AURORA: What is the mandate of the State Bank of Pakistan (SB) and do such mandates vary from country to country?
REZA BAQIR: In general, central banks have three goals, although the way they are articulated may vary from country to country. The first is maintaining price stability, which means a low and stable rate of inflation. This is particularly important in emerging markets, where there is ample research to show that inflation most adversely affects those sections of the population that are less well-off, particularly because the share they devote to items like food is much higher relative to other income segments. The second is financial stability. This pertains to the confidence central banks are able to instil in the general population, so that when they use the financial system, they are confident that they can access their funds or get the return on the investment they expect. This also means ensuring that the financial institutions remain well-capitalised and able to cater to the needs of their retail and corporate customers – all this is part of the regulatory and supervisory framework a central bank has to maintain. The third is supporting economic growth and development – to achieve this, the prerequisite is to meet the first two goals – low inflation and a stable financial system. Generally, the experience of the global economy is that it is difficult to have sustainable growth and development without low and stable inflation and financial stability. These three goals are concurrent and you cannot ignore one at the expense of the others.
A: What has been the impact of Covid-19 on Pakistan’s economy and what measures has the SBP taken in this respect?
RB: Covid-19 was a devastating blow on the global economy and in Pakistan, similar to many other countries, both governments and their central banks had to act in a coordinated way to provide support. Our key goals were employment, public health and investment. When the pandemic struck, the immediate concern was not inflation because, either due to panic or health worries, people stopped spending, and with demand collapsing there was no cause to worry about inflation. The priority was supporting growth and employment. The thrust of the measures we undertook was on supporting growth and employment. For example, we introduced the Payroll Financing Scheme, popularly known as the SBP Rozgar Scheme, whereby the Central Bank loaned commercial banks the money required to provide liquidity to those companies that committed not to lay off their workers for six months. This measure was targeted to support employment, and the data from the formal sector indicates that more than 1.7 million jobs were saved – and given that the informal sector is connected to the formal sector, the impact was even wider. This was an outright measure we took to prioritise employment. This scheme, like all the others we introduced, was very targeted and the banks either directly deposited into their accounts the salaries of the employees of the borrowing companies or the CFO had to submit an affidavit stating that those are employees of the company and provide their CNIC numbers. Similarly, we introduced TERF (Temporary Economic Refinance Facility), a targeted concessionary financing scheme aimed at supporting investment and growth. We provided money on easy terms to banks to loan to any business ready to commit to starting a new factory or a manufacturing unit, or for balancing and modernising its plant and equipment within the next 12 months. The scheme was introduced in March 2020 and has now expired.
A: What was the uptake on that particular scheme?
RB: Under TERF, Rs 436 billion were approved until the scheme expired on March 31, 2021. This was a very targeted scheme and borrowers could only access financing if they produced a Letter of Credit (LOC) proving they are using this money to purchase machinery. It is important to remember that at that point businesses did not know how long the crisis would last and were therefore hesitant about undertaking any new investments; we wanted to introduce an incentive to counterbalance this. After the first wave, businesses began to see that Pakistan was able to successfully bring the number of cases down and, as a result, many took advantage of the scheme. In Pakistan’s history, there have been few, if any, episodes where Rs 436 billion worth of investment has been approved within such a short period of time. This is equivalent to nearly one percent of our GDP and the impact on growth will be long-term because the difference between borrowing money for investment rather than consumption is that investments augment the capacity of a country to produce goods and services. We also introduced the Refinance Facility for Combating Covid-19 (RFCC). Under this scheme, over Rs 12 billion have been approved up until May 6, 2021 either for building new hospitals or medical centres or upgrading them to deal with health emergencies. The scheme was also available for manufacturers of Covid-19 related items. Again, in order to benefit, the hospitals and medical centres had to prove they were using these funds to import ventilators and other machinery or to build a new wing to enhance their capacity to deal with the health emergency.
A: Which economic sectors took advantage of TERF?
RB: I will preface this by saying that when any central bank lends funds to commercial banks for onward lending, it does not prescribe which sectors they may lend to as long as the customer is able to produce evidence in the form of an LOC that they are using the financing in the prescribed way. This is to limit the potential for abuse and avoid people obtaining concessional financing for speculation or other purposes. Apart from this, we do not interfere in a commercial bank’s decision about whom to lend to. To your question regarding which industries took up TERF, this involved a combination of supply and demand factors. About 42% of the approved amount went to textile related areas, because there was a great deal of demand from this sector, particularly because Pakistan came out of the first wave of Covid-19 faster than other textile exporting countries. Another sector was cement, which is growing rapidly due to the economic activity taking place in housing and construction. There was uptake by several other sectors, some of which were export-oriented, and some from what are known as import substitute sectors.
A: Given the perennial need to stimulate Pakistan’s economy, why are schemes such as TERF not offered more often?
RB: The way financial systems function is that in normal times, investors take a loan from a commercial bank and the reason this facility was extended during Covid-19 was to provide extra stimulus, and the key distinction here is that the cost of the loan was a lot less and it was financed by the SBP rather than from the resources of commercial banks. I emphasise that this was a very targeted and aggressive response by the SBP to what was one of the biggest crises to hit the global economy since World War II. It was a crisis measure.
A: Were any lessons learnt as a result of these initiatives?
