Neo Saraffn`s have detailed the grotesque deliberate misrepresentation of capitalist order functioning that is implicit in these assumptions. Extensive research at PIDE, CBM and AERC has shown that the Pakistan economy certainly does not work in this way. Neither investment nor saving nor bank credit is interest elastic. Both M2 and Mo are endogenous variables; manipulating interest rates is not an effective way of influencing macroeconomic aggregates. Equilibrium generated by accommodation to market investment and consumption preferences does not yield stable or sustainable or equitable growth. There is no proof that central bank borrowing by the government is inflation enhancing. Increasing low cost public borrowing is an indispensable necessity for increasing the real income of the poor, significantly expanding public investment and loosening the stranglehold of multinational agencies on policy making. If the PPP is seriously committed to a social democratic policy agenda, it must abandon market based monetary policy due to its comprehensive systemic failure and recognise the reactionary character of the Voodoo macroeconomic theoretical paradigms which underlies it. reinstitute credit planning. This requires a leadership with hands on experience of credit planning. monetary policy objectives should be distributional not macros aggregative. A growing real or financial market does not take care of the poor. That is why the state must govern the market by becoming a major consumer and investor. abolish the autonomy of the SBP (this has transformed it into pro-West Currency Board), nationalise all banks and NBFCs and impose strict capital controls on both current and capital account transactions. The PPP will, of course, do none of this. The PPP has already finalised a medium-term agreement with the IMF which gives the IMF policy oversight rights. But failure to address distributional inequities will discredit the PPP.

A non-traditional monetary policy (Omear)


From InpaperMagzine | 16th April, 2012 0

KEEPING its key policy rate unchanged at 12 per cent and increasing the lowest mandatory return on saving deposits from five to six per cent, the State Bank of Pakistan has sent important signals to all market forces, senior bankers say. Whereas the maintenance of discount rate at 12 per cent aims at containing inflation, the raising of the rate-floor for saving deposits means the SBP is aware of the complex fiscal and monetary issues and wants banks to be part of the solution. Banks were expecting the policy rate to remain intact. But they had no idea that the central bank would scale up the floor for the PLS rates of return, remarked head of a large local bank. Economic justifications do exist for the twin moves, and the SBP has elaborated on them. But as bankers, our problem is that if we have to raise the mandatory minimum deposit rates on PLS savings we cannot immediately do it without increasing the lending rates, he said. Now, has the SBP signalled banks to move towards higher interest rates without revising upwards its own discount rate? And does it want banks to increase the saving deposit rates in exchange for it? A careful reading of the monetary policy statement provides some clues: After recently-imposed restriction on the government to keep its borrowings from the SBP at zero level by the end of the quarter, the central bank may have to ensure sufficient liquidity into the banking system to let the government borrow from banks. At the same time it also needs to ensure that the private sector credit demand is not crowded out. This means that banks would tend to make private sector loans dearer. Since interest rates are already high this may eclipse the economic growth prospects. One way to deal with this problem is to ensure that banks generate liquidity on their own. That is how they can become part of the solution (of impending problems) and that is why the central bank wants them to increase return on the PLS saving deposits, explained a former executive director of the central bank. Currently average return on saving deposits is 5.25 per cent. Increasing it to six per cent without necessarily revising up lending rates is no big deal if banks cut some of their operational expenses, he suggested. Saving deposits make up 38 per cent of the total bank deposits and enhancing the lowest acceptable return on them to six per cent would bring in a lot of money into the banking system, he argued quoting statistics from the SBP monetary policy statement.

Bankers say, however, that increasing the minimum return on saving deposits at a time when the government has re-allowed institutional investment into the National Saving Schemes would be problematic for them. If banks can expand their deposit base by a certain margin by increasing the rates of return on the PLS saving deposits its impact would be offset by the outflow of institutional funds from banks into the NSS, feared treasurer of a local bank. The Economic Coordination Committee of the federal cabinet had decided on April 6 that special funds like pension, gratuity, superannuation, provident fund and trust funds would be eligible to invest in the NSS. Last year, they too had been declared illegible for investing in the NSS along with other institutional funds. From the government point of view, this move would be helpful in increasing its borrowing from non-bank sources thereby containing its bank borrowing and creating more space for banks to lend to the private sector. The reason why banks are disturbed over it is not because it would cause an outflow from their deposit base, commented a senior official of the Central Directorate of National Savings. They are disturbed because they know that the wider our scope for non-bank borrowing becomes the lesser we would rely on banking loans. And opportunity for them to continue to invest in zero-risk government papers would become limited, he said adding that the SBP had frequently warned banks against overexposure in government securities. That banks over-investment in government securities has reached the levels where the central bank had to warn them against what it calls financial disintermediation is evident from the fact that ADR (advances to deposit ratio) of the banking system plunged to 53.6 per cent in 2011 from 69.7 per cent in 2007a steep decline of 16 percentage points within just four years. The government is partly to be blamed (for this situation) as it continued borrowing too heavily from banks during these years. But as a regulator, the central bank is ought to make moves to dissuade banks from letting the ADR deteriorate further, commented a senior central banker. He recalled how in the past the central bank had introduced the concept of interest rates corridor (thereby discouraging banks to sit on liquidity only in search for occasions to employ it in government papers and compelling them rather to use the same for loaning to the private sector). Now the twin moves of keeping its own policy rate unchanged (and that too with the interest rates corridor concept) alive and requiring banks to raise the return on saving deposits from five to six per cent, the SBP has again signalled to banks that they should not forget their role as financial intermediaries. I think the present monetary policy is non-traditional in that it seeks to obtain this objective as well apart from ensuring interest rates stability, he said. Mohiuddin Aazim

