Economists Split on Odds of First Pakistan Rate Cut Since 2002

By Khalid Qayum and Farhan Sharif

April 20 (Bloomberg) -- Economists are divided on whether Pakistan will lower interest rates for the first time since 2002 to stoke growth as price gains remain “stubbornly” high.

State Bank of Pakistan will cut its benchmark rate from a decade high of 15 percent, according to seven of 15 economists in a Bloomberg News survey. The rest expect the central bank to keep borrowing costs unchanged when it meets in Karachi today.

Governor Syed Salim Raza, who took over as head of the State Bank in January, says the battle against inflation has yet to be won. The International Monetary Fund, which provided Pakistan with a $7.6 billion bailout in November, last week said the central bank agreed it was “premature” to reduce rates even as economic growth slumps to an eight-year low.

“One major headache for policy makers remains the rather stubborn core inflation,” said Farhan Rizvi, an economist at JS Global Capital Ltd. in Karachi. “Moreover, being in an IMF program makes the task even more challenging as any rate cut would require a go ahead from the fund.”

Pakistan’s core inflation rate, which excludes volatile and controlled prices, dropped to 18.5 percent in March from 18.9 percent in February. That was less than the decline in the nation’s key consumer-price index, which fell to an 11-month low of 19.1 percent from 21.1 percent in the same period.

South Asia’s second-largest economy was forced to turn to the IMF for a rescue package in November to avoid defaulting on its debt, after the country’s foreign-exchange reserves shrunk 75 percent in a year to $3.5 billion and the current-account deficit widened to a record.

Taliban Insurgents

Pakistan’s economy has been deteriorating over the past two years as political tensions prevent the government from tackling slowing growth and worsening security. U.S. President Barack Obama’s administration is pushing Pakistan President Asif Ali Zardari’s government to fight Taliban guerrillas and other militants along the country’s border with Afghanistan.

International donors meeting in Tokyo last week pledged more than $5 billion to help Pakistan shore up its ailing finances and fight terrorism. The U.S. and Japan each pledged $1 billion at the conference.

“Whether growth returns in Pakistan with any vigor depends largely on the outlook for political stability and public security,” said Frederic Neumann, an economist at HSBC Holdings Plc in Hong Kong. “What Pakistan needs, in short, is more time and stability to put its house in order.”

Reviving Growth

Lowering the highest borrowing costs in Asia would help revive growth in Pakistan, according to economists including Khalid Iqbal Siddiqui from Invest & Finance Securities Ltd. in Karachi, who expects the central bank to lower its benchmark to 14.5 percent next week.

Governor Raza should have more room to cut interest rates as inflation slows. The central bank expects inflation to ease to 11 percent by June, the slowest pace since December 2007.

In its last policy statement in January, the central bank kept its benchmark lending rate unchanged. Policy makers last raised the rate by 2 percentage points on Nov. 12, the fourth increase in 2008, as part of conditions for the IMF loan.

“Certainly the country is nearer to the point where they can cut,” said Philip Wyatt, a senior economist at UBS AG in Hong Kong. “But inflation likely has to come down bit more significantly below the 20 percent level before they can cut rates without risking currency weakness.”

Pakistan’s rupee plunged 22 percent last year and the benchmark stock index tumbled 58 percent as investors withdrew funds from riskier emerging markets amid a downturn in the global economy.

The Washington-based IMF said in its report last week that Pakistan policy makers “saw the need to reassess interest rates down the road” in order to stimulate the economy. The lender expects growth of as little as 2.5 percent this fiscal year, compared with a 3.4 percent prediction in November.

“Economic activity has slowed much more sharply than anticipated under the IMF economic stabilization plan,” said Sayem Ali, an economist at Standard Chartered Bank in Karachi. “The policy focus now needs to shift to supporting growth.”

Contributor                   Key Rate

KASB Securities               Cut by 2 percentage points
Invest Capital                Cut by 1 percentage points
Arif Habib                    Cut by 1 percentage points
BMA Capital                   Cut by 0.5 percentage points
AKD Securities                Cut by 0.5 percentage points
Al Falah Securities           Cut by 0.5 percentage points
Invest & Finance              Cut by 0.5 percentage points
Invisor Securities            Unchanged
JS Global Capital             Unchanged
Foundation Securities         Unchanged
Elixir Securities             Unchanged
IGI-Finex Securities          Unchanged
UBS                           Unchanged
HSBC                          Unchanged
Standard Chartered            Unchanged

To contact the reporters on this story: Khalid Qayum in Islamabad at kqayum@bloomberg.net; Farhan Sharif in Karachi at fsharif2@bloomberg.net.