Time to keep rates unchanged

KARACHI:

The State Bank of Pakistan (SBP) is set to announce its monetary policy decision on July 30, and all eyes will be on whether it cuts interest rates again or chooses to hold. In my view — as an analyst tracking macroeconomic and capital market signals closely — no change is warranted at this point.

Pakistan has already seen a dramatic reversal in policy rates — from a staggering 22% to a relatively benign 11% as of May 2025. That's not just a rate cut; that's a full-blown pivot. While this brings welcome relief to borrowers and a much-needed growth stimulus, macroeconomics doesn't respond overnight.

A monetary easing of this magnitude usually takes two to three quarters to trickle into the real economy. A premature cut now would be like offering dessert before the main course has even been served. Let's not overfeed an economy still digesting the last policy meal.

The YoY inflation dip into the low-to-mid 3% range in recent months has largely been driven by the base effect, not necessarily a fundamental deceleration. With energy tariff adjustments, expected global commodity swings, and reduction in remittance incentives, inflation is likely to re-enter the 7-9% band by year-end.

SBP's long-term inflation target band of 5-7% is admirable, but it must also guard real interest rates — ideally 3-5% positive — to sustain current account balance, contain imports, and maintain currency stability. History has shown that dipping below this zone leads to overheating, demand-pull inflation, and pressure on external buffers. We can't afford to repeat that cycle again.

Don't light the fuse in year three

SBP Governor Jameel Ahmad has repeatedly spoken about avoiding the boom-and-bust mistakes of the past — and he's right. The third year of any macro stabilisation programme is the most vulnerable: the temptation to cut too early is strongest, the political cycle begins to heat up, and the reserves appear deceptively comfortable.

But here's the catch — Pakistan's FX reserves, while improved, are still largely propped up by bilateral rollovers, multilateral support, and deferred repayments. This is not the time to fire the bazooka.

Instead, it's time to keep a measured hand on the lever, especially as tariff rationalisation under the new National Tariff Policy (NTP 2025-30) continues to lower energy costs for export-oriented industries. Cheaper electricity and gas — if passed on to the right sectors like IT, mining, value-added agriculture, light manufacturing and services — can help Pakistan grow its exports, climb global supply chains, and attract long-term FDI.

Let exports earn the right to cut rates. Let Moody's and S&P reward discipline with credit upgrades. Let credit default swap spreads tighten, PIA and ZTBL get privatised, and DISCOs become financially viable. That's when we'll have truly earned macroeconomic space for deeper cuts.

Remittance risk: the sleeping volcano

Another red flag that must not be ignored is the government's rollback of incentives on incremental remittances — a move that could seriously dent the current account. The Rs200 billion ($700 million) subsidy in previous years catalysed nearly $8 billion in incremental inflows — a 10x multiplier by some measures. Removing this carrot risks not just a slowdown in remittances but also a hit to FX reserves and rupee stability.

If remittances stall, and imports rise as expected (especially due to reduced duties on used cars and improved cotton harvest conditions), we could see import bills swell by 15-20% over the next two years, or $9-12 billion higher by FY27. Even with gradual 3-4% annual rupee depreciation, strong export growth and a 1-2% current account deficit might be manageable – but only if we resist the urge to cut early.

Better tools than rate cuts

Instead of cutting rates broadly, the SBP should fine-tune credit where it's needed most:

a) Increase auto financing limits to support local manufacturers threatened by rising used car imports.

b) Expand low-cost housing schemes to revive construction and employment.

c) Enhance subsidised student and SME loans, especially in high-impact sectors like IT, logistics, and value-added exports.

d) Scale up green financing tools, particularly EV loans, solar leasing, and youth/agribusiness schemes under PM's programmes.

These targeted tools are far more effective than blunt rate cuts, and crucially, they don't unleash import-led growth.

Time to hold

Pakistan's real long-term growth won't come from slashing rates prematurely. It will come from shifting the engine of growth towards productivity, not consumption. That means:

Strengthening local linkages in mining and agricultural exports; promoting value-added manufacturing with predictable energy and logistics policies; deepening integration into global IT and services value chains; and clearing fiscal clutter, like privatising loss-making state enterprises, to finally create room for sustainable interest rate compression.

In the end, monetary policy is not a magic wand. It's a signal. And right now, the best signal SBP can send to global investors, credit agencies, and Pakistanis alike is stability, prudence, and patience. Because when you're walking a tightrope, the smartest thing you can do — is not jump.

The writer is an independent economic analyst