Monetary policy and financial sector efficiency (Ramsha) By Javed A. Ansari

Financial liberalisation and market-based monetary policy are said to be necessary for improving financial sector efficiency. This has not been Pakistan`s experience since 1988. The most striking feature during this period is the distancing between the real commodity producing sectors on the one hand and the financial sector on the other. Thus in calendar 2009 according to the SBP report, the performance of the banking sector largely reflects the shift in the banks risk preferences, strong government demand for bank finance and amendments in prudential regulations. Banks shifted out of real sector investments to investments in risk free government securities. However the maturity mismatch between assets and liabilities increased sharply during FY 10. Banks invested heavily in longer term treasury bills but attracted short term or low interest yielding deposits. Profits grew massively by over Rs54 billion in FY 10 despite a weak real sector growth performance and rising non-performing loans (NPLs). As the report notes, profitability was largely the result of amendments in the prudential regulations by the SBP (which led to) a sharp slow down in expenses growth due to lower provision related expenses. Amendments in the SBP`s prudential regulations allowed banks to use a part of the forced sales value (FSV) of pledged collateral in provisioning for impaired assets. Provisioning as a proportion of banks income declined precisely at a time when the NPLs were skyrocketing. If this is not institutionalised corruption, what is?

Financial liberalisation has not led to a noticeable increase in banking industry competitiveness. The largest banks had the highest profitability and interest margins ratios during 2008 and 2009 (figures for 2010 are not yet available). The largest banks have the highest spread between deposit and advances rates and the lowest cost deposit base. The interest rate spread between advance and deposit rates has averaged about 9.5 per cent during FY 01 to FY 10. In FY 10 the average interest paid to depositors was 4.2 per cent while the weighted average lending rate (WALR) was 13.6, the spread was thus 9.4 per cent. The pattern of inter- regional credit distribution is highly unjust. Thus during 2005 09 Balochistan`s share of bank credit was 0.6; KP`s 2.3 and Azad Kashmir`s 0.3 per cent. On the other Sindh`s i.e. Karachi`s share of bank credit was about 42 per cent. Bank inefficiency is reflected above all in the rising volume of loan write-offs and NPLs. The SBP report provides no figures on officially sanctioned loan write-offs although according to a Supreme Court decision these should be provided on a time series basis. Non performing loans of our banking system rose by 15.6 per cent during FY 10 and reached Rs460 billion by end of FY 10 the stock of non performing loans rose by Rs62 billion in FY 10. The SBP expects none of these additional NPLs to be recovered for while the stock of these loans has gone up by Rs62 billion in FY 10,. loss category (non- recoverable) loans are estimated to have increased by Rs93 billion Two-thirds of these NPLs are those of the corporate sector. Despite this there are no plans for the financial restructuring and rehabilitation of sick projects by the SBP or any other government agency. It is therefore not unfair to conclude that money market based monetary policy has failed in improving the efficiency of the financial sector. But the greatest victims of market based monetary policy are the poor. Market based monetary policy fuels inflation throughout the economy by jacking up financial costs and refusing to recognise that inflation in Pakistan is a cost push phenomenon. It has always been so for as the Latin American Structionalists have shown, in a country where the majority of the population is literally starving to death demand pull inflation is strictly an illusion of Voodoo economists. In Pakistan, the lowest income group has always been the hardest hit by inflation. Food inflation has been higher than non-food inflation through most of FY 06 to FY 10. Moreover during this period prices (as reflected in the sensitive price index) have risen fastest for the lowest income group (those with monthly incomes of Rs3000 and less according to the SBP. The inability of the SBP to deal with the real causes of inflation the cost factors hurts the poor more than it hurts any one else. But of much greater significance is the fact that the State Bank`s liberalised financial system discriminates against the poor. This becomes clear when we look at the structure of deposit and advance accounts in scheduled banks. In June 2010 the poor those with accounts of less than Rs1 lakh owned about 40 per cent of the number of deposit accounts. Their share in total amount deposited was about 15 per cent. The rich those with deposit accounts of Rs10 million and more owned only 0.1 per cent of

