The monetary policy regime involves the choice of an appropriate intermediate target or nominal anchor to achieve the ultimate objective(s). A nominal anchor can be an economic variable that relatively quickly adjust to changes in monetary policy instruments and have a predictable relationship with the ultimate policy objectives. A well-defined nominal anchor helps a central bank to avoid discretionary monetary policy, resolves time inconsistency problem, and increases the likelihood of achieving price stability objective over a long-run.
SBP currently does not have an explicit intermediate target for any nominal variable (such as M2 growth) to achieve the ultimate objective of price stability. Rather, SBP has been seeking to control inflation by influencing aggregate demand relative to productive capacity through adjustments in the short-term interest rates. That is, the decision about the magnitude and direction of change in the policy rate is broadly based on the assessment of overall macroeconomic conditions in particular on the near-term inflation path vis-à-vis announced inflation target. Thus, in practice, inflation (and inflation forecast) implicitly serves as nominal anchor in the current monetary policy approach in Pakistan. Such an approach to monetary policy is close to inflation targeting lite regime.
Operational target of SBP’s monetary policy is to keep the overnight money market repo rate around the Policy (target) Rate. For more details see the section of Monetary Policy Implementation.
Since May 1999, SBP has been following a market determined exchange rate regime in which the value of Pakistani rupee vis-à-vis other currencies is determined in the foreign exchange market through the market forces of supply and demand. The supply and demand situation is essentially a reflection of country’s Balance of Payments position. The supply of foreign exchange mainly comes from exports, remittances, foreign loans, foreign investments, etc., while demand arises due to imports, debt payments, etc. In case, demand is higher than the supply of foreign currency, the domestic currency tends to depreciate and, vice versa.
To quell excessive volatility and to ensure smooth functioning of the foreign exchange market, the SBP occasionally intervenes in the foreign exchange market. However, the SBP does not aim to keep the exchange rate at any pre-determined level.