The Bell about Economy – Elixir Securities Limited

Karachi: April-12 MPS: “Wait and see” stance likely to continue

Macroeconomic concerns continue to centre on fiscal account weakness
Although GoP managed to contain 1HFY12 fiscal deficit to 2.5%, meeting FY12 fiscal deficit target of 4.7% remains a tall task.

According to Elixir Securities Limited, it is important to note here that 2.5% fiscal deficit for 1HFY12 does not include one off payment of PKR391bn (1.85% of GDP) for power sector debt consolidation. History suggests fiscal deficit for 2H of a fiscal year is usually 90bps higher than deficit of 1H, which translates into a deficit of 5.5% for FY12 based on conservative estimates. However, track record of existing government, coupled with approaching elections compels us to expect a much higher fiscal deficit for the current fiscal year.

Election year pro public policies have somewhat started kicking in, in the shape of delayed pass through of fuel adjustment surcharge on electricity tariffs, reduced levies on oil products, and increased thermal generation to ensure minimal electricity load shedding. Collection on account of petroleum levy reduced to PKR5bn during 2QFY12 as compared to PKR15bn during 1QFY12. Strong tax collection, however, is a comforting avenue.

And external account deterioration
Current account deficit during 8MFY12 increased to USD2.95bn against a deficit of USD194mn during the same period last year, contributed primarily by USD3.2bn widening in trade deficit on account of worsening terms of trade – rise in oil prices and weakness in cotton prices. Higher urea imports due to limited gas availability to the fertilizer sector also played a role. Better domestic crops led to improvement in net food exports while machinery imports remained subdued due to weak investment activity. While import growth was largely driven by higher oil prices and urea imports, 13% – 21% increases in transport, Metals and Miscellaneous group imports – largely private demand driven import segments – are discomforting signs. As such, with likelihood of better than before domestic demand, SBP would likely remain more watchful of potential signs of demand side inflationary pressures.

Inflation; contained so far but concerns stand tall
CPI averaged 10.8% during 8MFY12, helped by lower food prices and house rent inflation. However, both food inflation and housing and utility inflation averaging below headline CPI indicates presence of broad based inflationary pressures. As such, Non Food CPI inflation averaged 11.5% during the last two months as opposed to overall CPI inflation of 10.9% whereas core inflation measures – NFNE and Trimmed – still remain high at 10.3% and 11.3% respectively during 9MFY12. While FY12 CPI inflation would remain around 11%, FY13 target of single digit CPI remain distant. However, FY13 target for single inflation being unachievable would not lead SBP to adopt monetary tightening as real interest rate, based on latest CPI data (10.8%) is well within the positive territory. SBP, in Elixir Securities Limited’s opinion, would aim at a real interest rate of 0.5% to 1.0%.

Still early to take action
With real interest rate at 1.2% based on latest CPI (10.8% for Mar-12), Elixir Securities Limited believes SBP would be comfortable in following “wait and see” approach in the April 13th MPS and maintain discount rate at 12%.