The State Bank of Pakistan (SBP) is projected to lower its key policy rate to 16% by the end of 2024 and further reduce it to 14% by the end of 2025, according to BMI, a Fitch Solutions company.
Currently, the policy rate stands at 20.5%.
“We maintain our forecast that the SBP will reduce its policy rate to 16.00% by the end of 2024, as we anticipate inflation will continue its downward trend toward the target rate of 5-7% and the rupee will remain stable,” BMI stated in its ‘Pakistan Country Risk Report’ published on July 15.
The research firm noted that it had always expected the SBP to ease policy this year, and the central bank made its first cut earlier and more significantly than anticipated.
On June 10, 2024, the SBP reduced its policy rate by 150 basis points (bps) to 20.5%.
“We expect inflation to keep declining throughout the remainder of the year,” BMI said.
The report highlighted that a significant factor in the recent slowdown was a sharp drop in food prices; headline inflation fell more than policymakers expected, from 17.3% year-over-year in April to 11.8% in May.
“We still foresee that headline inflation will continue to decrease throughout the year, dropping from 11.8% in May to 6.2% in December,” BMI added.
While acknowledging the risks of inflation rebounding due to adjustments in electricity and gas prices, the monetary policy committee mentioned that the “cumulative impact of earlier monetary tightening is expected to keep inflationary pressure in check.”
On the currency front, BMI expects the Pakistani rupee to remain relatively stable for the rest of the year, allowing for more room to cut interest rates.
For the past six months, the rupee has hovered around PKR 278/USD, and BMI predicts it will only slightly weaken to PKR 290/USD by the end of 2024.
“If inflation continues to slow, policymakers will likely cut the key policy rate to avoid a significant rise in real rates,” the report stated.
BMI noted that real interest rates rose from 4.6% in April to 10.2% in May, which could weigh on investment and economic growth.
“If the policy rate remains unchanged, we expect real interest rates to exceed 15% for the rest of the year,” it added.
Additionally, BMI expects the US Federal Reserve to start its rate-cutting cycle in September, which would provide more space for the SBP to reduce rates in the coming months.
BMI anticipates that the SBP will cut the key policy rate at its next Monetary Policy Committee (MPC) meeting.
“We believe that policymakers will adjust the policy rate in line with inflation,” the report stated.
Regarding the long-term rate trajectory, BMI expects SBP policymakers to continue easing policy, lowering the key rate to 14.00% by the end of 2025.
“As inflation decreases, we believe policymakers will gradually cut the key policy rate to lower real rates, which we expect to rise sharply in 2024,” BMI concluded.
However, faster-than-expected inflation could slow the easing cycle. “Upcoming FY25 budgetary measures and energy tariff adjustments could cause a sharp rise in short-term inflation and deter policymakers from cutting rates,” it warned.
