06-16-2006, 01:30 AM
Dr. Shamshad Akhtar, Governor, SBP
Views on Federal Budgets-2006-07
Fiscal slippages require monetary adjustments
Dr Shamshad Akhtar speaks on Budget â I and II
This is the first budget I am associated with in the Government and by all stretch of imagination it is a very interesting budget. It has a combination of what I call the softer face to it but at the same time it tries to retain the spirit of fiscal prudence and stability so in that sense I find it an interesting blend.
What is impressive about this budget is that it very caring pro-poor and relief-oriented budget at a time when this is clearly a social concerned regarding the price stability question but also regarding the people have been concern about their living standard and incomes, so it tries to combine all the faces in a very effective way while as I have said maintaining the overall fiscal stability directions to a larger extent.
So I am very upbeat about it, and I think it's a budget which is full of several elements, a few key features which I like to definitely highlight which are pretty striking.
One is that we have fiscal deficit increment there of about 0.3% of GDP relative to last year, so there is no doubt that the core deficit excluding the earthquake is somewhat higher than last year. But this 0.3% increment is achieved while accommodating a lot of interesting dimensions.
First of all these have been an unprecedented increase in this development expenditure for both the federal Government and provinces. It has been achieved by expanding the provincial share in the resources, which is again a major and steep increase, it involves a fairly decent program of relief measures and subsidies, which touches virtually every segment of common man starting from salary class to non-salaried and also it tries to en-cash upon the existing trend of restrains on current expenditure on taxation side as you may have noticed what is interesting is that the Government is aiming to have higher growth in the taxes and the percentage increase in the tax revenue is going to be above the nominal GDP increase.
So this is going to be inheritantly higher buoyancy captured of the taxes also it has new revenue measures about 0.3% of GDP or about Rs 25 billion which is partly offset by relief measures.
I read S&P report very quickly while coming to this place, and I think there is a misunderstanding I see in the figures that they have quoted. Let me first acknowledge and as I have said upfront that there is no doubt that you exclude the earthquake part, which should be set aside because it's an exogenous event hit as and we have to accommodated its expense but if you look at the core deficit excluding the earthquake you do find that there is an increase of 0.3% and it has been accommodate while we are expending massively the development expenditure for the right reason it is very important for us to increase our development expenditure because our GDP/ Investment ratio is very low and it has been on a declining trend, so we have to reserve that and for that we will have to increase public investment and for that if a slight increase in fiscal deficit of manageable increase then we will have to live with it.
Now where the confusion arises I need to clarify it also with S&P, in our Fiscal Responsibility Act it was clearly mentioned that the Government needs to ultimately reach revenue surplus, so if you see the underline factors of this 3.7% of GDP fiscal deficit the revenue deficit is actually positive and you have a primary surplus or 1.4 or 1.5 percent, besides the revenue deficit has also been reversed now we have revenue surplus.
I judge the direction of the fiscal policy in a combined way. I don't look just our number, I look at what are the underline qualitative dimensions of this budget, and of course fiscal deficit/ GDP is very critical. It has to be on a down trend and it is regrettable that it has increased but the compulsions are currently such that we need to raise our development expenditure and in order to accommodate the development expenditure our fiscal deficit has increased.
SUBSIDY First we discuss the qualitative aspect of budget and as I have tried to point out while fiscal deficit/GDP ratio may not have declined in a persistent way and there is a little reversal in course, qualitatively it is an interesting and important budget, because we have increased development expenditure in GDP.
So, if you consider the underlined factors there has been a massive increase in the social expenditure in fact bulk of the increase in the development expenditure goes into areas, one on increase in social expenditures and two in the increase in the infrastructure expenditure and these are not only growth-oriented element of the development expenditure but they are also trying to support the social uplift programs.
It deals with education, health, poverty alleviation and off course on the sideline we have relief measure for the poor. So I think qualitatively it as a very rich and interesting budget.
Whether it will get our fiscal sustainability a question. I think the only point I would like to submit here that both the Government and all the players with the government have to make sure that going forward we don't let the fiscal discipline drift at all. So, I think right now we are managing with a fair degree of fiscal prudence but we should not indulge in excessive spending, which will take us away from our prudence, that is very critical.
5% EXCISE DUTY ON BANKING SERVICES, WHY SHE ACCEPTED? It was very long debated that our tax base is fairly narrow in Pakistan and there is a need for Pakistanis to start looking beyond trying to tax same base again and again.
So, when the question came up, how do you broaden the tax base, one is of course to bring under net a lot of people who are outside the net of taxation system and among other things, it so happens that the financial services industry along with agricultural sector and a few other areas are either under tax or they outside the band of tax, so I think what is critical for Pakistan's fiscal sustainability is the need to tap all the avenues of taxations system and it so happens that financial services are one area which has not been effectively tapped. Services sector have to be taxed.
All the services sectors should be taxed and ultimately should be taxing the services of lawyers, doctors and so forth. In every country you have taxes on services sector, so financial services seem to be a much more amicable sector to be tapped.
As the nature of the tax which is acceptable or not, there were two options we had, either we have to tax transactions or we tax the services of financial sectors, and I personally believe, taxing the transaction is not a very healthy way of taxing the financial sector and in relative terms it's better to tax the fees and services by the non fund sources, so that how this taxation is designed, its not aiming to tax the transaction; we are not taxing the loans, which are more amicable to pass on to borrow but we are taxing the services fee, of the services like bill of exchange letter of credit and so on.
It is a different type of taxation that I am talking about and I can assure you every where else it has been done in the world, I mean, I have just come from the Philippines and out there all services are taxed. So Pakistan is not an unusual country.
INFLATION First of all we have to recognise that the inflation rate in any country is not just decided by target given to the central bank. It has to be a combined effort of both Government and central bank, because price stability is an important goal of the central bank, but obviously, we know in Pakistan the Government plays an important role in signalling this area.
Now the fact that we have 6.5% target is something that I have agreed to not because it is achievable or not achievable. I have agreed to it because it is needed in Pakistan.
You know no matter wherever you go within the city everybody turns around and tells me we need to lower the inflation. So my acceptance of 6.5% is a challenge, which is a very difficult challenge.
I acknowledge, but if something I feel public wishes to move forward with, whether we succeed in it or not would depend at the end of the day on two factors principally and I think you have to understand that are all operate on the basis of assumptions and events they evolve and two major assumptions are real sector performance should be along the line we have projected if the GDP grows by 7% and underline growth in agriculture and industrial industry is line with what has been projected then we will be OK.
Why because then there will be adequate availability of agricultural and industrial products in the market not to have shortage not to have inflationary pressure because after all 40% of our CPI constitutes food.
The bottom line is if our real growth is performing in line with our expectations and productive sector are moving OK, then it means there won't be shortages in the system and as long as we don't have shortages in the system we want to have what I called the food price inflation.
Now the second dimension is within the domain of the Central bank but again we are not the only... I mean we inherit the impact, we can't tackle the problem unless we attack the source of problem and the second component we call core inflation, which excludes all the volatile components, food and energy, how do we control that, we are.
OIL PRICE Oil price is a global phenomenon and I can tell you through implicit and explicit measure, we are attempting not to pass the full burden of oil prices. Central bank involvement in this regard is to the extent that it provides the foreign exchange up front to really finance the oil imports and that it has a very positive impact, because we don't stir the market but letting the payments crowed out at the end of the day.
So it has a positive impact of its own kind both on foreign exchange availability and all that. But coming back to my other point which you asked about the challenge given to central bank and I think you need to understand because the central bank is accountable to that.
First, I mentioned it is linked with growth rate and second point is that fiscal deficit and its financing has to be in line, what has been projected in the budget and this is very important to understand the reason being, first of all the fiscal deficit is above last year level and secondly its financing, it has to be in accordance with the desired that we have currently and slippage then it will create problems for us in controlling inflation and I can explain this point with little bit some of the arithmetic here.
Budget has announced 140 billion, but actually it's 120 billion borrowing which excludes the operational shortfall, so government as expected, it will borrow from central bank up to 120 billion.