the total number of deposit accounts but their share of the amount deposited was about 37 per cent. As against this, the share of the poor in the amount that banks lent was only 0.9 and the share of the rich was as high as 80 per cent. The total amount deposited by the poor at scheduled banks at end FY 10 was Rs714.4 billion but the total amount lent to them was only Rs27.4 billion hence Rs687 billion were taken away from the poor As against this, the total amount deposited by the rich was Rs1751.3 billion while Rs2446.6 billion was lent to them by the banks. This means that Rs695.3 billion were transferred to the rich. The banking system is an institutionalised mechanism for transfer of funds from the poor to the rich. CBM estimates that over the period 2005 10 approximately Rs3.5 trillion have been transferred from the poor to rich through the banking system. The poor are starving to death and the rich enjoy a standard of living which is the envy of the European and the American elite. The State Bank is among the main managers of this viciously cruel economic system which relentlessly exacerbates the exploitation of the poor. Market based monetary policy has failed comprehensively. The State Bank`s monetary stance exacerbates inflation, stifles investment growth, fosters financial sector inefficiency and viciously discriminates against the poor. Policy reform within this macroeconomic framework is a sick joke. This policy framework must be totally abandoned. We must break decisively with the IMF and reject all foreign set macroeconomic targets; reinstitute credit planning and impose rigorous credit and capital controls, nationalise all financial institutions and abolish the money market and repudiate all foreign debt. The writer is Dean CBM Political monetary policy (Lalani) By Dr Pervez Tahir

FISCAL policy is by definition political; it is made by politicians. In contrast, monetary policy is kept away from political rulers in all functioning democracies. Generally a non-political professional is appointed, not elected, as the head of the central bank and left alone to take an independent view of the economic and financial data to announce a monetary policy in the best interest of the economy. It is hard to apply this description to the monetary policy just announced by the State Bank of Pakistan. The monetary stance seems to have been decided in the cabinet meeting held in early January and announced as such by the information minister at a press briefing that usually follows. The industries minister has been telling all and sundry in business that the government will not allow an increase in the interest rate. The adviser on finance too did not leave any doubt that the State

Bank had to be a team player. What was left for the State Bank was to make a detailed justificatory statement, which has been done in the form of the latest monetary statement. Both the government and the State Bank face a public relations dilemma. They are unable to explain in common parlance why the interest rate in Pakistan is following a different trajectory from that in every other country of the world. Rising inflation was easy to blame on the global hike in food and energy prices, but persistent core inflation is not. While the State Bank governor was at a loss to interpret the usual divergence between the wholesale price index and the consumer price index, the real issue for him was the core inflation. The fact is that core inflation is not moving at all. It was 18.9 per cent in November and 18.8 per cent in December. Variation of a few points at these high levels is of no significance at all. If the State Bank had followed the principles of monetary economics, and its own researched position that financial charges are not a major component of the cost of doing business, then the discount rate should have been increased, not necessarily to the full extent of 150 basis points to please the IMF but by 50 basis points to make an unambiguous statement of intent. By following the government lead to keep the rate unchanged, the market expectation cannot but be of a cut the next time. By changing the frequency of monetary policy statements from half-yearly to quarterly, such expectations would be reinforced. The situation will not be helped by the fact that Pakistan does not have quarterly GDP data, making an assessment of nominal GDP that much difficult. There is, however, more to the shift to quarterly announcements than meets the eye. In case the assessment in the forthcoming IMF review goes the other way, ignoring the democracy dividend plea put forth to the IMF first deputy managing director John Lipsky in Davos by the prime minister, the State Bank will have to suffer the ignominy of having to announce an interim monetary policy. A quarterly statement will come in handy here. Let it be understood though that unfulfilled business expectations of a cut in a quarter from now will have a more devastating effect than their present disappointment over no change in the rate. And let it be also understood that the IMF is likely to be guided more by the commitment to achieve a June-on-June inflation rate of 12 per cent than anything else. The time was thus not yet to relax. In a word, the do-nothing policy aimed to please the government, appease business and confuse the public is likely to add to the prevailing uncertainty. Projecting a GDP growth of 3.7 per cent in the current year against the earlier IMF projection of 3.5 per cent and the latest World Bank projection of three per cent makes the confusion worse confounded. I have written earlier in these columns that we would be lucky if the GDP growth rate this year stays slightly above the population growth, unless the witch doctors of the Shaukat Aziz era, who continue to be in the employ of the government, are called upon to regroup their dirty-tricks squad to spike the growth rate. This will be the last nail in the coffin of the integrity of our statistical system.

The writer holds the Mahbub ul Haq Chair in Economics at the GC University, Lahore.