The State Bank of Pakistan (SBP) announced on Monday that the Monetary Policy Committee has kept the interest rate unchanged at 10.5 percent in its meeting held on January 26, 2025.
Previously, the central bank decreased the key rate by 50 basis points in December 2025.
The Committee observed that headline inflation of 5.6 percent year-on-year (y/y) in December 2025 was in line with its expectations. However, core inflation has steadied at a relatively higher level of 7.4 percent in recent months. Meanwhile, as reflected by recent high-frequency indicators (HFIs), including large-scale manufacturing (LSM), economic activity continues to gain momentum faster than anticipated, mainly led by domestic-oriented sectors.
The Committee also noted that the trade deficit has widened due to a substantial increase in imports, particularly import volumes, and a decline in exports. Nonetheless, supported by resilient workers’ remittances and benign global commodity prices, the current account deficit remained relatively contained.
Against this backdrop, the MPC noted that the outlooks for inflation and the current account are broadly unchanged from its previous assessment, while the outlook for economic growth has improved significantly. Based on this assessment, the Committee deemed it prudent to keep the policy rate unchanged at the current level to ensure price stability and support sustainable economic growth.
The Committee noted the following key developments since its last meeting. First, real GDP growth was provisionally reported at 3.7 percent y/y for Q1-FY26, mainly led by the industry and agriculture sectors. Second, both consumer and business confidence improved, while inflation expectations among these stakeholders eased.
Third, SBP’s foreign exchange reserves surpassed the end-December target, reaching $16.1 billion as of January 16, mainly due to SBP’s ongoing interbank FX purchases. Fourth, FBR revenue growth decelerated to 7.3 percent in December, falling short of the target. Lastly, the IMF slightly upgraded its global growth forecast for 2026, while also highlighting risks from elevated global tariff uncertainty and volatile commodity prices amid geopolitical developments.
In view of these developments, the MPC assessed the real policy rate to be adequately positive to stabilize inflation within the target range of 5–7 percent over the medium term.
The MPC also emphasized the need for a coordinated and prudent monetary and fiscal policy mix—along with productivity-enhancing structural reforms—to increase exports and achieve high growth on a sustainable basis.
Real GDP grew by 3.7 percent y/y in Q1-FY26, compared to 1.6 percent in the corresponding period last year, indicating a notable pickup in economic activity. Moreover, recent HFI outturns suggest that this momentum continued into the second quarter of the current fiscal year.
Auto sales, domestic cement dispatches, POL sales (excluding furnace oil), fertilizer off-take, and imports of machinery and intermediate goods recorded notable growth, indicating sustained domestic demand.
Consistent with these trends, LSM posted growth of 8.0 percent y/y and 10.4 percent y/y in October and November 2025, respectively, raising cumulative LSM growth to 6.0 percent during July–November FY26. Meanwhile, in the agriculture sector, the latest information on sowing and satellite imagery points to encouraging prospects for the wheat crop. These favorable developments in the commodity-producing sectors are expected to provide further impetus to the services sector.
In this context, the growth outlook has improved substantially from the earlier assessment, and real GDP growth is now projected in the range of 3.75–4.75 percent in FY26. This economic momentum is likely to strengthen further in FY27, supported by the still-unfolding impact of earlier reductions in the policy rate and ongoing macroeconomic stability.
The external current account registered a deficit of $244 million in December 2025, leading to a cumulative deficit of $1.2 billion during H1-FY26. This was mainly due to a widening trade deficit caused by substantial growth in imports and a decline in exports. Weak export outturns were driven by a sharp drop in food exports, particularly rice, while high-value-added textile exports remained resilient.
Meanwhile, sustained growth in workers’ remittances and ICT services exports helped contain the current account deficit. This, in turn, enabled the SBP to build foreign exchange reserves mainly through purchases. Going forward, continued growth in workers’ remittances and supportive global commodity prices are expected to contain the current account deficit within the range of 0–1 percent of GDP in FY26.
Based on this outlook and the realization of planned official inflows, SBP’s FX reserves are expected to surpass $18.0 billion by June 2026 and rise further in FY27, approaching the benchmark of three months of import cover. This outlook remains susceptible to risks, particularly those stemming from global trade fragmentation and geopolitical uncertainty.
FBR tax revenues grew by 9.5 percent in H1-FY26, compared to 26 percent in the same period last year. This growth fell short of the target, resulting in a revenue shortfall of Rs329 billion. This indicates that a significant acceleration in revenue growth will be required in H2-FY26 to achieve the annual FBR target.
Nonetheless, estimates from the financing side suggest an improvement in the fiscal balance during H1-FY26, reflecting relatively contained expenditures. In particular, interest payments remained significantly lower than in the same period last year, which is likely to support achievement of the full-year fiscal deficit target. However, achieving the annual primary surplus target remains challenging.
Against this backdrop, the MPC acknowledged the supportive role of fiscal consolidation in achieving recent macroeconomic stability. At the same time, the Committee emphasized that sustainable economic growth requires entrenching recent fiscal discipline through durable progress on structural reforms, particularly broadening the tax base and privatizing loss-making SOEs.
Since the last MPC meeting, broad money (M2) growth picked up to 16.3 percent by January 9, mainly driven by an increase in private sector credit and government borrowing. Private sector credit expanded by Rs578 billion during FY26 (up to January 9), amid easing financial conditions. Major borrowers included key sectors such as textiles, wholesale and retail trade, and chemicals. Consumer financing also continued to increase.
Furthermore, the SBP has decided to reduce the average Cash Reserve Requirement (CRR) for banks from 6.0 percent to 5.0 percent, which is expected to further support private sector credit growth.
Headline inflation (y/y) eased to 5.6 percent in December from 6.1 percent in November, driven by moderation in food prices, despite a sharp increase in wheat and allied product prices. Meanwhile, energy inflation rose mainly due to the fading of the favorable base effect in electricity tariffs.
The Committee noted that after declining steadily during FY25, core inflation has persisted at around 7.4 percent in the first half of FY26. However, inflation expectations among both consumers and businesses continue to ease. Overall, the Committee projects inflation to stabilize within the target range of 5–7 percent in FY26 and FY27, after temporarily exceeding the upper bound for a few months during the current calendar year.
This outlook is subject to risks stemming from volatility in global commodity prices and domestic wheat prices, unanticipated adjustments in administered energy prices, and a sharper-than-expected pickup in domestic demand.