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Market based implementation of monetary policy embeds a swift and complete passthrough of changes in policy rate to market interest rates. This impacts the lending and
deposit rates (retail rates) of the banking system. Incomplete and slow pass-through
impairs the effectiveness of monetary policy transmission mechanism. This study
estimates the degree and the speed of interest rate pass-through in the case of Pakistan.
Monthly data on State Bank of Pakistan (SBP) policy rate, money market rates and
banks' retail lending/deposit rates from July 2001 to August 2011 is used to estimate
an unrestricted autoregressive distributed lag (ARDL) model. The standard ARDL model
allows for the estimation of an error correction model, which helps in differentiating short
run impact of changes in policy rate from its long run impact on the banks' lending rates.
The results indicate that while there is a swift pass-through from the policy rate (T-bill
rates and overnight rate) to money market rate, the impact of changes in money market
rates on the bank deposit rates is not only sluggish, but also incomplete. However,
banks' lending rates on fresh loans are more responsive to changes in money market
rates as the banks have the luxury to take into account the changes in opportunity cost
of funding.
Mahmood ul Hassan Khan, Muhammad Nadim Hanif. (2012) Pass-Through of SBP Policy Rate to Market Interest Rates: An Empirical Investigation, Journal of Independent Studies and Research-Management, Social Sciences and Economics, Volume-10, Issue-1.
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