Analysis of Pakistan

industry:
Impact of monetary policy
on Economic and Industrial
Growth.

Zafarullah Siddiqui
 TYPE Of POLICIES
Monetary Policy: Central Bank of
country. State Bank of Pakistan.
To manage Money supply in order to achieve specific goals
such as controlling inflation (or deflation), maintaining
exchange rate, achieving full employment and economic
growth.
Monetary Policy is made bimonthly or quarterly

Fiscal Policy (Ministry of Finance)

Related to Gov Expenditure & taxes, policies made to 1

achieve balance in Govt. Revenue and Expenditure,

 MONETARY POLICY

Monetary policy rests on the relationship between the rates

of interest in an economy, that is the price at which money
can be borrowed, and the total supply of money.
Interest rate↑1/α (inversely proportional to) Money supply ↓
Interest rate ↑ Savings ↑ Flow of money in market ↓
investment ↓ RGP ↓
Monetary policy uses a variety of tools to control one or both
of these, to influence outcomes like economic growth,
inflation, exchange rates with other currencies (Rupee- 2

Dollar Parity) & unemployment,

 MONETARY POLICY
Types of Monetary Policies
Expansionary
In expansionary Monetary policy Central Bank increase the
flow of money supply in the market mainly by keeping rate
of interest low and through open market operation.
Money Supply ↑ Inflation ↑ Price ↑
Contractionary
In contractionary policy Central Bank decreases flow
of money supply by taking out money from the market
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Money Supply ↓ Inflation ↓ Price ↓
 MONETARY POLICY
Main Objectives of Monetary Policy
 Inflation Targeting
 Price level Targeting
 Monetary Aggregates
 Fixed Exchange Rates
 Promoting Economic Growth
 Price Stability
 Soundness and stability of financial markets

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 Controlling Prices

Inflation Targeting
Under this policy approach Central Bank targets to keep
inflation under control in particular (CPI) Consumer Price
Index at a particular level

Pakistan Monetary policy objectives

2013 – 2017 June – low rate interest Expansiory
2018 July – 2019 june – mainly Inflation
Targeting-contractory
2019 july- 2020 june- inflation targeting-
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contractorry
 Controlling Prices

Price Level Targeting

Price level targeting is similar to inflation targeting except that
CPI growth in one year is offset in subsequent years such that
over time the price level on aggregate does not move

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 Expansiory-
Contractory-Mix
Monetary Aggregate
Under this policy approach there could be multiple
objectives e.g. increasing economic growth & decreasing
inflation which means using a balance of expansionary &
contractionary policies

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 MONETARY POLICY
TOOLS

Tools which are used to achieve monetary policy objectives

Monetary Base
Open Market Operation
Reserve Requirements
Discount Window Lending
Interest Rate 8
 Open Market
Operation
Monetary Base
Monetary policy can be implemented by changing the size of
the monetary base. This directly changes the total amount of
money circulating in the economy. A central bank can use
open market operations to change the monetary base. The
central bank would buy/sell bonds in exchange for hard
currency. When the central bank sells Bonds it collects hard
currency which increases the amount of currency in the
economy, thus altering the monetary base
Currency Base & types
M0 = Reserves & money in circulation
M1= Current Deposits
M2= Current Deposits + Saving 9
Accounts
 Open Market
Operation
Open Market Operation
A central bank can use open market operations to change the
monetary base. The central bank would buy/sell bonds in
exchange for hard currency.

If Bonds, & other reserves are auctioned then SBP will get cash
which will decrease the money flowing in market & vice versa
Money Supply ↓ Inflation ↓ Price ↓
Money Supply ↑ Inflation ↑ Price ↑ (if SBP buys from market)

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 Commercial Banks
Reserve rate
Reserve Requirements
The monetary authority exerts regulatory control over banks.
Monetary policy can be implemented by changing the
proportion of total assets that banks must hold in reserve with
the central bank. By changing the proportion of total assets
to be held as liquid cas. Reserve changes the availability of
loanable funds. This results change in the money supply.
If SBP increase the reserve rate from 15% to 20% means all commercial
& private banks have to deposit 20% of their hard cash in SBP which
will result in decrease of money available in market & vice versa
Money Supply ↓ Inflation ↓ Price ↓ (if rate increase from 15% to 20%)
Money Supply ↑ Inflation ↑ Price ↑ (if rate decreases from 15% to 10%)

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 Lending/calling back
funds
Discount Window Lending
Many central banks and finance ministries have the authority
to lend funds to financial institutions within their country. By
calling in existing loans or extending new loans, the monetary
authority can directly change the size of the money supply.