How does it estimate that number? It is assuming higher flows from external financing or it is also expecting that the fiscal deficit will be contained and the recurrent expenditure will be contained. If all these realise, in the external financing we are assuming that official development assistance program funding, quick disbursing will be there.
We are also assuming GDRs follow of $1 billion, another 500 million from dollar or euro bond issue, then we are assuming privatisation proceed from a certain level. Now privatisation proceeds we are assuming about Rs 75 billion.
I personally think it's fairly cautious figure because we have a huge privatisation mandate, but we are careful to include only those privatisation elements, which are possible, but program lending from multilateral development banks of the desire level, raising resources from FDI outside the privatisation dimension, these are important challenges we face.
We will be able to curb the pressure on the central bank financing only if materialised the financing that are have planned for. Coming back to sequences, our experience of outgoing year, it has been a little checker, in many ways, because during the year had tremendous amount of pressure on the bank borrowing but at the end of the day interestingly the government level of borrowing from central bank in net term is lower then original targets.
But what happens that during the year when they are borrowing and graphically it is a steep then the problems arise that our reserve money growth becomes very high on an in term basis and when this happens obviously inflationary pressure on month to month basis become higher.
TIMING OF INFLOWS This is unfortunately disconnected between when you have resources available based on your planning and when you have to spend the money. There will always be a situation of timing discrepancies but this is not a deliberate policy of the government, and I wouldn't even call it fiscal mismanagement. It is just that spending occurs in accordance with the requirements only if we accelerate privatisation upfront.
Then the experience that we had this year will not repeat and I am quite confident, having been associated in some of privatisation debates, as you know the governor is also a member of cabinet committee on privatisation that I feel some speed work has been done for the privatisation of PPL and PSO, which are the two principal items in the privatisation process. If we sell quickly and if we line up other recourses early, within the first half of the fiscal year then it will not happen again which happened this year.
Discount rates were raised in April 15 There is no doubt the raise was from 7.5% to 9% and clearly that steep increase was required to address the issue of massive overhang of four years. So indeed that steep adjustment was required now coming back to other instruments that we have at hand.
Discount rate is not the only instrument central bank has. You are absolutely right that we have CRR and SLR while we have not adjusted the SLR but we are tampering with CRR as and when required and at the time cash reserve requirements are close to 5%, which are the highest we have stipulated. So we have adjusted the CRR sometimes higher and sometimes lower, you should not look at monetary policy rigidly.
Monetary policy is not all about discount rate, monetary policy is about positioning of central bank on a number of fronts, on how it acts, in the message we transmit on regular basis to the financial community, which I do often since I have taken over. I have talked to people, I have talked to bankers about my monetary policy stance, I have tried to explain to them I am watching the behaviour of the credit.
We also have to recognise that we have also adjusted the CRR, which may have gone unnoticed, we have been watching the credit/deposit ratio, which is another indicator we watch. The exposure limit and we have required higher provisioning requirements for certain segments and activities. So all these combination tools are available to us, which we monitor and adjust. They sometime may not be as catchy as the discount rates.
Besides open market operation (OMO), there is a view in the market that OMO has nothing to do with the monetary policy. Financial literacy of financial community as well as public is very important.
They should know what is monetary policy and its access with prices are and second its important to understand that OMO is actually a monetary policy tool and if we fail to understand that then we fail to understand monetary policy dimensions. In OMO the position which we have acquired, we have tried to addressed some old problems faced by our monetary policy.
Back then it used to happen that overnight rate used to go through with huge swings and that used to bring instability. Recent OMOs are strategically positioned by the central bank. (And that is all over the world).
If you see the graph now, volatility has reduced between two percentage points and the two percentage points that I am talking about is the discount rate which is our upper ceiling and below that maximum it has gone down to 7 percent but it is moving closer to the upper limit and that is the signal we want to give that our liquidity management has to be so effective that we do not stifle the market unnecessary to have interest rates going off the roof, hitting a direction which we do not want them to go, we do not want interest rates to unnecessarily go up.
If there is a liquidity constraint the bank can come back and basically at one time in the last few week the borrowing from discount window was close to 250-300 and we let that happen to let the market understand that we do not want reckless borrowing beyond the level we were going and we are watching the lending/deposit ration and that is the monetary policy stance.
This is what I mean about the liquidity management in the system. Our treasury is not sleeping, our treasury is awake 24 hours, it is watching when the market get stifled a lot and I can tell you I talk to my treasury a lot at least 3 to 4 times daily and if necessary during the midnight on the issue.
We watch the market and I closely follow this myself because strategic decisions that I have taken on those OMOs and even the auctions are going to be very important element; how we managed the money supply in the system and how I managed the demand pressure in the system. I would like to reduce the demand pressure when I want to reduce and I need to ease the market when I need to ease it. Because I do not want to stifle the market in an unnecessary way.
If there is a liquidity constrain banks can come back and basically at one time in the last few weeks the borrowing from discount window was closed to 250-300 and we let that happen to let the market understand that we don't want reckless borrowing beyond the level we were going and we are watching the lending/deposit ratio in monetary policy stance.
So I see this an important tool and going forward. I want the public, since yours is one window I would like to approach as I don't speak to the general public every day that I would like to explain very clearly that that they should look at the variety of instruments the central bank is using to manage its monetary policy stance beyond the discount rates and secondly I want the public to understand the nexus between the monetary policy tightening and prices, because some people believe inflation can totally be managed by the central bank as it is important for the public to understand that only one component of inflation central bank can control and there are areas which it can't.
We ultimately are one recipient today of the fiscal position that government takes, if fiscal deficit is higher or on quarterly basis if fiscal requirements are higher then we can do our best by managing those pressures. If there are slippages then there is no recourse but to adjust monetary policy.
We have concern over the assets bubbles. SLR is a different instrument than CRR. CRR technically is a cash reserve requirement. SLR is a totally different instrument, it's not necessarily a monetary policy instrument; in fact it's old fashioned thing to use SLR as a monetary policy tool.
India is adjusting SLR, (this is a favourite hobby in Pakistan). (I have limited patient on India). I have worked six years on India and I think if there is distortion in another economy we don't need to replicate.
We should take a hike just because they are taking we should follow our own policy in effective way and to me SLR is a prudential regulation related to the banks for a different purpose and it is when there is a problem in the banking system.
So it is supposed to be a protection for the depositors and all that so I don't treat that as 100 percent monetary policy instrument.
ASSETS MARKET One of the principal difficulties we face here on assets markets is lack of information. For stock market we do see the data and ticker all the time and Pakistan has developed a lot in this area, thanks to TV channels and other resources.
It's on your finger tip and we have seen the correction on the stock market and this correction will solve some of the problems and fortunately has been qualitatively very good because it has tried to address this problem by taxing the turnovers.
When it comes to real estate the problem we face is that lack of information on the prices of real estate so ultimately database on the real estate has to be created, which is a normal practice throughout the world.
BY DATA, WHAT IS REQUIRED? Basically, housing rents are going up and down movement and buying and selling of real estate property both for commercial and home owners. Any US newspaper provides two information on monetary policy outlook. They provide productivity data, employment and they take assets market data, housing market data.
Unfortunately all these numbers are not available in Pakistan on quarterly or monthly basis. In this area FBS really needs to work a lot and I think the government has recognised this and they are going to make the institution autonomous but till that time we will all be groping somewhat in the dark.
You know we get all the anecdotal information and we don't allow clean lending for these purposes. I mean we have margin requirements for instance for stock lending and secondly we also don't permit real estate lending in that sense.
REAL ESTATE PRICING Provincial government will have to work on this because it's their responsibility everywhere, municipal and provincial government that record and collect data of buying and selling and make it mandatory through their legislation and through their vigilance and they have to have land records and title records this country needs to work on this a lot.
There is honest proportion of population which wants to record. As we are talking in the context of budget you need to analyse. Budget has addressed the area of taxation side, which is a welcome sign. Tax on the turnover, which is another healthy sign. All are positive signs.
