KARACHI:
Pakistan’s track record of steadily lowering interest rates has been disrupted by the spillover effects of the Israel-US war against Iran, as the State Bank of Pakistan (SBP) on Monday raised its policy rate by 100 basis points to 11.50%, citing inflationary risks triggered by geopolitical escalation and the consequent closure of the Strait of Hormuz, a move that defied market expectations and drew harsh criticism from the business community, which called it “beyond comprehension” in the midst of a still fragile economic recovery.
The Monetary Policy Committee (MPC), in its latest meeting, justified the increase by pointing to growing global uncertainties arising from the prolonged conflict in the Middle East, which has raised energy prices, transport costs and insurance premiums, while disrupting supply chains. The central bank warned that these factors are likely to fuel inflationary pressures in the coming months, requiring a tighter monetary stance to anchor expectations and avoid second-round effects.
However, business leaders expressed concern that the decision could undermine investment and hamper private sector activity. The Pakistan Business Forum (PBF) said the increase was difficult to understand and questioned why authorities appeared to be moving away from the goal of improving the ease of doing business.
PBF Chairman Khawaja Mehboobur Rehman said higher borrowing costs would further limit credit uptake by the private sector, making it difficult for companies to expand their operations.
The SBP acknowledged that inflation had already started to pick up: headline inflation rose to 7.3% in March, while core inflation rose to 7.8%. He noted that inflation expectations among consumers and businesses had deteriorated in recent surveys, reinforcing the need to take preventative measures.
According to the central bank’s assessment, inflation is likely to accelerate further and could reach double-digit territory in the coming months, driven largely by the pass-through of higher global energy prices. While food inflation remains relatively contained due to adequate supply, rising fuel costs have already begun to impact transportation fares and broader underlying inflation.
Despite these concerns, the MPC noted that the national economy has shown signs of resilience. Real GDP grew by 3.8% in the first half of FY26, supported by widespread improvements across sectors. Large-scale manufacturing posted strong growth of 5.9% during July-February, while credit to the private sector continued to expand at around 13%, reflecting improved business activity and the lagged impact of earlier rate cuts.
However, recent high-frequency indicators suggest some slowdown in economic momentum, particularly in March, amid external headwinds. Agricultural prospects have also been slightly hurt due to lower-than-expected wheat production, which could affect overall growth.
On the external front, Pakistan posted a small current account surplus during July-March FY26, mainly supported by resilient workers’ remittances. The government also managed to shore up foreign exchange reserves through external financing, including the issuance of Eurobonds, allowing SBP reserves to remain at around $15.8 billion at the end of April.
The central bank expects reserves to exceed $18 billion by June 26, underscoring the importance of continuing efforts to build external reserves in an increasingly uncertain global environment. He also highlighted the recent staff-level agreement with the International Monetary Fund (IMF) as a positive development that supports macroeconomic stability.
On the fiscal front, challenges remain as tax collection by the Federal Board of Revenue (FBR) fell short of targets, widening the accumulated deficit to Rs 611 billion during July-March. While the fiscal deficit has remained relatively contained so far, the SBP warned that rising global oil prices could complicate fiscal management, particularly due to the need for targeted subsidies to protect vulnerable segments.
The MPC highlighted that achieving the full-year primary surplus target would likely require further rationalization of spending, along with structural reforms aimed at broadening the tax base and reducing state-owned enterprise losses.
Looking ahead, the SBP maintained that maintaining macroeconomic stability would require a combination of prudent monetary policy, fiscal discipline and continued reform efforts. However, it also warned that the outlook remains highly uncertain and subject to risks related to the duration and intensity of the Middle East conflict, global commodity prices and potential fiscal slippages.
