Morning Shout released by KASB Securities Limited and Economics Research

Karachi, June 29, 2012 (PPI-OT): Govt borrowing from SBP continues its ascent

According to KASB Securities Limited,

• Latest figures for govt borrowing at PRs1.73tn (up PRs577bn FYTD) indicates that source of borrowing is getting increasingly skewed towards central bank compared to scheduled banks.

• In the absence of external flows, KASB Securities Limited believes upward pressure on interest rates will likely persist where a reversal in govt borrowing from central bank is expected to remain a challenge in case of low accumulation of funds in T-bill auctions as visible in 4QFY12.

• However KASB Securities Limited assigns low risk to near-term hike in discount rate, given (1) SBP’s recent hands-off policy and (2) limited impact of a hike as inflationary financing (via OMO) could rebound. However a possible return to IMF for a loan program (assumed post-election) could act as a catalyst for DR hike, in KASB Securities Limited’s view

• Going forward, receipts from Coalition Support Fund, 3G auction and IMF could shape future interest rate outlook.

Govt borrowing from central bank at PRs1.73tn
Latest figures for govt borrowing at PRs1.73tn (up PRs577bn FYTD vs PRs148bn last year) indicate source of borrowing is getting increasingly skewed towards central bank vs scheduled banks. KASB Securities Limited believes this reflects that upward pressure on interest rates will likely persist, where reduction in govt’s reliance on central bank borrowing, which is currently standing at an all-time high level, could be a challenge in the absence of external inflows. However looking at the State Bank’s hands-off policy in the recent monetary policy, KASB Securities Limited flag near term risk of a discount rate hike remains limited and opine that a rate hike at this stage may have limited impact on controlling inflation. However KASB Securities Limited believes a possible return to IMF for a loan program (assumed post-election) could act as a catalyst for DR hike by 50-100bps in the midterm.

T-bill auctions: Lower accumulation in 4QFY12
The government’s strategy to offload its deficit financing burden to the banking sector faced challenges in 2012-to date, where 4QFY12 in particular saw unmet targets in T-bill auctions. Out of a combined target of PRs995bn from 7 auctions, only PRs920bn were raised by the govt while keeping cut-off rates roughly flat. It is noteworthy to see that participation in the longer end of the curve increased in 4Q, which helped cover some of the shortfall in T-bill targets. A combined PRs62.5bn worth of PIBs were sold vs PRs40bn target while PRs78.4bn Sukuks were sold vs target of PRs50bn.

Rate hike at this stage may have limited impact on inflation
The key highlight of FY12 was the spike in open market operations conducted by the central bank, in order to control market liquidity and facilitate borrowing from commercial banks. From the highest injected amount of PRs85bn in FY11, OMO injections crossed the PRs350bn mark in 2QFY12. The weekly OMO subsided to PRs100-150bn in 4QFY12 vis-à-vis lower accumulation in T-bill auctions. KASB Securities Limited opines a rate hike at this stage while providing incentive to banks’ to invest in govt securities, will likely increase the subsequent OMO injections which itself is an inflationary form of finance.

Monetary management will remain a challenge
Given low near term risk of a discount rate hike, next year’s auction targets (yet to be announced) hold importance to gauge govt’s appetite for funds. Moreover any concrete news flow on receipts from Coalition Support Fund and 3G auctions or a return to IMF for a roll-over of loan repayments could shape future interest rate outlook, in KASB Securities Limited’s view.