Indeed there will be tax aversion and that what my colleges and CBR need to watch and the provisional authorities. But when taxes will be there it will generate revenues and there will be improvement.
TEXTILE INDUSTRY 9% refinance rate, 7.5% from SBP, 1.5% Bank Report. I appreciate the problem textile industry is facing after the WTO removal of quota and liberalisation of WTO while we have benefited from quota-free regime but with the aggressiveness of neighbouring countries to capture textile markets we are somehow more effective now during the recent weeks.
My first response to this whole issue is that the textile industry will have to respond to future requirement, no try to talk about some short-term answers, although short-term problems can be addressed but basically more sustainable approach to develop the textile industry is to go into value addition and stop doing on margins the Vanilla type of exports.
For the value addition we have to see what is the demand, and which markets are there that we can tap, besides the US and Europe where the demand for Pakistani products value addition has value. I find this analysis somehow weaker in the textile industry. This is my first observation, since I am a fresh face on this scene.
Secondly observation is that the manufacturing sector in Pakistan is very much dependent on government policies and government direction and government subsidies and government, so on and so forth, my observation is that its high time that Pakistan, the level of development it has achieved in the industrial sector should start finding private sector solutions to its problems rather then waiting to be on clutches of subsidies and incentives, because they are not sustainable. Temporarily it will solve the problem but it will not do it permanently with these two qualifiers.
EXPORT REFINANCE AND LONG TERM RATE DEMAND If the decision to subsidise exports taken then it's the decision of the government not the central Bank - to the extent of the instrument the Central Bank has power we are happy to execute the decision of the government but the government, will have to finance the subsidy. So ultimately and effectively the design and its cost has to be examined by the MOF and nobody else because they have to see if they can manage it when it comes to the mechanics of the facility as you know export refinance is currently linked up with export refinance rates which is linked up with the rates of treasury bills.
It aligns with 6 month T bills rates because the interest rate first of all for all sectors is market based. The central bank does not set interest rates any more, but it is a softer area of exports that's why it was linked with a benchmark and it a very sensible decision, and that is done because we have Central Bank to provide financing. Central Bank refinance at 7.5% and at 9.00% banks retail it.
The question is are we doing something good yes, we are providing funding which India doesn't provide. India and Bangladesh do not provide export refinance any more whereas SBP in accordance with its legislation still provides export refinance to the sector where the government wants us to do. The government bears the cost, we after all are subsidising explicitly.
The second point is, that we have left refinancing rates unchanged at 7.5% rates despite the fact that T-Bill Rates are at 8.40% not 8.29% any more but I have taken the decision not to adjust it because market is asking for spread 1.5% over refinance. It is important to understand, (for a while) I will not change refinance rates.
Even 6m T-bill rates have moved up, this decision will stay for a while. Now again down to second point is that we have done the competitive analysis the textile industry has submitted their own analysis. We have done our own.
What India and Bangladesh are doing and we are in contact with the CBs so we have the right information. The fact of the matter is that India provides export refinance with prime lending rates 10.25% - 10.40%.
And they qualify it in a way as they do not provide refinancing but they have instructed banks to provide export credit as they wish to depending on performance and worthiness of the exporter, so it's the decision of the Bank but you have to offer credit 2% lower than the prime lending rate - if say 10.50% and you reduce it by 2%.
So they are providing rates at barely 1% point less than at the rate Pakistan is providing the differential - my submission to people to and exporters, when I went to SITE area - I told them we do not look into nominal interest rate. We should look at real interest rates.
Real interest rate in Pakistan is different if we take into consideration average annual inflation rate in Pakistan and if for exports it's 9 percent then effectively you are paying 1 percent assuming 8 percent inflation rate on annual basis.
In India the inflation rate is lower than Pakistan, it's around 5-1/2 because fundamentals are different in that economy, now, the issue is that exporters there are paying in real terms much higher interest rates than Pakistanis are paying in real terms.
It's important to understand that when you consider the viability of the industry we do not look into nominal interest rates but we have to consider real interest rates. Somehow in my debate with industrial and exporting community, out here we consider nominal interest rate whereas the rest of the world considers real interest rate.
About Bangladesh, if you stretch interest rate differential of export credit by any imagination it's only 1 percent difference. Ultimately it's government's decision to (this 11/2 percent refinancing facility that we have over 7 1/2%) picks up the spread and I can tell you the government is very seriously looking into what is affecting the textile sector. I don't know what the decision would be, but if you want to bring it down to 8 percent then 11/2%.
POSSIBILITY OF EQUATING IT WITH KIBOR OR PRIME RATE KIBOR is equivalent to the prime rate also but that it doesn't automatically mean that we should offer 2 1/2% below the KIBOR. If you are trying to trap me into that let me qualify that I don't equate the formulae in that way because we are looking at different situations here. But I think KIBOR can be treated, but there is one difference, maybe I should back trace a little bit KIBOR.
That's not necessary that prime lending rate is around 10% or so at the moment - actually equivalent to Indian rates ie 10.4% or so if you understand the economics then you are close to same thing.
PIB RS 3 BILLION TARGET It's government responsibility everywhere to lay down the reference rate. Any country, which has not succeeded in defining the yield curve and has not succeeded in providing benchmark of long dated government securities, is not able to develop a long-term debt market.
So it is very critical for Pakistan, to continue the issuance of long dated securities - and it so happens that since we have a fiscal gap and we will continue to have higher requirements.
If I were given the option rather than going for bank borrowing, I would go more for non-bank borrowing or achieve a mix blend of the two. Now the issue is obviously when you go for non-bank borrowing from the market for the long-term paper-like PIB then the problem is, its price accounts to the yield curve, and if 12-month yield curve comes to 8.79, which is the rate of T-Bills at the moment, then it is inevitable that the 3-year issue, 6-year, 10-year or 20-year issues will determine its course base on the 12-month benchmark, that is closest you have currently since it is on the T-bill auctioning system.
It is reflective of market prices. Now the thing that at the moment you go more and more to the market with long-dated issue - obviously the market will demand more prices. The government, in its own wisdom feels that it should manage effectively the cost of its debt - and it wants to take its time to reflect on how it wants to borrow from public either through PIB route on NSS or it wants other ways.
But it is very critical from the lesson I have learned and if you go back to the hand book of the public debt that the management of public debt has to be extremely critical.
And I think this is one area, where the government needs to really work further. If you read fiscal responsibility act its very clearly stated that the government should articulate the debt strategy up front in January. And that has to be outlined to the public the level of borrowing, what windows of domestic debt borrowing will be in use - I think this is the area where we are behind and in its absence we'll always have problems with issuance of corporate debt.
Although I was very pleased to see, the way Mobilink has issued TFCs rates, it's a very interesting product, I do not know, whether you have seen - Mobile - it's almost designed on KIBOR plus floating rate so it's a floating rate and I think that is an interesting design along the issues that I have seen in Pakistan and I would encourage more and more companies to start issuing floating debt rate so that they are able to take advantage of the swings in interest rates later on so when the prices goes down.
This is a dilemma in the Pakistan system that there is heavy dependence on banks system for financing products and businesses - it's a good product - one more thing I want to mention for the industry at large is - see when you talk about export financing, it is hard to understand that why the exporters want to continue raising financing from commercial banks why can't our exporters go to the equity market or corporate market and raise their financing from there because there is a lot of appetite of the public for even low yield issue after all the public is investing in deposits, which yields very low returns compared to other instruments. So I think the industry needs to be a little bit more proactive, it should be in the market and raise funds at lower rates.
WHY WOULD BANKERS PROMOTE NSS? I agree with you, if I were a banker I would definitely need more deposits because that is my resources mobilisation efforts. If I am retailing NSS it will be on commission and I am doing it as a side business, if a customer comes to me I wouldn't say forget my deposit and invest in NSS.
NSS attractiveness will be based on return and as government has adjust NSS returns that also will not attract so much flows, frankly, because at the moment products available to public. TFCs type corporate issue and there are some banks that are offering.
