• Lending rate held steady at 10.5pc
• Central bank cites inflation risks
• Core inflation steady at 7.4pc
• Economic outlook improves; GDP growth projected at 3.75-4.75pc
• LSM and agriculture lead recovery, but trade deficit widens
• Cash reserve requirement cut to 5pc to support private sector credit growth
KARACHI: Defying market expectations, the State Bank of Pakistan (SBP) on Monday kept its key policy rate unchanged at 10.5 per cent, citing concerns over higher inflation towards the end of the current fiscal year, despite widespread anticipation of a cut.
The decision surprised financial markets, which had been closely watching developments such as the sharp decline in treasury bill yields to single digits and mounting pressure on the government to spur economic growth through cheaper credit. However, the central bank opted to stay on a cautious path, prioritising price stability over faster growth.
The SBP has consistently advocated a relatively higher interest rate despite easing inflation, justifying its stance as necessary to ensure “low but sustainable growth”.
“The committee observed that headline inflation of 5.6 per cent year-on-year in December 2025 was in line with its expectation. However, core inflation has steadied around a relatively higher level of 7.4pc in recent months,” said the monetary policy statement issued after the Monetary Policy Committee (MPC) meeting.
While large-scale manufacturing (LSM) recorded growth in the first half of the current fiscal year (FY26) and overall economic activity gained momentum faster than anticipated, the trade deficit widened due to higher imports and slower export growth.
The MPC noted that the outlook for inflation and the current account remained broadly unchanged from its previous assessment, while the outlook for economic growth had improved significantly. “Based on this, the committee deemed it prudent to hold the policy rate unchanged at the current level to ensure price stability and support sustainable economic growth,” the SBP said.
The MPC highlighted several key developments since its last meeting.
Firstly, real GDP growth was provisionally reported at 3.7pc year-on-year for the first quarter of fiscal year (Q1FY26), mainly led by the industry and agriculture sectors.
Secondly, both consumer and business confidence improved, while inflation expectations eased.
Third, SBP’s foreign exchange (FX) reserves surpassed the end-December target, reaching $16.1 billion as of Jan 16, largely due to ongoing interbank foreign exchange purchases. Fourth, FBR revenue growth decelerated to 7.3pc in December, falling short of the target.
“The growth outlook has substantially improved from the earlier assessment and real GDP growth is now projected in the range of 3.75-4.75pc in FY26,” the SBP said, adding that economic momentum was likely to strengthen further in FY27, supported by earlier reductions in the policy rate and continued macroeconomic stability.
Real sector
Real GDP grew by 3.7pc year-on-year in Q1FY26, compared to 1.6pc in the corresponding period last year, indicating a notable pickup in economic activity. Recent high-frequency indicators suggested this momentum continued into the second quarter.
LSM posted a growth of 8pc year-on-year in October and 10.4pc in November 2025, raising its cumulative growth to 6pc during July-November FY26. In agriculture, recent sowing data and satellite imagery pointed to encouraging prospects for the wheat crop.
The external current account recorded a deficit of $244 million in December 2025, bringing the cumulative deficit to $1.2 billion in H1FY26, mainly due to a widening trade deficit driven by strong import growth and a decline in exports.
“Continued uptick in workers’ remittances and supportive global commodity prices are assessed to contain the current account deficit in the range of 0 to 1pc of GDP in FY26,” the SBP said.
Based on this outlook and the realisation of planned official inflows, SBP’s FX reserves are expected to exceed $18bn by June 2026 and rise further in FY27, approaching the benchmark of three months of import cover. The SBP cautioned, however, that this outlook remains vulnerable to risks stemming from global trade fragmentation and geopolitical uncertainty.
Fiscal sector
FBR tax revenues grew by 9.5pc in H1FY26, compared to 26pc in the same period last year, falling short of the target by Rs329bn. “This indicates that a significant acceleration in growth would be required in H2FY26 to achieve the FBR revenue target,” the SBP said.
Interest payments remained significantly lower than last year, which may help achieve the full-year fiscal deficit target. However, the central bank noted that meeting the annual primary surplus target could prove challenging.
The SBP announced a reduction in the average Cash Reserve Requirement for banks from 6pc to 5pc, a move expected to further boost private sector credit.
Inflation
Headline inflation eased to 5.6pc year-on-year in December, down from 6.1pc in November, mainly due to lower food prices, despite a sharp rise in wheat and allied product prices.
Published in Dawn, January 27th, 2026
