KARACHI: The State Bank of Pakistan (SBP) on Monday kept its benchmark policy rate unchanged at 10.5% in its first monetary policy decision of the year, defying market expectations of another rate cut amid easing inflation and improving external indicators.
Announcing the decision at a press conference in Karachi, SBP Governor Jameel Ahmed said the Monetary Policy Committee (MPC) had decided to maintain the policy rate at its current level for the next two months to safeguard price stability while supporting sustainable economic growth.
The decision surprised financial markets, with brokerage house Topline Securities noting that a majority of market participants had been anticipating a reduction of 50 to 100 basis points, following the central bank’s previous rate cut in its last MPC meeting.
In its Monetary Policy Statement, the SBP said headline inflation stood at 5.6% year-on-year in December 2025, broadly in line with earlier projections. However, the MPC observed that core inflation had remained relatively elevated at around 7.4% in recent months, indicating underlying price pressures.
The committee also noted that economic activity was gaining momentum faster than anticipated, particularly in domestic-oriented sectors. High-frequency indicators pointed to strengthening demand, supported by improvements in consumer and business confidence and easing inflation expectations.
Real GDP growth was provisionally reported at 3.7% year-on-year in the first quarter of FY26, compared with 1.6% in the same period last year, reflecting a notable pickup in activity across industry and agriculture. Momentum was assessed to have continued into the second quarter.
Large-scale manufacturing (LSM) posted growth of 8% year-on-year in October and 10.4% in November 2025, raising cumulative LSM growth to 6% during July–November FY26. Auto sales, domestic cement dispatches, petroleum product sales excluding furnace oil, fertiliser off-take, and imports of machinery and intermediate goods all recorded notable increases.
In agriculture, the SBP cited encouraging prospects for the wheat crop, based on the latest sowing data and satellite imagery, supporting expectations of continued sectoral recovery.
On the external front, the MPC observed a widening of the trade deficit due to a substantial increase in import volumes and a decline in exports. Despite this, resilient workers’ remittances and benign global commodity prices helped keep the current account deficit relatively contained.
The current account posted a deficit of $244 million in December 2025, taking the cumulative deficit to $1.2 billion in the first quarter of FY26. The SBP expects the deficit to remain within 0 to 1% of GDP during FY26, supported by remittance inflows and favourable commodity prices.
The central bank also reported that its foreign exchange reserves had exceeded the end-December target, reaching $16.1 billion as of January 16, and are projected to surpass $18 billion by June 2026, with further improvement expected in FY27.
On the fiscal side, Federal Board of Revenue tax revenues grew by 9.5% in the first half of FY26, significantly lower than the 26% growth recorded in the same period last year. The shortfall of Rs329 billion underscored the need for a marked acceleration in revenue growth during the second half of the fiscal year.
Monetary indicators showed that broad money (M2) growth accelerated to 16.3% by January 9, driven largely by an increase in private sector credit and government borrowing. Private sector credit expanded by Rs578 billion during FY26 up to January 9, with major borrowing concentrated in textiles, wholesale and retail trade, and chemicals.
To further support credit expansion, the SBP announced a reduction in the average Cash Reserve Requirement for banks from 6% to 5%, a move expected to enhance liquidity and facilitate private sector lending.
On inflation dynamics, headline inflation eased from 6.1% in November to 5.6% in December, mainly due to moderation in food prices, despite a sharp uptick in wheat and allied products. Energy inflation, however, rose as favourable base effects in electricity tariffs faded.
After declining steadily during FY25, core inflation has remained sticky in the first half of FY26. The MPC expects inflation to temporarily exceed the upper bound of the target range for a few months during 2026 before stabilising within the 5% to 7% range in FY26 and FY27.
Taking these developments into account, the MPC said the outlook for inflation and the current account remained broadly unchanged, while the outlook for economic growth had improved significantly. As a result, it deemed it prudent to maintain the policy rate at the current level to balance macroeconomic stability with sustained growth.