Like Meezan Bank, Mahanama Amdani offers 10.80percent, products like that if offers you flexibility to draw on monthly basis on such rate why would somebody go to NSS and hold it for 6 month or 1 year.
ABOUT SPREAD, IS IT SBP RESPONSIBILITY? Indeed, it's State Bank of Pakistan responsibility and we are doing, NSS rate that government has adjusted is really keeping these people of the society and rightly so rates have been increased. So people can make a little bit more money rather then rely only on other instruments.
What we need to do is to ensure that the public knows about this product of NSS. NSS is available through Banks. NSS window is very limited, National Saving Centres are limited in the country if we increase NSS windows, and then people will buy more NSS.
DEPOSITS I think we need to understand deposit rate are not as low as they seem to be. On the average deposit rates they are close to 4.50-4.80, it's not like they are at zero. Is this an adequate level of return (no, not at all). But then it depends on what the appetite of public is in term of the maturity of deposits.
Some people want short-term deposits. Some want long-term time deposit or public should also invest in long-term time maturity deposits, then they will earn higher return but then having said all these things, we are encouraging banks to raise interest rates and I can assure you that I have spoken to Pakistan Banking Association, I have spoken in different domestic forums, there was a newspaper Asia forum to bankers that they need to reduce the spreads.
Somehow because for Pakistan economy its important to lower the deposit because at one end we should not be charging exorbitant interest rate from borrowers and on the other hand we should give some returns to the depositors.
One thing that we are doing in this regard is to mandate the commercial banks to list the interest rates on the deposit they offer. Because when a deposit goes to them they tell them about current Account or monthly schemes, they don't tell them if you keep your money for one year you will earn this kind of return.
So I have asked, mandate both commercial banks and Micro Finance. In a seminar I explained the presidents of micro finance that we will require you through regulation that at the glass door you should display what interest rates are you going to offer on the deposit and what lending you will charge.
Micro finance needs resources more than the commercial banks but micro finance is a soft area to give more on the deposit then you will not be able to price the micro finance delivery but it's a whole different game because micro finance credit, as you know according to latest studies, suggests that micro finance credit is delivered at an interest rate of about 30% to 70%.
We have set-up Micro finance institution, formal ie Pakistan Micro finance network and NGOs. My personal solution to Micro finance Product is to introduce so much competition and give them so much of soft interest structure that are they able to then manage the business effectively, because until there is competition, you will not be able to mobilise micro finance effectively.
HOARDING & EQUITY It's very difficult to borrow from banks and put that money in hoardings or excessive speculation, there will be an element of speculation, but that you know not to the knowledge of the banks.
Perhaps it has been happing in black market, on the sideline, but basically banks lend to sectors and the recording of the data and information do come to us. We can today tell you of 370 billion private sector credit X percentage go to manufacturing and SME and consumer financing.
So the record is by sector and if we feel necessary we do acquire data on individual company, it is very difficult for us to say or judge whether the money is used for hoarding. But at the interest rate at which companies are borrowing it will be very difficult for them to borrow and maintain inventory, as you know there is a cost associated with inventory, and they must be if they borrow for inventory.
PLEDGING COMMODITY We are examining this issue of pledging and by hypothetication against this and it there are issues surrounding it, we will definitely take action against them.
We are not sure about hoarding because the data that we have are by company and that does not tell us there is hoarding or not. (If you have not stolen it how can I say you have stolen).
We need to be proactive about problems, now we are faced with the sugar problem the government is examining all the options to resolve the problem. We have started to import, we have tried to ease the availability of sugar, we have announced to enhance the numbers of utility stores to improve the availability of products, a number of auctions have taken place.
When it comes to borrowing for the sugar industry you know if is not just for Sugar industry, like textile industry would borrow for fixed investment for imports and all that so there is need to distinguish between what Sugar industry is borrowing for fixed investment for inventory for foreign exchange and for imports. It will be clear only after the analysis, how much amount is in hoarding, as you may call it, and how much in inventories and inventories are exceptionally high.
ISLAMIC BANKING There were not many institutions; we had Meezan Bank and one other institution which was almost taken off. You know these banks are doing excellent job; these old banks and they are definitely operating and leveraging at their maximum as well as other equity and instruments.
The issue is that one needed to promote more competition in Islamic finance, we need to broaden the base of Islamic finance because at the moment only 2% of deposit base is with Islamic financial institution, for this we are facing one major hurdle, which is a genuine problem, when we determine their SLR, we have to change the rule a little bit, but for that you need Islamic Instruments for Securities.
In case of bank we allow T-Bills, but government T-Bills are based on interest rate system so we need a specialised instrument, which is Islamic instrument and which can serve as SLR. So this is a genuine hurdle and I have set up a task force to examine the option for it.
In the world you have such instruments and Insha Allah that will be done and that will provide filler. As I have said SLR is your deposit cushion and if it happens they will be able to mobilise the deposit base.
AAA CUSTOMERS MOBILIZATION My understanding of the Islamic financial industry in the Pakistan context is that there is very limited understanding about the benefits of the Islamic financial industry. I mean this hype about the fact you know we are a Muslim country.
Islamization can be achieved through Islamic banking industry and people will buy this product so there is a physiological thing that cards are always played. But I think what people miss out is that it provides wide variety instruments that it offers. It is a very rich industry.
ABOUT RS.5000 NOTE I think the decision on Rs 5000 note was taken by the cabinet before I arrived. However I think it was a very wise decision, so I take full responsibility for the situation, because I went to sign the note as you know. So I take the responsibility of this action although the decision was taken before I came.
One thing is in our nation is that we don't enjoy or celebrate good things. I think this note has such a significant feature. It's a piece of architect, if you actually understand the feature this instrument has. It's a wonderfully crafted (it will be enjoyed by 5% population).
Not necessarily, not that many people are poor in the country, poverty has declined and for the need people claim to be poor. Bottom line is that 75% plus or 76% will benefit from this 5000 note, because I have seen the condition of notes, but let me explain one point, everywhere smaller and larger denominations exist.
Large denomination which has happened in Pakistan is less than $100 note, it's not a big note, it is a relatively medium note. (Our history is that travellers cheque of 10000, 50000 and 100000 State Bank has stopped them) Yes 100000 is a bit, we have a case regarding TC and I have said we need to be very prudent going forward in the denomination of T.Cs.
But you see Prize Bonds of larger denominations do exist, I have read all articles in the newspapers regarding 5000 note and I think what we need to do is to introduce financial literacy in Pakistan. Actually this 5000 note has many features to curtail fake notes, to reproduce this 5000 note is very difficult until they understand we will change it, to counterfeit small denomination is comparatively easy.
FINANCIAL LITERACY We need to make absolutely sure that the currency is not flowing out of the economy we need to address money laundering tendencies and we need to definitely curb the terrorist financing, no doubt about it, but instruments for that are different.
This issuance of this currency note, you see currency in circulation at one time was hardly 70 billion and it was 77 billion a few years back. Currency circulation is above 800 billion.
So when your currency in circulation grows, like this deposit base is almost 2.9 trillion, advance is equivalent to 2.8 trillion or something like that, if you apply the credit/deposit ratio.
CREDIT-DEPOSIT RATIO No fear on credit/deposit ratio no fear because I examine the position of each bank. It is indeed that some banks have tighter credit/deposit and we have called them and they have lowered it, this is the role of regulator to monitor the information and call up the bank and say why do you have abnormally high credit/deposit ratio, cause it will be high when they are violating the CRR (Cash Reserve Requirement) and SLR (Statutory Liquidity Requirement).
CFS MARK II I think in principle my view. We should ultimately go in things being done properly and not being done on ad hoc basis. Badla financing and modified versions and distorted versions and complicated versions. But as the system is here use of badla financing and ready market and so on.
We can not change it on overnight basis. I sympathise with my stock broker community on this. So ultimately we have to come up with phase schemes, ultimately we need forward instruments of all kinds that are applied elsewhere with effective margin financing.
On margin, you have a paper on Shaukat Tareen Committee and that paper is still under discussion. But the SECP has introduced CFS II and for that we are in dialogue with the banks as we are trying to place it as we are in agreement with the SECP on CFS II.
