Up to100bps cut in key rate likely

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KARACHI: State Bank of Pakistan (SBP) is likely to cut interest rates by up to 100 basis points on Saturday because of lower inflation, analysts polled by Reuters said.

Six out of 12 polled analysts expect the State Bank of Pakistan, due to announce monetary policy for the next two months, will trim the key policy rate by 50 basis points to 13percent, while the other six anticipate a reduction of 100 basis points, to 12.5 percent.

In July, the central bank unexpectedly cut the rate by 50bps to 13.5 percent.

Lower inflation and improvements in the current account deficit have given the central bank room to cut. The reason for a rate cut is "simply inflation-targeting," said an analyst.

In September, annual consumer inflation was 10.46 percent, compared with 11.56 percent in August. Analysts expect inflation to ease until December, due to a high base effect, but say itcould rise again to 13 percent from January.

However, risks remain, particularly over the balance-of-payments.

The current account deficit narrowed to $189 million in the first two months of the fiscal year, July and August, from $1.016 billion a year earlier.

But the government opted out of going for a new loan from the International Monetary Fund to extend one that ended Sept.30. There is concern that foreign aid and international loans could dry up because of tension in US-Pakistan relations.

In 2008, Pakistan agreed with the IMF on an $11 billion, three-year package. But only $8 billion was disbursed before the programme was halted in 2010 due to slow implementation of fiscal reforms. Islamabad has to start repaying the loan in early 2012.

With a cut in external funding and looming debt repayments, analysts expect pressure on the current account deficit and foreign exchange reserves.

Pakistan's foreign exchange reserves hit a record $18.31billion in July and stood at $17.35 billion as of Oct. 1.

The government's budget deficit widened to 6.6 percent of gross domestic product for 2010/11 fiscal year, compared with the earlier estimates of 5.3 percent.

If the government is not able to cut its subsidies, it would have to borrow more from domestic banks, so more money would be injected into the system, fuelling inflation. (Reuters)