The State Bank of Pakistan surprised financial markets on Monday by reducing its policy rate by 50 basis points to 10.5 percent, defying near-unanimous expectations of a pause. The decision, announced by the Monetary Policy Committee, will take effect from December 16, 2025, and marks an early recalibration of monetary policy at a time when most analysts believed easing would be deferred until much later in the fiscal cycle.
Prior to the announcement, market sentiment had firmly priced in a status quo. Brokerage houses and analysts had pointed to fading base effects that previously kept headline inflation subdued, early signs of a widening current account deficit, and the fragile nature of Pakistan’s economic recovery. A Reuters poll conducted earlier this month reflected this caution, with all 12 respondents expecting no change in the policy rate and many forecasting the first cut only toward the end of FY26 or even in FY27.
The Monetary Policy Statement released alongside the decision provides insight into why the central bank chose to move against consensus. According to the MPC, the rate cut is anchored in three concurrent conditions that together altered the risk-reward balance of maintaining a tight stance. First, headline inflation averaged within the 5 to 7 percent target range during July to November FY26. The committee stressed that this was not a one-off outcome but a sustained, multi-month trend, reinforcing confidence that disinflation has taken hold at a headline level.
Second, the MPC highlighted benign global commodity prices and anchored inflation expectations as stabilising forces. This assessment suggests that the SBP believes short-term price shocks are unlikely to translate into persistent second-round inflation effects. Market participants had earlier feared that easing too soon could reignite inflationary pressures, but the central bank’s view is that expectations remain sufficiently contained to manage that risk.
Third, even after the cut, the MPC assessed that the real policy rate remains adequately positive. This indicates that monetary conditions are still restrictive enough to manage inflation dynamics, despite the reduction. While the SBP acknowledged that core inflation remains sticky, it concluded that it is not yet strong enough to dominate the broader inflation trajectory.
The growth outlook also played a meaningful role in the decision. The MPC’s tone on economic activity was noticeably more optimistic than in previous meetings. Large Scale Manufacturing expanded by 4.1 percent year-on-year in the first quarter of FY26, surpassing expectations and pointing to a broad-based recovery. Automobile, fertiliser, and cement sales were cited as indicators that investment and production are responding to earlier easing measures. The committee also noted favourable agricultural signals, including wheat acreage and improved input availability, which could support output and limit food inflation pressures while strengthening rural incomes.
As a result, the SBP now expects GDP growth to land in the upper half of the 3.25 to 4.25 percent range for FY26, signalling confidence closer to 4 percent. The MPC also drew links between stronger commodity-producing sectors and expansion in services, reinforcing the recovery narrative.
Despite this optimism, the external sector remains a constraint. The current account deficit stood at $0.7 billion during July to October FY26, broadly in line with expectations. Stable foreign exchange reserves, supported by IMF inflows and SBP purchases, alongside resilient remittances, have provided comfort, but the statement acknowledged ongoing risks. Export pressures, particularly in food items like rice, uncertain global trade dynamics, and subdued financial inflows continue to weigh on the outlook. These factors explain why the rate cut was measured rather than aggressive.
On the fiscal front, the MPC flagged slowing FBR revenue growth of 10.2 percent year-on-year, well below what is required to meet annual targets. This raises challenges for achieving the primary surplus, especially given reliance on one-off SBP profits. The committee underscored that monetary easing cannot replace fiscal reform, pointing to tax base expansion and privatisation of loss-making state-owned enterprises as longer-term necessities.
The MPC also outlined forward risks, including potential inflationary pressures toward the end of FY26 from low base effects, energy price adjustments, fiscal slippages, and global commodity volatility. However, inflation is expected to return to target in FY27, framing these risks as temporary rather than structural.
Market reaction reflected the surprise. Analysts reiterated that the decision ran counter to prevailing expectations, though the detailed policy rationale has helped clarify the SBP’s confidence in inflation control and cautious optimism on growth. The 50 basis point cut appears to be a calibrated move aimed at supporting recovery without undermining macroeconomic stability.
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