Views on Federal Budgets-2006-07
Fiscal slippages require monetary adjustments
Dr Shamshad Akhtar speaks on Budget â I and II
This is the first budget I am associated with in the Government and by all stretch of imagination it is a very interesting budget. It has a combination of what I call the softer face to it but at the same time it tries to retain the spirit of fiscal prudence and stability so in that sense I find it an interesting blend.
What is impressive about this budget is that it very caring pro-poor and relief-oriented budget at a time when this is clearly a social concerned regarding the price stability question but also regarding the people have been concern about their living standard and incomes, so it tries to combine all the faces in a very effective way while as I have said maintaining the overall fiscal stability directions to a larger extent.
So I am very upbeat about it, and I think it's a budget which is full of several elements, a few key features which I like to definitely highlight which are pretty striking.
One is that we have fiscal deficit increment there of about 0.3% of GDP relative to last year, so there is no doubt that the core deficit excluding the earthquake is somewhat higher than last year. But this 0.3% increment is achieved while accommodating a lot of interesting dimensions.
First of all these have been an unprecedented increase in this development expenditure for both the federal Government and provinces. It has been achieved by expanding the provincial share in the resources, which is again a major and steep increase, it involves a fairly decent program of relief measures and subsidies, which touches virtually every segment of common man starting from salary class to non-salaried and also it tries to en-cash upon the existing trend of restrains on current expenditure on taxation side as you may have noticed what is interesting is that the Government is aiming to have higher growth in the taxes and the percentage increase in the tax revenue is going to be above the nominal GDP increase.
So this is going to be inheritantly higher buoyancy captured of the taxes also it has new revenue measures about 0.3% of GDP or about Rs 25 billion which is partly offset by relief measures.
I read S&P report very quickly while coming to this place, and I think there is a misunderstanding I see in the figures that they have quoted. Let me first acknowledge and as I have said upfront that there is no doubt that you exclude the earthquake part, which should be set aside because it's an exogenous event hit as and we have to accommodated its expense but if you look at the core deficit excluding the earthquake you do find that there is an increase of 0.3% and it has been accommodate while we are expending massively the development expenditure for the right reason it is very important for us to increase our development expenditure because our GDP/ Investment ratio is very low and it has been on a declining trend, so we have to reserve that and for that we will have to increase public investment and for that if a slight increase in fiscal deficit of manageable increase then we will have to live with it.
Now where the confusion arises I need to clarify it also with S&P, in our Fiscal Responsibility Act it was clearly mentioned that the Government needs to ultimately reach revenue surplus, so if you see the underline factors of this 3.7% of GDP fiscal deficit the revenue deficit is actually positive and you have a primary surplus or 1.4 or 1.5 percent, besides the revenue deficit has also been reversed now we have revenue surplus.
I judge the direction of the fiscal policy in a combined way. I don't look just our number, I look at what are the underline qualitative dimensions of this budget, and of course fiscal deficit/ GDP is very critical. It has to be on a down trend and it is regrettable that it has increased but the compulsions are currently such that we need to raise our development expenditure and in order to accommodate the development expenditure our fiscal deficit has increased.
SUBSIDY First we discuss the qualitative aspect of budget and as I have tried to point out while fiscal deficit/GDP ratio may not have declined in a persistent way and there is a little reversal in course, qualitatively it is an interesting and important budget, because we have increased development expenditure in GDP.
So, if you consider the underlined factors there has been a massive increase in the social expenditure in fact bulk of the increase in the development expenditure goes into areas, one on increase in social expenditures and two in the increase in the infrastructure expenditure and these are not only growth-oriented element of the development expenditure but they are also trying to support the social uplift programs.
It deals with education, health, poverty alleviation and off course on the sideline we have relief measure for the poor. So I think qualitatively it as a very rich and interesting budget.
Whether it will get our fiscal sustainability a question. I think the only point I would like to submit here that both the Government and all the players with the government have to make sure that going forward we don't let the fiscal discipline drift at all. So, I think right now we are managing with a fair degree of fiscal prudence but we should not indulge in excessive spending, which will take us away from our prudence, that is very critical.
5% EXCISE DUTY ON BANKING SERVICES, WHY SHE ACCEPTED? It was very long debated that our tax base is fairly narrow in Pakistan and there is a need for Pakistanis to start looking beyond trying to tax same base again and again.
So, when the question came up, how do you broaden the tax base, one is of course to bring under net a lot of people who are outside the net of taxation system and among other things, it so happens that the financial services industry along with agricultural sector and a few other areas are either under tax or they outside the band of tax, so I think what is critical for Pakistan's fiscal sustainability is the need to tap all the avenues of taxations system and it so happens that financial services are one area which has not been effectively tapped. Services sector have to be taxed.
All the services sectors should be taxed and ultimately should be taxing the services of lawyers, doctors and so forth. In every country you have taxes on services sector, so financial services seem to be a much more amicable sector to be tapped.
As the nature of the tax which is acceptable or not, there were two options we had, either we have to tax transactions or we tax the services of financial sectors, and I personally believe, taxing the transaction is not a very healthy way of taxing the financial sector and in relative terms it's better to tax the fees and services by the non fund sources, so that how this taxation is designed, its not aiming to tax the transaction; we are not taxing the loans, which are more amicable to pass on to borrow but we are taxing the services fee, of the services like bill of exchange letter of credit and so on.
It is a different type of taxation that I am talking about and I can assure you every where else it has been done in the world, I mean, I have just come from the Philippines and out there all services are taxed. So Pakistan is not an unusual country.
INFLATION First of all we have to recognise that the inflation rate in any country is not just decided by target given to the central bank. It has to be a combined effort of both Government and central bank, because price stability is an important goal of the central bank, but obviously, we know in Pakistan the Government plays an important role in signalling this area.
Now the fact that we have 6.5% target is something that I have agreed to not because it is achievable or not achievable. I have agreed to it because it is needed in Pakistan.
You know no matter wherever you go within the city everybody turns around and tells me we need to lower the inflation. So my acceptance of 6.5% is a challenge, which is a very difficult challenge.
I acknowledge, but if something I feel public wishes to move forward with, whether we succeed in it or not would depend at the end of the day on two factors principally and I think you have to understand that are all operate on the basis of assumptions and events they evolve and two major assumptions are real sector performance should be along the line we have projected if the GDP grows by 7% and underline growth in agriculture and industrial industry is line with what has been projected then we will be OK.
Why because then there will be adequate availability of agricultural and industrial products in the market not to have shortage not to have inflationary pressure because after all 40% of our CPI constitutes food.
The bottom line is if our real growth is performing in line with our expectations and productive sector are moving OK, then it means there won't be shortages in the system and as long as we don't have shortages in the system we want to have what I called the food price inflation.
Now the second dimension is within the domain of the Central bank but again we are not the only... I mean we inherit the impact, we can't tackle the problem unless we attack the source of problem and the second component we call core inflation, which excludes all the volatile components, food and energy, how do we control that, we are.
OIL PRICE Oil price is a global phenomenon and I can tell you through implicit and explicit measure, we are attempting not to pass the full burden of oil prices. Central bank involvement in this regard is to the extent that it provides the foreign exchange up front to really finance the oil imports and that it has a very positive impact, because we don't stir the market but letting the payments crowed out at the end of the day.
So it has a positive impact of its own kind both on foreign exchange availability and all that. But coming back to my other point which you asked about the challenge given to central bank and I think you need to understand because the central bank is accountable to that.
First, I mentioned it is linked with growth rate and second point is that fiscal deficit and its financing has to be in line, what has been projected in the budget and this is very important to understand the reason being, first of all the fiscal deficit is above last year level and secondly its financing, it has to be in accordance with the desired that we have currently and slippage then it will create problems for us in controlling inflation and I can explain this point with little bit some of the arithmetic here.
Budget has announced 140 billion, but actually it's 120 billion borrowing which excludes the operational shortfall, so government as expected, it will borrow from central bank up to 120 billion.