RB: Several. I will start at the broader level. Had we not been able to adequately address the public health dimensions of the crisis, we would not have been able to demonstrate economic improvement. If you look at our trajectory during the first wave of Covid-19, cross-country data comparisons based on the number of cases per capita or the number of deaths per capita show that Pakistan did very well in bringing down the number of cases, and one of the key takeaways in this respect was the proactive way the public authorities dealt with the health dimensions of the crisis. Here, recognition must be given to the Ehsaas Emergency Cash Program, which benefited 14.8 million households in Pakistan. Another important measure was the initiative taken by the Ministry of Finance to accelerate the refunds due by the Federal Board of Revenue (FBR) to the corporate sector, which usually takes a long time. In a crisis situation, the scarcest commodity in finance is liquidity and the fact that the government accelerated these refunds and put cash in the hands of corporate entities, enabled them to avoid shutting down operations or delaying this for as long as possible. The government also stepped up commodity financing in the agricultural sector and the fact that it was procuring more meant that more money was reaching farmers and the rural community. In terms of the SBP, the first lesson we learnt was to be aggressive. There was no playbook when Covid-19 started and we had to be willing to try new ways to respond, and schemes, such as the Rozgar Payroll Financing Scheme, TERF and RFCC, had never been done before. The second lesson was to target, in order to ensure that the funding available was subject to certain stipulations, some of which I mentioned before. The third lesson was flexibility. We listened to the feedback we received after introducing a measure and tweaked it accordingly.
A: What are your views on the proposed amendment to give more autonomy to the SBP?
RB: This is not the first time that such an amendment has been put before Parliament; the last time the Act was amended to give the SBP more autonomy was in 2015. Furthermore, amendments aimed at increasing a central bank’s autonomy have been introduced by several countries and international evidence has demonstrated quite conclusively that when governments give their central bank a clearly defined mandate, as well as the operational autonomy to use the tools at their disposal to reach their mandated goals while being held accountable, typically through parliament or some other national forum that encompasses more than one political party or government, in such situations those countries have achieved better outcomes in terms of growth and employment. Coming to the SBP Act, the provision is firstly to define the mandate, which is to maintain a low and stable rate of inflation, maintain financial stability and support economic growth and development; secondly, to define the operational autonomy in such a way that officials of the SBP can act to achieve these goals by using the tools at their disposal; and thirdly, to ensure the SBP is held accountable by Parliament by producing a report card on how well it achieved these goals and, if there were deviations, the reasons for those deviations. This is the beginning of a discussion and we are very confident that the outcome will be in the best interest of the country.
A: Do you think the IMF will be inclined to bring in more flexibility in its approach to Pakistan, given the Covid-19 situation?
RB: To put this in context, the goal of any IMF programme is to generate economic prosperity in the country they are lending to. Put simply, the IMF has to be repaid by the country it is lending to; therefore, if the IMF does not internalise the goal of achieving economic prosperity in the country in question, it will never be repaid. You do not get repaid by a borrower who does not prosper economically. The question is, if it is in the interests of the IMF to see economic prosperity in the country they are lending to, why is it that their programmes often start with austerity and painful decisions? The answer is that in the global financial architecture, the IMF is the lender of a last resort and countries avoid going to the IMF until all other avenues of borrowing have been closed; it therefore stands to reason that if a country goes to the IMF, it is because their economic difficulties cannot be addressed through other means. For Pakistan, the problem was the large current account deficit that accumulated about three years ago and which amounted to approximately $19 billion. Now, the first part of an IMF programme is stabilisation, which means that the excesses that led to the problem need to be corrected, and once a country demonstrates that it has successfully stabilised, the programme pivots to growth and this is the stage where Pakistan is at. We have demonstrated that we have stabilised. When we started with the IMF, our reserves were about seven billion dollars; today they are about $16 billion and this increase has not come from borrowing – in fact, our net reserves (net of borrowings) have risen by nine to $10 billion. In addition, our fiscal deficit has decreased. So having reduced the two key deficits (the current account deficit and the fiscal deficit), the stage is set to pivot to growth and this is the conversation Pakistan is engaged with the IMF at the moment – demonstrating the need to put emphasis on policies that generate growth while maintaining economic stability. This is the key priority policymakers have at this stage.
A: How do you see the economy performing in the short- to mid-term?
RB: I will limit myself to the areas that come under the purview of the SBP, and I think there are good reasons for optimism. The SBP has upgraded its growth forecast for this year to three percent and slightly closer to four percent for next year (based on information available as of the date of interview and before the release of the 3.9% projection by the Pakistan Bureau of Statistics). Several macro indicators have improved and the initiatives we have taken will continue to strengthen the foreign exchange side of the economy. For example, we launched Roshan Digital Accounts seven months ago (Pakistan’s diaspora can now digitally and remotely open accounts in Pakistan) and to date over 130,000 accounts have been opened and over $1.1 billion deposited. Now, the estimated number of overseas Pakistanis stands at seven to nine million, so the maths itself strongly suggests that much, much more will be coming in. Another cause for optimism is the fact that since June 2019, we have transitioned from a fixed exchange system to a market based exchange rate system. Under the previous system, it was possible to keep exchange rates artificially low. Typically, countries with a fixed exchange rate system are hesitant to move to a market based one because they fear that the national currency will plummet, and in June 2019, when Pakistan entered the IMF Programme, many people were fearful this would be the outcome. Yet, when we floated the rupee, it was around 160 to the dollar and instead of plummeting, between July 2019 and March 2021 (the period before Covid), the currency went from 160 to about 153. This newly formed market exchange rate system was then confronted with a major global economic crisis in the form of Covid-19 and if ever any new exchange rate regime had to face a test, this was the biggest one conceivable. Like in other emerging markets, our currency did depreciate, but it did so in an orderly way and when the worst of the crisis was over, the rupee started to strengthen and today it is back at around 153 to the dollar. The biggest virtue of our flexible exchange rate regime is that it will help avoid the type of current account deficits Pakistan has previously experienced. These are some of the reasons why I am cautiously optimistic that our growth prospects are good.
Dr Reza Baqir, Governor, State Bank of Pakistan was in conversation with Mariam Ali Baig.
For feedback: firstname.lastname@example.org. Interview conducted on May 11, 2021