Monetary Policy of Pakistan

Financial Markets and Institution

Monetary Policy of Pakistan

Prepared By:
Mohammad Zohair Hasan

1411190

BBA 5 - C

Submitted to :

Sir Asif Khan

MONETARY POLICY OF PAKISTAN

Background:

Monetary policy manipulates with a country’s interest rates and money supply to control the macroeconomic elements such as inflation, unemployment rates and balance of payments. These are deliberate attempts to aid economic growth and stabilize the circular flow of money. These policies are also known demand management policies and are hence to control excessive and deficient demand in an economy thus these policies are effective mainly in short run.

The act of 1956 of state bank of Pakistan indicated towards a productive resource planning and with the aim to control and keep inflation rates low.

Monetary policy can either be Expansionary or Contractionary;

• With an Expansionary monetary policy, the Government deliberately lowers the interest rates and increases its money supply which ultimately affects the aggregate demand within the economy and hence leads to economic growth..
• Whereas a Contractionary monetary policy primarily used to slow down the inflation in the economy which is through either decreasing the money supply or increasing the cost of borrowing (Interest rates), thus decreases gross domestic product and dampens inflation.

According to a famous economist, Friedman (1963), he urged that if monetary policy is of contractionary nature and it exist for a long time could eliminate the inflation rate:

“Inflation is always and everywhere a monetary phenomenon.”

The history of monetary policy over the period from 2000 - 2009:

• In 2000-01 with high jump in the exchange market of rupee in mid September 2000,the central bank, SBP, was compelled to fix and switched from freely floating exchange rate to managed/fixed exchange rate.
• In 2001-02 the tight monetary policy arrangement in Fy -01 was appreciably eased in FY-02.
• In 2002-03 with substantial growth in money market and increace in Balance of payment surplus the country was left with awash with liquidity amid FY – 03
• In 2004-05 Dyring Fy-04 the push of fiscal administration was towards adjusting the market desire to money related arrangement position. At first amid Fy – 04 when loan costs were under descending weight.
• In 2005-06 April 2005 because of the feature when swelling coming to at 11.3%, SBP stay in fiscal fixing stage.
• In 2006-07 During July-Apr 14, net credit to private segment developed by Rs. 266bn (12.6%) against Rs. 339.4bn (19.8%) in relating time of FY 05 regardless of liquidity in the framework.
• In 2007-08 SBP had observed the monetary improvement and viewpoint for Fy-07 and have taken proper activities as and when required in quest for keeping up the targets of value soundness without partiality to financial development.
• In 2008-09, the tight money related strategy was proceeded by SBP under macroeconomic adjustment program and rebate rate was raised by 200 bps on 1 Nov 2008 bringing about total increment of 300 bps.
• In the year 2009-10, the general level of hazard and vulnerability in the economy has expanded and the weight on the financial position has heightened and development in the genuine economy is constrained. Striking a harmony amongst money related and budgetary steadiness SBP chose to bolster the recuperating genuine financial action along these lines chose to diminish the strategy rate to 12.5%.

 Effect of Monetary policy on Interest rates:

[pic 1]

Interest rate generally means the “cost of borrowing”.  Contractionary Monetary policy aims at reducing money supply and that the money supply is reduced by increasing interest rates. However if the interest rate is low more borrowing of funds would take place hence resulting in more investment, employment opportunities thus the overall demand & consumption in the economy rise

Analyzing the trend of interest rate in Pakistan, one thing that could be seen is that, interest rates have been quite fluctuating over the period of time. During 2001 the interest rate has been 13% which implies that less borrowing was there in the economy.

In the next year, 2002, the cost of borrowing has fallen to 9% and thereafter  remained constant to 7% from 2003 to 2005. At whatever point government used to diminish the loan cost so all the more getting assets occurred and which prompt to increment in the rate of swelling. Proceeding onward, In 2006 the loan cost expanded by 2% till 2007. In the year 2008 to 2009 when expansion had come to its top the administration needed to build the loan cost to decrease the supply of cash and in 2009 the financial and political condition were bad and the economy was going towards subsidence. Government needed to pull in outside speculators to put resources into Pakistan as loan fee was high which would mean an inflow of remote cash as Pakistani Rupee was likewise devaluing in 2009. The Interest rate in 2009 was around 14% individuals began sparing cash as opposed to spending. As monetary condition showed signs of improvement expansion rate went to the steady point the financing cost continued diminishing and in 2016 it came up to 6%.

Effects of Monetary policy on Money Supply:

Money supply is the total amount of money available in an economy at a particular point of time.

[pic 2]

The upward trend of the graph above indicates the sharp rise in the money supply primarily due to the increase net foreign assets (NFA) however  net domestic assets have increased at a decreasing rate. The graphs illustrates an increase of nearly 1-1.5 million rupee each year from the fiscal years of 2008 to 2016, excluding 2009 where an increase in interests rates lead to a decrease in money suppy as the cost of borrowing had significantly increased. The overall trend of the graph was stabilized as in 2010 the interest rates had fall down again.

These progressions in money related conditions influence monetary movement. For instance, when short-and ling term interest rates go down, it gets to be less expensive to borrow, so household consumption increases and ultimately firms are in a superior position to purchase raw materials in order to extend their businesses. Firms, in fact, react to these changes (family and business) spending by hiring labor and increasing production to a greater extent. As a result spending increases. These linkages from money related approach to creation and business don't show up quickly and are affected by a scope of elements, which makes it hard to gage unequivocally the impact of fiscal arrangement on the economy. The Interest rate of the country seems to be fluctuation throughout the period from 2001 to 2012 and which has the direct impact on the inflation and ultimately the unemployment rate. [pic 3]