How does it estimate that number? It is assuming higher flows from external financing or it is also expecting that the fiscal deficit will be contained and the recurrent expenditure will be contained. If all these realise, in the external financing we are assuming that official development assistance program funding, quick disbursing will be there.
We are also assuming GDRs follow of $1 billion, another 500 million from dollar or euro bond issue, then we are assuming privatisation proceed from a certain level. Now privatisation proceeds we are assuming about Rs 75 billion.
I personally think it's fairly cautious figure because we have a huge privatisation mandate, but we are careful to include only those privatisation elements, which are possible, but program lending from multilateral development banks of the desire level, raising resources from FDI outside the privatisation dimension, these are important challenges we face.
We will be able to curb the pressure on the central bank financing only if materialised the financing that are have planned for. Coming back to sequences, our experience of outgoing year, it has been a little checker, in many ways, because during the year had tremendous amount of pressure on the bank borrowing but at the end of the day interestingly the government level of borrowing from central bank in net term is lower then original targets.
But what happens that during the year when they are borrowing and graphically it is a steep then the problems arise that our reserve money growth becomes very high on an in term basis and when this happens obviously inflationary pressure on month to month basis become higher.
TIMING OF INFLOWS This is unfortunately disconnected between when you have resources available based on your planning and when you have to spend the money. There will always be a situation of timing discrepancies but this is not a deliberate policy of the government, and I wouldn't even call it fiscal mismanagement. It is just that spending occurs in accordance with the requirements only if we accelerate privatisation upfront.
Then the experience that we had this year will not repeat and I am quite confident, having been associated in some of privatisation debates, as you know the governor is also a member of cabinet committee on privatisation that I feel some speed work has been done for the privatisation of PPL and PSO, which are the two principal items in the privatisation process. If we sell quickly and if we line up other recourses early, within the first half of the fiscal year then it will not happen again which happened this year.
Discount rates were raised in April 15 There is no doubt the raise was from 7.5% to 9% and clearly that steep increase was required to address the issue of massive overhang of four years. So indeed that steep adjustment was required now coming back to other instruments that we have at hand.
Discount rate is not the only instrument central bank has. You are absolutely right that we have CRR and SLR while we have not adjusted the SLR but we are tampering with CRR as and when required and at the time cash reserve requirements are close to 5%, which are the highest we have stipulated. So we have adjusted the CRR sometimes higher and sometimes lower, you should not look at monetary policy rigidly.
Monetary policy is not all about discount rate, monetary policy is about positioning of central bank on a number of fronts, on how it acts, in the message we transmit on regular basis to the financial community, which I do often since I have taken over. I have talked to people, I have talked to bankers about my monetary policy stance, I have tried to explain to them I am watching the behaviour of the credit.
We also have to recognise that we have also adjusted the CRR, which may have gone unnoticed, we have been watching the credit/deposit ratio, which is another indicator we watch. The exposure limit and we have required higher provisioning requirements for certain segments and activities. So all these combination tools are available to us, which we monitor and adjust. They sometime may not be as catchy as the discount rates.
Besides open market operation (OMO), there is a view in the market that OMO has nothing to do with the monetary policy. Financial literacy of financial community as well as public is very important.
They should know what is monetary policy and its access with prices are and second its important to understand that OMO is actually a monetary policy tool and if we fail to understand that then we fail to understand monetary policy dimensions. In OMO the position which we have acquired, we have tried to addressed some old problems faced by our monetary policy.
Back then it used to happen that overnight rate used to go through with huge swings and that used to bring instability. Recent OMOs are strategically positioned by the central bank. (And that is all over the world).
If you see the graph now, volatility has reduced between two percentage points and the two percentage points that I am talking about is the discount rate which is our upper ceiling and below that maximum it has gone down to 7 percent but it is moving closer to the upper limit and that is the signal we want to give that our liquidity management has to be so effective that we do not stifle the market unnecessary to have interest rates going off the roof, hitting a direction which we do not want them to go, we do not want interest rates to unnecessarily go up.
If there is a liquidity constraint the bank can come back and basically at one time in the last few week the borrowing from discount window was close to 250-300 and we let that happen to let the market understand that we do not want reckless borrowing beyond the level we were going and we are watching the lending/deposit ration and that is the monetary policy stance.
This is what I mean about the liquidity management in the system. Our treasury is not sleeping, our treasury is awake 24 hours, it is watching when the market get stifled a lot and I can tell you I talk to my treasury a lot at least 3 to 4 times daily and if necessary during the midnight on the issue.
We watch the market and I closely follow this myself because strategic decisions that I have taken on those OMOs and even the auctions are going to be very important element; how we managed the money supply in the system and how I managed the demand pressure in the system. I would like to reduce the demand pressure when I want to reduce and I need to ease the market when I need to ease it. Because I do not want to stifle the market in an unnecessary way.
If there is a liquidity constrain banks can come back and basically at one time in the last few weeks the borrowing from discount window was closed to 250-300 and we let that happen to let the market understand that we don't want reckless borrowing beyond the level we were going and we are watching the lending/deposit ratio in monetary policy stance.
So I see this an important tool and going forward. I want the public, since yours is one window I would like to approach as I don't speak to the general public every day that I would like to explain very clearly that that they should look at the variety of instruments the central bank is using to manage its monetary policy stance beyond the discount rates and secondly I want the public to understand the nexus between the monetary policy tightening and prices, because some people believe inflation can totally be managed by the central bank as it is important for the public to understand that only one component of inflation central bank can control and there are areas which it can't.
We ultimately are one recipient today of the fiscal position that government takes, if fiscal deficit is higher or on quarterly basis if fiscal requirements are higher then we can do our best by managing those pressures. If there are slippages then there is no recourse but to adjust monetary policy.
We have concern over the assets bubbles. SLR is a different instrument than CRR. CRR technically is a cash reserve requirement. SLR is a totally different instrument, it's not necessarily a monetary policy instrument; in fact it's old fashioned thing to use SLR as a monetary policy tool.
India is adjusting SLR, (this is a favourite hobby in Pakistan). (I have limited patient on India). I have worked six years on India and I think if there is distortion in another economy we don't need to replicate.
We should take a hike just because they are taking we should follow our own policy in effective way and to me SLR is a prudential regulation related to the banks for a different purpose and it is when there is a problem in the banking system.
So it is supposed to be a protection for the depositors and all that so I don't treat that as 100 percent monetary policy instrument.
ASSETS MARKET One of the principal difficulties we face here on assets markets is lack of information. For stock market we do see the data and ticker all the time and Pakistan has developed a lot in this area, thanks to TV channels and other resources.
It's on your finger tip and we have seen the correction on the stock market and this correction will solve some of the problems and fortunately has been qualitatively very good because it has tried to address this problem by taxing the turnovers.
When it comes to real estate the problem we face is that lack of information on the prices of real estate so ultimately database on the real estate has to be created, which is a normal practice throughout the world.
BY DATA, WHAT IS REQUIRED? Basically, housing rents are going up and down movement and buying and selling of real estate property both for commercial and home owners. Any US newspaper provides two information on monetary policy outlook. They provide productivity data, employment and they take assets market data, housing market data.
Unfortunately all these numbers are not available in Pakistan on quarterly or monthly basis. In this area FBS really needs to work a lot and I think the government has recognised this and they are going to make the institution autonomous but till that time we will all be groping somewhat in the dark.
You know we get all the anecdotal information and we don't allow clean lending for these purposes. I mean we have margin requirements for instance for stock lending and secondly we also don't permit real estate lending in that sense.
REAL ESTATE PRICING Provincial government will have to work on this because it's their responsibility everywhere, municipal and provincial government that record and collect data of buying and selling and make it mandatory through their legislation and through their vigilance and they have to have land records and title records this country needs to work on this a lot.
There is honest proportion of population which wants to record. As we are talking in the context of budget you need to analyse. Budget has addressed the area of taxation side, which is a welcome sign. Tax on the turnover, which is another healthy sign. All are positive signs.
Indeed there will be tax aversion and that what my colleges and CBR need to watch and the provisional authorities. But when taxes will be there it will generate revenues and there will be improvement.
