Working Of Monetary Policy In Pakistan Economics Essay

This chapter analyzes the working of pecuniary policy in Pakistan over the period of 1950 to 2010 and fulfills the first aim of the survey of critically analysing the working of pecuniary policy in Pakistan.

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3.1 Introduction

Until the terminal of 1980s despite the major displacement in policy stance by the economic directors the economic system of Pakistan performed rather good ; in the 1970s shifted to a nationalized economic system from a private sector led economic system in the 1960ss and in the decennary of 1880ss a displacement towards liberalisation, deregulating and denationalisation. Pakistan recorded the lowest GDP growing in South Asia in the decennary of 1890ss and there were besides the old ages in which a series of accommodation and stabilisation reforms experienced by Pakistan. There were some marks of betterment in macroeconomic indexs towards the terminal of the 1890ss. Yet this betterment does non prevail for long period. Due to high financial and external sector instabilities, unsustainable GDP growing, high unemployment and poorness degrees, high sum demand the economic system of Pakistan has ever remained under emphasis. The undermentioned graph shows the growing form of existent GDP of Pakistan from 1970-2010

Figure 3.1 GDP Growth Rate of Pakistan 1970-2010


As written in the SBP Act of 1956 the aim of pecuniary policy in Pakistan is to accomplish the marks of rising prices and growing set by the authorities, yearly.

The transmittal mechanism of pecuniary policy refers the working of pecuniary policy that affects existent and nominal variables through a figure of channels together.

Figure 4.2 Working of Monetary Policy in Pakistan

The aim of higher economic growing and macro-economic stableness is achieved in Pakistan by the working of pecuniary policy in coordination with the financial policy. The authorities supervised the pecuniary state of affairs of economic system through the State Bank of Pakistan ( SBP ) .

Under the jurisprudence four major maps has to execute by the State Bank of Pakistan ( SBP ) :

Ensure soundness of the fiscal sector.

Growth and monetary value stableness maintaining.

Exchange rate prudent direction.

Payment system Strengthening.

Broadening surplus to fiscal sector.

Harmonizing to the survey of Muhammad Farooq Arby and Muhammad Nadeem Hanif[ 1 ]throughout the period of 1964-65 to 2008-09 the pecuniary and financial policies performed independently and between the two policies few cases have been there of coordination and before and after the constitution of Monetary and Fiscal Policies Coordination Board in 1994 there does non look any difference in the behavior of financial and pecuniary policies. The following tabular array shows the distribution of old ages in which coordination was observed into political and SBP governors ‘ governments and gives some interesting penetrations in behaviour of the two policy establishments.

Table 3.1 Case of Coordination of Monetary Policy and Fiscal Policy

Distribution of cases of coordination in different governments


Entire Old ages in a Government

Old ages of Coordination

political governments
















SBP Governors*

Mahbubur Raschid



Gulam Ishaq Khan



S.Osman Ali



A.G.N. Kazai



V.A. Jafarey






Muhammad Yaqub



Ishrat Hussain



Shamshad Akhtar



*SBP Governors with three or more old ages of service have been included.

From the tabular array it appears that by and large in military governments, the two policies had coordinated moves ; this could be one of the grounds for better economic public presentation, at least in footings of growing and macroeconomic stableness, during such governments.



Monetary policy was used to rectify external balances in the economic system in the decennary of 1950ss. During the early 1950ss to forestall inflationary inclinations in the economic system the tight pecuniary policy was followed by the authorities. But there was an addition in the money supply because of shortage funding.


During the 1960ss the phenomena of pecuniary enlargement continued ( yet in the late 1950ss the money supply growing rate was slowed down ) . Increase in bank rates, liquidness ratios, hard currency modesty demands, the infliction of recognition ceiling and abolishment of recognition quotas etc were the chief steps due to private investing and growing of GDP ( 6.8 % in 1960s ) rapid additions. In 1965 and 1966 because of harvest failure and struggle with India the money supply is restricted in the economic system by the authorities to antagonize rising prices. Though, for rectifying the financial instability the authorities was forced to fall back to shortage funding because of cut in assistance flows and heavy defence outgos. During this period it is of import to indicate out that rising prices rates stayed low ( 3.8 % , one-year norm ) . It was because of stairss taken by the pecuniary governments and of betterment in the economic system.


In early 1970s there was a important alteration in fiscal landscape of the state as it was altered with enlargement of public sector development finance establishments and nationalisation of domestic Bankss.

