Rising economic, political uncertainty fuelling price hike, finance ministry says

ISLAMABAD: Amid expectations of a further upsurge in already elevated inflationary pressures in the coming months, the government has identified various economic factors as well as “rising economic and political uncertainty” as responsible for fueling price hikes in the country. 

“Inflation is expected to stay at an elevated level owing to market frictions caused by relative demand and supply gap of essential items, exchange rate depreciation, and recent upward adjustment of administered prices of petrol and diesel. Due to the lagged effect of floods, the production losses especially of major crops have not yet been fully recovered. 

Consequently, the shortage of essential items has emerged and persisted. Inflation may further jack up as a result of the second round effect. Another potential reason for the rising price level is the political and economic uncertainty,” the Ministry of Finance stated in its monthly economic report for March 2023 released on Friday.

There are expectations that the CPI-based inflation was approaching to 35% mark for March 2023, which was going to be released today (Saturday), against 31.5 percent for February 2023. The Monetary Policy Committee (MPC) is scheduled to meet on April 4, 2023, with the possibility of an upsurge in policy rate from 20 percent o 22-23 percent. 

Despite challenges and uncertainties, the Ministry of Finance report says that the economy is showing continuous signs of resilience as depicted through contained fiscal and current account deficits during the current fiscal year. “Furthermore, Pakistan is currently confronted with a shortage in external liquidity. Through demand management policies, the government is trying to limit the current account deficit, which will not transfer further pressure on dwindling reserves,” it said.

Moreover, the government is firmly inclined to complete the IMF’s EFF programme, which includes necessary policy measures and will bring additional relief to the financial account of the balance of payments. The policy measures are intended to bring expenditures more in line with the income generated within the country.

On the fiscal front, the government is pursuing fiscal consolidation to reduce the overall fiscal deficit through expenditure management, austerity measures and revenue mobilization.

The report says that the economic distress resulting from the delay of the stabilization programme has exacerbated the economic uncertainty due to which inflationary expectations have remained strong. Despite SBP’s contractionary monetary policy, the inflationary expectations are not settling down. Moreover, bulk buying during Ramazan may cause a demand-supply gap and result in the prices of essential items escalating. However, the government is well cognizant of this and has already taken on board all provincial governments to ensure a smooth supply of essential items.

Inflation in March may remain in the upper bound as observed in February. Recent monetary policy restrictions and efforts towards fiscal consolidation along with the administrative, policy and relief measures are expected to ease out the inflationary pressure by the end of the current fiscal year.

The average MEI during the first 8 months of the current FY is indicating a further slowdown in domestic economic activities. This seems to be driven by a lack of industrial dynamism, accelerating inflation, which erodes the purchasing power of consumers and investors and is also illustrated by negative growth in exports and imports.

According to BOP data, the trade deficit in goods and services declined significantly by 30.8 percent on a YoY basis; from $2.6 bn in Feb 2022 to $1.8 bn in Feb 2023. However, on an MoM basis, it increased marginally to $1.8 bn compared $1.7 bn in Jan. Exports of goods and services decreased marginally on an MoM basis to $2.77 bn as compared to $2.8 bn in Jan. On YoY basis, it declined by 19.2 percent. Imports of goods and services have continued to contain and decreased by 24.2 percent on a YoY basis.

Remittances increased by 5.0 percent on a MoM basis to $2.0 billion in February 2023 as compared $1.9 billion in January 2023, due to an improved situation after narrowing down differences between the inter-bank and open markets, subsequently allowing adjustments of the exchange rate. Another factor which contributes mainly to current account improvement for February is a balance on primary income, which is contained by $200 million.

Accordingly, the current account deficit contained to $74 million as compared to $230 million in January 2023. For March, it is expected that exports and imports will remain at current level due to slow growth in the major trading partners and contained domestic economic activities.

However, remittances will probably further improve due to positive seasonal and Ramazan factors. Taking these factors into account, as well as other components, the current account deficit is likely to remain on the lower side.

The government is pursuing fiscal consolidation to reduce the overall fiscal deficit through a combination of expenditure management and revenue increase. These measures are paying of in the form of improved fiscal accounts. The fiscal deficit has been reduced to 2.3 percent of GDP during Jul-Jan FY2023, down from 2.8 percent of GDP in the same period the previous year, while the primary balance is in surplus due to a significant decline in non-markup expenditures.

On the revenue side, FBR tax collection currently growing at 18 percent despite unprecedented challenges due to a slowdown in economic activity and import compression. However, the current performance indicates the resolve of the government to optimize the revenue collection and to achieve the full-year target.

Fiscal consolidation is at the top of the government’s stabilization agenda to tackle a sizeable fiscal deficit. With prudent expenditure management and an effective resource mobilization strategy, it is expected that FY2023 will observe a substantial reduction in the overall fiscal deficit as a percent of GDP.