TEXTILE INDUSTRY 9% refinance rate, 7.5% from SBP, 1.5% Bank Report. I appreciate the problem textile industry is facing after the WTO removal of quota and liberalisation of WTO while we have benefited from quota-free regime but with the aggressiveness of neighbouring countries to capture textile markets we are somehow more effective now during the recent weeks.
My first response to this whole issue is that the textile industry will have to respond to future requirement, no try to talk about some short-term answers, although short-term problems can be addressed but basically more sustainable approach to develop the textile industry is to go into value addition and stop doing on margins the Vanilla type of exports.
For the value addition we have to see what is the demand, and which markets are there that we can tap, besides the US and Europe where the demand for Pakistani products value addition has value. I find this analysis somehow weaker in the textile industry. This is my first observation, since I am a fresh face on this scene.
Secondly observation is that the manufacturing sector in Pakistan is very much dependent on government policies and government direction and government subsidies and government, so on and so forth, my observation is that its high time that Pakistan, the level of development it has achieved in the industrial sector should start finding private sector solutions to its problems rather then waiting to be on clutches of subsidies and incentives, because they are not sustainable. Temporarily it will solve the problem but it will not do it permanently with these two qualifiers.
EXPORT REFINANCE AND LONG TERM RATE DEMAND If the decision to subsidise exports taken then it's the decision of the government not the central Bank - to the extent of the instrument the Central Bank has power we are happy to execute the decision of the government but the government, will have to finance the subsidy. So ultimately and effectively the design and its cost has to be examined by the MOF and nobody else because they have to see if they can manage it when it comes to the mechanics of the facility as you know export refinance is currently linked up with export refinance rates which is linked up with the rates of treasury bills.
It aligns with 6 month T bills rates because the interest rate first of all for all sectors is market based. The central bank does not set interest rates any more, but it is a softer area of exports that's why it was linked with a benchmark and it a very sensible decision, and that is done because we have Central Bank to provide financing. Central Bank refinance at 7.5% and at 9.00% banks retail it.
The question is are we doing something good yes, we are providing funding which India doesn't provide. India and Bangladesh do not provide export refinance any more whereas SBP in accordance with its legislation still provides export refinance to the sector where the government wants us to do. The government bears the cost, we after all are subsidising explicitly.
The second point is, that we have left refinancing rates unchanged at 7.5% rates despite the fact that T-Bill Rates are at 8.40% not 8.29% any more but I have taken the decision not to adjust it because market is asking for spread 1.5% over refinance. It is important to understand, (for a while) I will not change refinance rates.
Even 6m T-bill rates have moved up, this decision will stay for a while. Now again down to second point is that we have done the competitive analysis the textile industry has submitted their own analysis. We have done our own.
What India and Bangladesh are doing and we are in contact with the CBs so we have the right information. The fact of the matter is that India provides export refinance with prime lending rates 10.25% - 10.40%.
And they qualify it in a way as they do not provide refinancing but they have instructed banks to provide export credit as they wish to depending on performance and worthiness of the exporter, so it's the decision of the Bank but you have to offer credit 2% lower than the prime lending rate - if say 10.50% and you reduce it by 2%.
So they are providing rates at barely 1% point less than at the rate Pakistan is providing the differential - my submission to people to and exporters, when I went to SITE area - I told them we do not look into nominal interest rate. We should look at real interest rates.
Real interest rate in Pakistan is different if we take into consideration average annual inflation rate in Pakistan and if for exports it's 9 percent then effectively you are paying 1 percent assuming 8 percent inflation rate on annual basis.
In India the inflation rate is lower than Pakistan, it's around 5-1/2 because fundamentals are different in that economy, now, the issue is that exporters there are paying in real terms much higher interest rates than Pakistanis are paying in real terms.
It's important to understand that when you consider the viability of the industry we do not look into nominal interest rates but we have to consider real interest rates. Somehow in my debate with industrial and exporting community, out here we consider nominal interest rate whereas the rest of the world considers real interest rate.
About Bangladesh, if you stretch interest rate differential of export credit by any imagination it's only 1 percent difference. Ultimately it's government's decision to (this 11/2 percent refinancing facility that we have over 7 1/2%) picks up the spread and I can tell you the government is very seriously looking into what is affecting the textile sector. I don't know what the decision would be, but if you want to bring it down to 8 percent then 11/2%.
POSSIBILITY OF EQUATING IT WITH KIBOR OR PRIME RATE KIBOR is equivalent to the prime rate also but that it doesn't automatically mean that we should offer 2 1/2% below the KIBOR. If you are trying to trap me into that let me qualify that I don't equate the formulae in that way because we are looking at different situations here. But I think KIBOR can be treated, but there is one difference, maybe I should back trace a little bit KIBOR.
That's not necessary that prime lending rate is around 10% or so at the moment - actually equivalent to Indian rates ie 10.4% or so if you understand the economics then you are close to same thing.
PIB RS 3 BILLION TARGET It's government responsibility everywhere to lay down the reference rate. Any country, which has not succeeded in defining the yield curve and has not succeeded in providing benchmark of long dated government securities, is not able to develop a long-term debt market.
So it is very critical for Pakistan, to continue the issuance of long dated securities - and it so happens that since we have a fiscal gap and we will continue to have higher requirements.
If I were given the option rather than going for bank borrowing, I would go more for non-bank borrowing or achieve a mix blend of the two. Now the issue is obviously when you go for non-bank borrowing from the market for the long-term paper-like PIB then the problem is, its price accounts to the yield curve, and if 12-month yield curve comes to 8.79, which is the rate of T-Bills at the moment, then it is inevitable that the 3-year issue, 6-year, 10-year or 20-year issues will determine its course base on the 12-month benchmark, that is closest you have currently since it is on the T-bill auctioning system.
It is reflective of market prices. Now the thing that at the moment you go more and more to the market with long-dated issue - obviously the market will demand more prices. The government, in its own wisdom feels that it should manage effectively the cost of its debt - and it wants to take its time to reflect on how it wants to borrow from public either through PIB route on NSS or it wants other ways.
But it is very critical from the lesson I have learned and if you go back to the hand book of the public debt that the management of public debt has to be extremely critical.
And I think this is one area, where the government needs to really work further. If you read fiscal responsibility act its very clearly stated that the government should articulate the debt strategy up front in January. And that has to be outlined to the public the level of borrowing, what windows of domestic debt borrowing will be in use - I think this is the area where we are behind and in its absence we'll always have problems with issuance of corporate debt.
Although I was very pleased to see, the way Mobilink has issued TFCs rates, it's a very interesting product, I do not know, whether you have seen - Mobile - it's almost designed on KIBOR plus floating rate so it's a floating rate and I think that is an interesting design along the issues that I have seen in Pakistan and I would encourage more and more companies to start issuing floating debt rate so that they are able to take advantage of the swings in interest rates later on so when the prices goes down.
This is a dilemma in the Pakistan system that there is heavy dependence on banks system for financing products and businesses - it's a good product - one more thing I want to mention for the industry at large is - see when you talk about export financing, it is hard to understand that why the exporters want to continue raising financing from commercial banks why can't our exporters go to the equity market or corporate market and raise their financing from there because there is a lot of appetite of the public for even low yield issue after all the public is investing in deposits, which yields very low returns compared to other instruments. So I think the industry needs to be a little bit more proactive, it should be in the market and raise funds at lower rates.
WHY WOULD BANKERS PROMOTE NSS? I agree with you, if I were a banker I would definitely need more deposits because that is my resources mobilisation efforts. If I am retailing NSS it will be on commission and I am doing it as a side business, if a customer comes to me I wouldn't say forget my deposit and invest in NSS.
NSS attractiveness will be based on return and as government has adjust NSS returns that also will not attract so much flows, frankly, because at the moment products available to public. TFCs type corporate issue and there are some banks that are offering.
Like Meezan Bank, Mahanama Amdani offers 10.80percent, products like that if offers you flexibility to draw on monthly basis on such rate why would somebody go to NSS and hold it for 6 month or 1 year.
