KARACHI - The State Bank of Pakistan (SBP) Friday cut its key policy rate by 150 basis points (1.5 percent) to 10.5 percent, to be applicable from August 13.

The bank last changed rates by an equal percentage when it made a 150 basis point cut on Oct 8, 2011, bringing the benchmark rate to 12 per cent.

Unveiling the Monetary Policy Statement (MPS) for the next two months at a press conference at SBP Learning Resource Centre here, SBP Governor Yaseen Anwar said that bank’s central board in a meeting he chaired the same day had decided to reduce the policy rate.

He said increased remittances from overseas Pakistanis and reimbursements from the US for Pakistan’s assistance in the war against militancy had helped the country’s foreign exchange reserves.

But the governor warned that national economy was still facing difficulties and the protracted energy crisis was the major reason of this “unenviable equilibrium of high inflation and low growth”. He noted that declining trend in private investment expenditures is continuing while strength of the balance of payment position remains contingent upon foreign financial inflows due to “weak fiscal fundamentals”.

Yaseen also questioned excessive borrowing by the government to overcome financial deficit. He said the pace of increase in domestic debt is also considerable and uncertain global economic conditions in the Eurozone and the US do not inspire much confidence either.

He said the recent receipt of Coalition Support Fund (CSF) will provide some cushion to the FY13 budget, but “concerted efforts to bridge the gap between revenues and expenditures through structural reforms are necessary to bring monetary stability and economic growth on a sustainable basis”.

The governor said the bank had decided to give “relatively higher weight” to private sector credit and investment, given that inflation is projected to rise slightly above the target during the current fiscal year, which runs until June 30, 2013.

In this constrained environment, Yaseen noted, the impact of monetary policy has become limited; whether it is in terms of direct effects of interest rate changes or broad influence on expectations in the economy.

“Nevertheless, the State Bank of Pakistan will continue to play its required role in nudging the macroeconomic outcomes whenever there is relative ease in some of its core concerns. For instance, there has been some deceleration in inflation, which has improved its outlook. Similarly, the receipt of much delayed CSF has eased, on the margin, the fiscal and external sector constraints.”

The governor said the average CPI inflation for fiscal year 12, at 11 per cent, was well within the target of 12 per cent for the year and on the lower side of SBP’s earlier projections. The main reason for this moderation in inflation is a collapse in real private investment, indicating a structurally weak economy.

However, he noted that inflation continues to persist in double digits. This persistence is primarily due to entrenched expectations of inflation remaining high. It seems that key drivers for this expectation are continued fiscal borrowings from the SBP despite legal restrictions and feared depreciation of exchange rate even with a modest external current account deficit.

SBP governor emphasised that the real focus would need to be on the prospects of financial inflows so that the economy can build foreign exchange reserves to meet the rising debt obligations in the next few years.