The objective of all commercial banks is to get the money quickly, if

bank is giving money say in period of 1year, then central bank may
become a 3rd party & lend the desired loan within 1month at some
interest on it. This interest rate High/Low alter the money supply in
market

Money Supply ↓ Inflation ↓ Price ↓ (if high interest rate is charged)

Money Supply ↑ Inflation ↑ Price ↑ (if low interest rate is charged) 13
 Interest rate

Interest Rate
In this method interest rate is forced by the Central bank on
money supply in the market which alters the amount of
money supply. However most central Banks prefer to use
open market operation for regulating the size of money
supply in the country.

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 MONETARY POLICY
Imperatives
It is important for Central Bank and Ministry of
Finance to make credible announcements
regarding the monetary policies
private banks must believe that these
announcements will reflect actual future
monetary policy
The monetary policy in year 2019 kept the rate of interest
as high as 11 to 13.25 percent with the objective to reduce
inflation from 11- 9.5% to manageable 5-7.0%
This however has increased the lending rate as high as
17-19% (average banking spread 3-4%) 15
 Historical perspective

In mid 1990’s SBP shifted its reliance from an Administered

Monetary policy to Market oriented Monetary Policy.

And where it relied more on interest rate to serve as a policy

instrument & developed its capacity to manage financial
markets and related activities.

SBP Adopted a very short “3 day SBP discount rate” as a

major policy instrument.
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 Discount rate

The adoption of “3 day SBP discount rate” responded to

demand pressure in the economy and resulted in
 Increase Monetary liabilities

 Increase Monetary Asset.

 Growth in Currency.

 Growth in Private sector income.

 Growth in National income.

 Growth in Government borrowing.

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 CURRENT MONETARY POLICY
State bank of Pakistan announces monetary policy every
second month. The objective of monetary policy of 2019-20 is
keeping high interest rate to reduce money supply in the
market to control inflation.
It’s focus is demand contraction and has ignored the supply
side of economy.
Monetary policy determines the behavior of the price level
over the long run. Monetary policy usually effect rate of
inflation over a more extended period.
The inflation cant be controlled by only monetary policy
Monetary policy should also encourage production/Supply
side of economy
No inflation is bad some inflation is good for economic
performance
The cause of high interest rate is high inflation but we 18

need inflation to achieve growth and overcome stagnation.

 Rupee-Dollar Parity

The depreciation of Pakistan currency during 2019 resulted

in increase in prices, negating the impact of high interest rate.

Impact of monetary tightening for decreasing inflation was

hardly achieved.
Core inflation still being high fluctuating between 8-12%.
high rate of interest how ever has helped country to attract
hot currency and positive response to floatation of foreign
currency bonds.

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 Cconsumer
Price Index
CPI is still above its annual target of 6.5% due to the following factors
that destructed the impact of monetary tightening

1) Food prices remained volatile due to supply destruction

2) IMF conditionalities of removing subsidies on electricity and gas
resulted in price increase
3)Despite reduction in Fiscal deficit, fisscal pressure resulted in
greater State Bank borrowing
4)Heavy borrowing from commercial bank crowding out private sector
borrowing for long term investment as bank find it risk free to park
their funds in gov security rather then lending to risky private sector
5) Lower than expected foreign inflows

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 CONCLUSION
The current monetary policy appears to be reducing the excess Demand
Pressure from the economy, that is targeting inflation but at a cost of very
slow economic growth.

The higher interest rates on competitiveness and/or growth are

negatively affecting industrial growth

Monetary policy alone can not control inflation until & unless there is a
proper monetary management

Government should limit their borrowing & should borrow money from
SBP instead of borrowing money from commercial banks, because
borrowing money from SBP results cheap agreement
The State bank should have taken balanced approach of encouraging
private sector investment to keep the cost of investment and doing
business low and boost supply and thereby keep prices under control.

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