In line with market expectations, the State Bank of Pakistan increased the benchmark interest rate by 150 basis points to 8.75% for the next two months.
The market had expected a hike in interest rate after the central bank pushed back the monetary policy committee meeting by one week.
The inflation reading for October spiked close to 9.2% which was higher than the central bank’s projection of 7-9% inflation for the year.
The SBP hinted in monetary policy statement for September that it might increase the policy rate to achieve mildly positive real interest rates over time.
It is pertinent to mention that inflation remains elevated and real interest rate stands at a negative 2% at present.
Besides, the commercial banks are demanding notably high yields (rate of return) against investment in government papers like T-bills and Pakistan Investment Bonds (PIBs).
The central bank made it clear through a brief press statement that the monetary policy meeting is aimed at removing uncertainty about “inflation and balance of payments (Pakistan’s capacity to make international payments) in the market”.
Earlier, due to the lockdown imposed to contain the spread of Covid-19 in the country, the SBP had aggressively slashed the benchmark interest rate by 625 basis points from March to June 2020 to 7%.
The monetary policy is an effective tool with the central bank that is used to curb inflation. The SBP announces a target rate every two months, which serves as the benchmark for overnight funds in the interbank market.
The policy rate is revised up or down or kept unchanged in relation to the inflation reading and economic activities. Low inflation leads to a reduction in the policy rate in a bid to ramp up economic activities and vice versa.