Pakistan cuts interest rate to spur growth as ‘geopolitical’ tensions pose economic challenges

KARACHI: Pakistan’s central bank on Monday slashed the key policy rate by 100 basis points 11% to spur growth, amid challenges posed by trade tariffs and geopolitical tensions with archrival India.
The State Bank of Pakistan (SBP) said global uncertainty surrounding trade tariffs and geopolitical developments warranted a “measured monetary policy stance,” espite the favorable inflation outlook. This is the lowest rate since December 2021.
Monday’s decision came against the backdrop of soaring tensions with neighboring India following a deadly attack on tourists in Indian Kashmir. The nuclear-armed neighbors have announced measures meant to harm each other’s economy.
It also came ahead of an imminent decision by the International Monetary Fund to release the next tranche of $1 billion to Islamabad from its $7 billion bailout program, with the previously “sticky” core inflation easing to 8% in April.
“The committee noted that inflation declined sharply during March and April, mainly due to a reduction in administered electricity prices and continued downtrend in food inflation,” the central bank said in a statement after a meeting of its monetary policy committee (MPC).
Prime Minister Shehbaz Sharif government’s efforts to revive Pakistan’s debt-ridden economy with the help of International Monetary Fund (IMF) received repeated setbacks after the US imposed 29% tariffs on its imports, followed by a military standoff with neighboring India that holds Islamabad responsible for the recent Kashmir attack. Given this the central bank decided to maintain a measured monetary policy stance.
The IMF has sharply downgraded its 2025 and 2026 growth projections for advanced and emerging economies because of the prevailing global uncertainty around tariffs that has triggered heightened financial market volatility and a sharp decline in global oil prices.
“Considering the evolving developments and risks, the MPC viewed that the real policy rate remains adequately positive to stabilize inflation in the target range of 5 – 7%, while ensuring that the economy grows on a sustainable basis,” the SBP said.
The government expects the economy to expand 3.6% this fiscal year ending in June, while the central bank sees it settling between 2.5% to 3.5%, mainly because of low agricultural output and “below expectation” outturns in industrial production.
The central bank expects the economy to expand next fiscal year but warned of risks emanating from global uncertainty.
Shahid Ali Habib, chief executive officer at Arif Habib Corporation Ltd., termed the central bank decision “very good” and said lower borrowing costs will create economic activity in the South Asian nation where the full-year inflation is expected to remain at 5%, the current account to post nearly $1.3 billion surplus and international oil prices to range between $60 and $62 a barrel.
“The State Bank wants to spur some growth as our large-scale manufacturing growth remains very low at around 1.9%,” Habib told Arab News. “This is a very good decision to kick off economic growth in the country.”
Debt-ridden Pakistan, which had repaid or rolled over most of the $26 billion foreign loans it had to repay this year, expects its foreign exchange reserves to increase to $14 billion by the end of next month on the back of expected realization of planned official inflows.
The IMF’s executive board is scheduled to meet later this week to approve the release of about $1 billion tranche to Pakistan. The board’s approval has most of the time been a formality after the signing of a staff-level agreement between the Washington-based lender and the authorities in Islamabad.
The country’s trade deficit though sharply rose to $3.4 billion in April, but the central bank said easing global oil prices were moderating Pakistan’s overall import bill.
Last month, Pakistan’s trade deficit widened by 55% to $3.39 billion, marking the highest monthly trade gap in three years, according to Topline Securities Ltd.
“Going forward, the MPC expects this build-up in FX reserves to continue in FY26, based on a moderate current account deficit and improved financial inflows,” the SBP said.
The record inflow of worker remittances and the SBP’s purchases of dollars partially cushioned the impact of large ongoing debt repayments on the central bank’s forex reserves that have declined to $10.2 billion.
The Federation of Pakistan Chambers of Commerce and Industry (FPCCI), the country’s top representative body of trade and industries, expressed disappointment over the SBP’s decision.
“The policy rate continues to be 11.0% as of today – which reflects a premium of 1,070 basis points (bps) as compared to inflation and it makes no economic sense,” FPCCI President Atif Ikram Sheikh said in a statement, demanding a cut of 500 basis points.
Monday’s cut was higher than market expectations as majority of the economists were expecting a 50 basis points cut, according to Mohmmed Sohail, chief executive officer at Topline Securities Ltd., which last month conducted a poll on rate cut expectations.
“We will see gradual economic growth led by lower rates,” said Sohail, who expected another 100 basis points reduction in the interest rate by December.