The Central Bank of Pakistan has announced an increase in interest rates by 300 basis points, from 17 percent to 20 percent, citing rising inflation. This is the highest interest rate since October 1996.
While the above sentence has forced the learned to hit their heads against the wall, it has forced a common man to scratch his head as to what is this interest rate and what difference is it going to make to him.
Of course, not everyone has a degree in macroeconomics (and we don’t either) so it’s hard to understand these big and important government decisions.
But, luckily, we have Business Recorder and our fellow Leopards at Business Recorder, who specialize in these things, and they’ve kept us from scratching our heads and hitting our heads against the wall.
Well, shame on us for admitting that we too had a hard time understanding this issue.
So the matter is that, State Bank of Pakistan which is the central bank of Pakistan, provides policy benchmarks to the commercial banks, i.e. gives the policy to follow such and such measures.
Today State Bank has increased the interest rate by 3 percent or 300 basis points (bps).
It will have three meanings and all three are interrelated.
first, The central bank justified the hike in interest rates on the grounds that inflation was on the rise. Inflation rate has reached 31.5% in February.
That means everything you bought with a pink Rs 100 note in February 2022 is now worth Rs 131.5 in February 2023.
This is an easy way to understand inflation, in this context, take inflation to mean an increase in prices.
Second, Another way to understand inflation is in terms of the money supply, that is, the amount of money people have.
If more people have money and are willing to pay for a product, the seller will inevitably demand a higher price.
But if the government offers some incentive for people not to spend the money they have, there will be fewer buyers and less money in circulation. Thus the seller will be forced to reduce the price of the product.
In simple words, if the government prevents people from spending money by giving greed, then people will not buy anything, when something is sold at the asking price, then the shopkeeper will reduce the money to sell things.
Now this government incentive or lure comes in the form of a hefty interest rate.
An increase in interest rate simply means that the government is telling you not to spend your money and keep it in banks and in return the banks will pay you more interest or profit.
In this way, the government keeps prices or inflation low.
swim, Since everyone follows the orders of the estate, all banks will now add at least 3% on loans to people. Hence, bank borrowers will now pay more in Equated Monthly Installments (EMIs).
For example, if your papa takes a loan of Rs 10 lakh from a bank for five years, his monthly repayments will increase from Rs 32,353 to at least Rs 34,220 after the interest rate increases.
They will now have to cut some of their expenses and juggle an extra Rs 1,867, which could be a tough task amid rising inflation.
WeThe same problem has been explained a little.
Interest rates also affect credit cards, so people will now think twice before taking it out to pay for something.
It also affects things like car and house financing options, so high car loan payments can keep people from buying a car.
If people show reluctance to buy vehicles, prices may fall.
The risk that interest rates bring with them is slowing down the economy.
The number of buyers may decrease to such an extent that no economic activity (buying and selling) takes place. Banks now have to find a way to encourage people to spend less, but also to ensure that people don’t stop spending altogether, lest all economic activity come to a halt.
Now that people are already looking to cut costs due to rising prices and lower salaries, it remains to be seen whether the State Bank’s announcement on Thursday will have any impact on inflation.