The SBP’s rising credibility issue

The State Bank of Pakistan has a growing credibility problem. For the past several months, Pakistan’s central bank has been chasing an elusive inflation target. While justifying an evolving near-term policy stance, ranging from dramatically ramping up rates to justifying negative real interest rates, the SBP has consistently argued one thing: medium-term inflation is likely to decline to a range of 5-7 percent. In addition, the SBP has gone from arguing that the 2022-23 budget was inflation neutral to arguing that the recently passed mini budget has lowered the inflation outlook.

Below are some quotes from the SBP’s Monetary Policy Statements with regards to its medium-term inflation outlook:

January 2020: “The MPC also viewed the current monetary policy stance as appropriate to bring inflation down to the medium-term target range of 5 – 7 percent over the next six to eight quarters.”

January 2021: “As a result, inflation is still expected to fall within the previously announced range of 7-9 percent for FY21 and trend toward the 5-7 percent target range over the medium-term.”

July 2021: “As a result, inflation is still expected to fall within the previously announced range of 7-9 percent for FY21 and trend toward the 5-7 percent target range over the medium-term.”

January 2022: “However, during FY23, inflation is expected to decline toward the medium-term target range of 5-7 percent more quickly than previously forecasted as demand-side pressures wane faster due to the Finance (Supplementary) Act.”

The SBP has also changed its position on the inflationary impact of the budget in recent months. In July 2021, the central bank argued that “the FY22 budget is expected to be broadly inflation-neutral as most tax rates have been left unchanged.” In the January 2022 statement, however, the central bank argues that “the enactment of the recent Finance (Supplementary) Act, 2022 represents significant additional fiscal consolidation compared to the budget and has lowered the outlook for inflation in FY23.”

The central bank’s contradictory language is not the only issue here. The SBP governor argued in a television interview that the mini budget will “give a contractionary impulse of around 1 percent of GDP.” The central bank’s presentation also made a similar point, showing that the primary deficit would decline by about 0.5 percent of GDP. This is an interesting point to make, mainly because the finance minister has argued, both in parliament and outside, that the mini budget’s withdrawal of tax exemptions was about documenting the economy, not taxing the citizens of Pakistan.

The central bank’s latest inflation outlook also conveniently ignored the fact that “the seasonal decline in CPI during December is a well-established phenomenon, attributable to arrival of fresh winter crops of vegetables and fruits.” It also ignores that the wholesale price index is on a tear, indicating that inflation is not likely to moderate for the foreseeable future. Add to this the fact that folks who keenly follow the agriculture sector are warning of missed wheat outputs and a negative impact of fertilizer shortages; meanwhile the monetary policy statement does not mention this risk and the central bank’s presentation argues that “agriculture input conditions broadly remain supportive for sowing of Rabi crops.”

A poorer than expected wheat output is not only likely to increase inflation, but also increase pressure on imports and by extension the current account deficit – global commodity prices are stubbornly high and the ongoing crisis in Ukraine is likely to add fuel to the fire. But somehow this is not a risk as far as the SBP is concerned.

Some may argue that the medium-term target, which the SBP has been chasing since at least January 2020, has been unattainable due to supply-side shocks caused by the pandemic, which have led to cost-push inflation around the world, including Pakistan. That is a fair argument. However, if this argument is true, then one must ask: why is the central bank arguing that “demand moderating measures are gaining traction and have improved the outlook for inflation?”

As the above quotes from the central bank show, the SBP has been chasing an elusive medium-term inflation target. During this process, it has evolved its policy positions drastically, using various means to justify its policy response. It almost seems as if the bank makes a decision and then goes to find reasonable justifications for its actions. While the justifications may make sense in isolation, reading the bank’s historical statements makes one scratch their head. 

We are all dead in the long-run, and perhaps the SBP’s logic is that those reading its statements closely will all die before they can ask the SBP about when it is going to finally achieve its medium-term inflation target.