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SBP reduces discount rate to 13 percent

* Overnight deposit facility introduced to let banks place surplus funds with central bank for a fixed rate

By Mushfiq Ahmad

KARACHI: Governor State Bank of Pakistan Syed Salim Raza announced on Saturday a reduction in central bank’s key policy rate by 100 basis points to 13 percent, effective from August 17.

Unveiling the July-September 2009 Monetary Policy Statement at a press conference at SBP, Karachi, he said that SBP was introducing a corridor for the money market overnight repo rate from August 17. While the SBP policy rate will serve as a ‘ceiling’, the repo rate on the new overnight deposit facility, 300 basis points below the SBP policy rate, will provide a binding ‘floor’, he added.

The newly introduced “SBP Overnight Repo facility” will be available at 10% per annum. This will serve as the ‘floor’ for the interest rate corridor.

The tenor of existing SBP three-day repo facility, which has been renamed as SBP Overnight Reverse-Repo Facility, has been reduced from three days to overnight.

“The introduction of this framework will improve liquidity management, enhance effectiveness of market signaling, and foster stability and transparency in the money market operations,” he said and added it would also improve transmission of monetary policy signals, strengthening its role in fostering price stability.

The governor also announced that the frequency of monetary policy decisions would be increased from four to six times a year. Henceforth, monetary policy decisions will be announced in the last week of September, November, January, March, May, and July. The January and July policy announcements will be accompanied with a detailed monetary policy statement and a press conference, he said and added that on remaining four occasions the monetary policy decisions would be communicated through a brief press release only. “High frequency of MPS announcement will provide greater clarity in how changing economic conditions are being addressed,” he said.

Raza said an independent monetary policy committee (MPC) was being constituted that would have external experts as members in addition to SBP and SBP board representatives. The inclusion of external members is designed to ensure that SBP benefits from expertise and independent views concerning monetary policy, he said and added: “This step will bring us in link with best international practices by enhancing the transparency and credibility of monetary policy formulation process.”

“We have, in a difficult year, seen improvement in key macroeconomic indicators following continued implementation of the macroeconomic stabilization program,” he said and added CPI inflation continued to fall, government borrowing from the central bank remained within quarterly limits, and SBP’s foreign exchange reserves increased.

“These positives, in turn, reflect contraction in aggregate demand, much-needed fiscal consolidation, and an improved balance of payments position,” the governor said and emphasized that consistent with the gradual strengthening of macro fundamentals, the inter-bank money market was functioning smoothly, the foreign exchange market had been stable within a tight range, and deposit growth in the banking system was picking up.

Responding to reporters’ queries later, he said he did not see any reversal of interest rates’ direction. He said steps like wage increase announced in the recent budget could slow the pace of fall of inflation, but he hoped it would not necessitate a reversal of interest rates direction.

He said he hoped that most of the commitments made in Tokyo’s conference for Pakistan would materialize, but that there could be pressure on the economy if they did not.

He said high discount rate did not have much to do with private sector credit growth because KIBOR had been 2.5 percentage points below the discount rate in recent months. He said the foreign exchange market had so far easily digested the transfer of further oil payments.

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