During the 1970ss, devaluation of rupee and Internal and external dazes resulted in higher pecuniary enlargement and slow growing of the end product lead general monetary value degree to increase. The money supply in the economic system was increased because of addition in the private and public adoptions. Assorted steps were adopted by SBP to command the money supply but attained partial success in this respect.


The 1980s began with shortage funding largely through bank beginnings and external adoptions. And because of this attack external liability increased and it besides conveying rising prices in the economic system ( i.e. 12.5 % in the old ages 1981 and 1982 ) . Therefore, during the period 1983-90 as a chief beginning of financing the public shortage non-bank adoptions resorted by the authorities. In the 1880ss on history of debt crisis the move was justified and besides to forestall rising prices. Because of this policy, during the period 1983-90 rising prices kept under control i.e. 6.0 % on norm. The authorities was forced to do a hesitating move because of the deficit of foreign loans and deficiency of domestic resource mobilisation, for extra financess from the World Bank on behalf of the structural accommodation loan ( SAL ) programme with terrible conditions.

It became rather clear that aims of national socio-economic were non being met or sought to be achieved by Nationalization by the terminal of 1980s. Alternatively nonbank fiscal establishments and the predomination of public sector in banking along with direct control of pecuniary policy instruments were extremely responsible for fiscal inefficiency, impairment of assets quality, private sector herding out, and lifting of fiscal establishments exposure.

A reform plan was initiated in this position to cut down the instill competition and market cleavage, and exchange over to comparatively more efficient pecuniary and recognition mechanism that is market-based, at the terminal of 1989.


In the 1990s, assorted fiscal reforms were introduced by the authorities through the pecuniary direction market-based instruments. The chief characteristics of these reforms comprises of addition in modesty demands, mandate to set up private commercial Bankss, commercial Bankss denationalization, heightening SBP fiscal liberty, hiking up the commercial loaning rates, reforms for recognition control and capital market, secondary markets development in authorities securities, etc.

In the period 1990-96, 32 % of the entire shortage was financed through Bank adoptions that are an of import beginning of financing the budget shortage and those beginnings formed 2.9 % of GDP. This kind of shortage funding affected pecuniary enlargement speed and besides boosted up the rate of rising prices to 10.6 % , greater than one-year norm of 1980s i.e. 7.3 % . As a consequence of fiscal reforms and the demands of the non-bank debt retirement of authorities soared up the bank adoptions. Some non-bank adoption instruments were suspended with the debut of fiscal reforms and resulted in lesser handiness of financess. For adjustment of the financial shortage domestic non-bank adoptions have mostly been used because this tendency has been reversed in recent old ages. A policy of retiring the debt borrowed has besides followed by the authorities through the banking system.

As compared to 1980s, during 1890ss there is immense addition in the stock of money. It has grown up and stands up at changing rates about four times higher than that of the predating decennary. During the 1990s the money supply mean growing rate has been relatively higher than of 1950s and 1980s but to some extent at same degree with of 1960s.

Table 3.2 Monetary assets in Pakistan

Pakistan Monetary assets

( one-year norm )







Money Stock A ( Rs billion )






Growth rate ( % )






Beginning: Economic Survey of Pakistan, Various issues

2000 and onwards

Significant advancement has made in the betterment of wellness and soundness of the banking and fiscal sector in Pakistan over the last two decennaries. In response to an spread outing economic system turning funding demands and to the fiscal sector reforms Pakistan fiscal sector has turned into a more dynamic and progressive faculty of the economic system in this period of revolution. Integration with international fiscal markets has stated in Pakistan ‘s fiscal system in response of fiscal globalisation turning demands.

In FY05, from being loosely accommodating to one more aggressive pecuniary policy fastening procedure has began. Inflationary outlooks raised by the determination of the authorities to raise the freezing on domestic POL monetary values that has forced to a more aggressive pecuniary policy tightening in December 2004. A tight pecuniary policy stance continued by SBP by addition in the Statutory Liquidity Requirement ( SLR ) , the Cash Reserve Requirement ( CRR ) and thrice elevation of the price reduction rate during FY08. At different phases of the economic system with varied magnitude the impact of the liquidness direction and tight pecuniary stance translated into an addition in involvement rates. During Jul-Apr FY08 an addition of 97 footing points is witnessed because of cutoff in the 6 months T-bills i.e. 9.9 per centum. Similarly there is an addition of 77 footing points and 63 footing points in the 6 months and 12-months KIBOR that is to 10.38 per centum and 10.71 per centum severally.