ABOUT SPREAD, IS IT SBP RESPONSIBILITY? Indeed, it's State Bank of Pakistan responsibility and we are doing, NSS rate that government has adjusted is really keeping these people of the society and rightly so rates have been increased. So people can make a little bit more money rather then rely only on other instruments.
What we need to do is to ensure that the public knows about this product of NSS. NSS is available through Banks. NSS window is very limited, National Saving Centres are limited in the country if we increase NSS windows, and then people will buy more NSS.
DEPOSITS I think we need to understand deposit rate are not as low as they seem to be. On the average deposit rates they are close to 4.50-4.80, it's not like they are at zero. Is this an adequate level of return (no, not at all). But then it depends on what the appetite of public is in term of the maturity of deposits.
Some people want short-term deposits. Some want long-term time deposit or public should also invest in long-term time maturity deposits, then they will earn higher return but then having said all these things, we are encouraging banks to raise interest rates and I can assure you that I have spoken to Pakistan Banking Association, I have spoken in different domestic forums, there was a newspaper Asia forum to bankers that they need to reduce the spreads.
Somehow because for Pakistan economy its important to lower the deposit because at one end we should not be charging exorbitant interest rate from borrowers and on the other hand we should give some returns to the depositors.
One thing that we are doing in this regard is to mandate the commercial banks to list the interest rates on the deposit they offer. Because when a deposit goes to them they tell them about current Account or monthly schemes, they don't tell them if you keep your money for one year you will earn this kind of return.
So I have asked, mandate both commercial banks and Micro Finance. In a seminar I explained the presidents of micro finance that we will require you through regulation that at the glass door you should display what interest rates are you going to offer on the deposit and what lending you will charge.
Micro finance needs resources more than the commercial banks but micro finance is a soft area to give more on the deposit then you will not be able to price the micro finance delivery but it's a whole different game because micro finance credit, as you know according to latest studies, suggests that micro finance credit is delivered at an interest rate of about 30% to 70%.
We have set-up Micro finance institution, formal ie Pakistan Micro finance network and NGOs. My personal solution to Micro finance Product is to introduce so much competition and give them so much of soft interest structure that are they able to then manage the business effectively, because until there is competition, you will not be able to mobilise micro finance effectively.
HOARDING & EQUITY It's very difficult to borrow from banks and put that money in hoardings or excessive speculation, there will be an element of speculation, but that you know not to the knowledge of the banks.
Perhaps it has been happing in black market, on the sideline, but basically banks lend to sectors and the recording of the data and information do come to us. We can today tell you of 370 billion private sector credit X percentage go to manufacturing and SME and consumer financing.
So the record is by sector and if we feel necessary we do acquire data on individual company, it is very difficult for us to say or judge whether the money is used for hoarding. But at the interest rate at which companies are borrowing it will be very difficult for them to borrow and maintain inventory, as you know there is a cost associated with inventory, and they must be if they borrow for inventory.
PLEDGING COMMODITY We are examining this issue of pledging and by hypothetication against this and it there are issues surrounding it, we will definitely take action against them.
We are not sure about hoarding because the data that we have are by company and that does not tell us there is hoarding or not. (If you have not stolen it how can I say you have stolen).
We need to be proactive about problems, now we are faced with the sugar problem the government is examining all the options to resolve the problem. We have started to import, we have tried to ease the availability of sugar, we have announced to enhance the numbers of utility stores to improve the availability of products, a number of auctions have taken place.
When it comes to borrowing for the sugar industry you know if is not just for Sugar industry, like textile industry would borrow for fixed investment for imports and all that so there is need to distinguish between what Sugar industry is borrowing for fixed investment for inventory for foreign exchange and for imports. It will be clear only after the analysis, how much amount is in hoarding, as you may call it, and how much in inventories and inventories are exceptionally high.
ISLAMIC BANKING There were not many institutions; we had Meezan Bank and one other institution which was almost taken off. You know these banks are doing excellent job; these old banks and they are definitely operating and leveraging at their maximum as well as other equity and instruments.
The issue is that one needed to promote more competition in Islamic finance, we need to broaden the base of Islamic finance because at the moment only 2% of deposit base is with Islamic financial institution, for this we are facing one major hurdle, which is a genuine problem, when we determine their SLR, we have to change the rule a little bit, but for that you need Islamic Instruments for Securities.
In case of bank we allow T-Bills, but government T-Bills are based on interest rate system so we need a specialised instrument, which is Islamic instrument and which can serve as SLR. So this is a genuine hurdle and I have set up a task force to examine the option for it.
In the world you have such instruments and Insha Allah that will be done and that will provide filler. As I have said SLR is your deposit cushion and if it happens they will be able to mobilise the deposit base.
AAA CUSTOMERS MOBILIZATION My understanding of the Islamic financial industry in the Pakistan context is that there is very limited understanding about the benefits of the Islamic financial industry. I mean this hype about the fact you know we are a Muslim country.
Islamization can be achieved through Islamic banking industry and people will buy this product so there is a physiological thing that cards are always played. But I think what people miss out is that it provides wide variety instruments that it offers. It is a very rich industry.
ABOUT RS.5000 NOTE I think the decision on Rs 5000 note was taken by the cabinet before I arrived. However I think it was a very wise decision, so I take full responsibility for the situation, because I went to sign the note as you know. So I take the responsibility of this action although the decision was taken before I came.
One thing is in our nation is that we don't enjoy or celebrate good things. I think this note has such a significant feature. It's a piece of architect, if you actually understand the feature this instrument has. It's a wonderfully crafted (it will be enjoyed by 5% population).
Not necessarily, not that many people are poor in the country, poverty has declined and for the need people claim to be poor. Bottom line is that 75% plus or 76% will benefit from this 5000 note, because I have seen the condition of notes, but let me explain one point, everywhere smaller and larger denominations exist.
Large denomination which has happened in Pakistan is less than $100 note, it's not a big note, it is a relatively medium note. (Our history is that travellers cheque of 10000, 50000 and 100000 State Bank has stopped them) Yes 100000 is a bit, we have a case regarding TC and I have said we need to be very prudent going forward in the denomination of T.Cs.
But you see Prize Bonds of larger denominations do exist, I have read all articles in the newspapers regarding 5000 note and I think what we need to do is to introduce financial literacy in Pakistan. Actually this 5000 note has many features to curtail fake notes, to reproduce this 5000 note is very difficult until they understand we will change it, to counterfeit small denomination is comparatively easy.
FINANCIAL LITERACY We need to make absolutely sure that the currency is not flowing out of the economy we need to address money laundering tendencies and we need to definitely curb the terrorist financing, no doubt about it, but instruments for that are different.
This issuance of this currency note, you see currency in circulation at one time was hardly 70 billion and it was 77 billion a few years back. Currency circulation is above 800 billion.
So when your currency in circulation grows, like this deposit base is almost 2.9 trillion, advance is equivalent to 2.8 trillion or something like that, if you apply the credit/deposit ratio.
CREDIT-DEPOSIT RATIO No fear on credit/deposit ratio no fear because I examine the position of each bank. It is indeed that some banks have tighter credit/deposit and we have called them and they have lowered it, this is the role of regulator to monitor the information and call up the bank and say why do you have abnormally high credit/deposit ratio, cause it will be high when they are violating the CRR (Cash Reserve Requirement) and SLR (Statutory Liquidity Requirement).
CFS MARK II I think in principle my view. We should ultimately go in things being done properly and not being done on ad hoc basis. Badla financing and modified versions and distorted versions and complicated versions. But as the system is here use of badla financing and ready market and so on.
We can not change it on overnight basis. I sympathise with my stock broker community on this. So ultimately we have to come up with phase schemes, ultimately we need forward instruments of all kinds that are applied elsewhere with effective margin financing.
On margin, you have a paper on Shaukat Tareen Committee and that paper is still under discussion. But the SECP has introduced CFS II and for that we are in dialogue with the banks as we are trying to place it as we are in agreement with the SECP on CFS II.