The Annual Credit Plan ( ACP ) is abolished by the SBP in order to avoid policy signals directing out ambiguities and in betterment of pecuniary policy effectivity. With rising prices mark of 6.5 per centum and existent GDP growing mark of 7.2 per centum SBP had assumed that the wide money ( M2 ) growing should hold grown by 13.7 per centum for 2007-08. During July 2007-2008 money supply growing slowed to 9.0 per centum compared to the corresponding period of FY07 that was 14 per centum. High authorities adoptions for budgetary support additions net domestic assets ( NDA ) of the banking system that affects the M2 growing in the economic system. During financial twelvemonth 2007-2008 an enlargement of Rs656 billion has registered of the NDA of the banking system compared with last twelvemonth same period enlargement of Rs395 billion. For funding budgetary support and trade good operations the net bank recognition amounted to Rs423 billion against Rs185 billion to the authorities in the same period. for trade good operations Credit to authorities compared to a contraction of Rs26 billion expanded by Rs60 billion, while recognition for budgetary support to authorities increased to Rs362 billion. During this period a net contraction of Rs289 billion compared to an enlargement of Rs84 billion has registered by the NFA of the banking system. Delaies in the issue of GDRs, many-sided establishments lower influxs, autonomous bonds, on history of logistics support lower than expected grosss, foreign investing diminution and for back uping a portion of oil payments determination of SBP by supplying foreign exchange even when the oil monetary values are at their historic high degrees are the grounds attributed towards the contraction in NFA. As compared to 12.2 per centum Credit to private sector in financial twelvemonth 2007 it has grew by 14.9 per centum during July 2007-May 10, 2008. In the recent acceleration of recognition growing in private sector these factors were lending ( I ) due to higher input costs rise in working capital demands, ( two ) OMCs and IPPs differential claims of settling monetary values originate the demand for span funding ( three ) in the month of March 2008 the addition in fixed investing.

The SBP pursued a inhibitory pecuniary policy throughout FY09. From the 2nd one-fourth of FY09, the financial stance of the authorities besides became contractionary. This allowed SBP to cut down its policy rate by a nominal 100 footing point. The net consequence of this policy rate diminution is significantly more hushed than the impact of the SBP ‘s liquidness injection to forestall bank failures in the first one-fourth of FY09 when the policy rate was raised to 15 per cent. The committedness to the chase of a tight pecuniary policy even during the panic period of late 2008 was underlined, both by the 200 footing point addition in the policy rate and the SBP ‘s positive response to the close 25 per cent depreciation of the rupee ( in trade weighted footings ) .

The one-year mean CPI rising prices for FY09 was 20.8 per cent as against 12 per cent for FY08 — – the SBP ‘s inexplicit rising prices mark for FY09 had been 11 per cent.

In nominal footings GDP grew by 25.1 per cent in FY09 — – but M2 growing was restricted to 9.2 per cent. The fiscal intermediation ratio ( M2/GDP ) is lower than at any clip since FY2002. Reserve money growing fell from 22.6 per cent in FY08 to merely 1.9 per cent in FY2009.

The chief factor behind the slowing of M2 growing was the prostration in private sector recognition growing from 16.8 in FY08 to 0.7 per cent in FY09. NFA of the banking sector continued to contract in FY09 as it had in FY08. Net bank adoption for budgetary funding was halved in FY09. M2 growing during FY09 would hold been much lower and reserve money growing negative, as the SBP one-year study shows.

Private nest eggs have declined from 15.1 of GDP in FY08 to 13.2 per cent in FY09 and entire investing as a ratio of GDP has fallen from 22 in FY08 to 19 per cent in FY09. adequateness ratio deteriorated aggressively in FY09.

Non-performing loans ( NPL ) rose 65 per cent in FY09 and in June 9 were approximately Rs400 billion. Net NPL increased by Rs85 billion to Rs118 billion by June 2009. The infection ratio more than doubled for most Bankss. The NPL loan ratio rose from seven in FY08 to 11 per cent in FY09. The NPL to loan rates rose by about two-thirds with regard to consumer funding.

The spread between sedimentation and loaning rates was every bit high as 8.2 per cent in the group of foreign Bankss in FY09.

The tabular array given below shows the deep penetration of the pecuniary policy of Pakistan from the period of 1991-2005. In this period the pecuniary policy has outstanding swings from easy to tight and tight to easy constabularies.

Table 3.3 Stance of Monetary Policy


The undermentioned graph shows the complete stance of pecuniary policy over the survey period of 1950s to 2010. In the graph values nearing 1 shows the period of tight pecuniary policy while the values possessing -1 show the old ages in which pecuniary policy was soft.

FIGURE 3.3 Graph of pecuniary policy stance 1950-2010


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