THE State Bank of Pakistan’s decision to raise the policy rate from 11.5 to 12 percent comes at a difficult time for the economy. Inflation remains a concern, global uncertainty is growing and businesses are still struggling with high operating costs. The central bank has its reasons for taking a cautious approach, but the decision raises an important question: can Pakistan afford to slow economic activity further in its effort to keep inflation under control?
The concerns behind the decision are not misplaced. Rising tensions in the Middle East, fluctuations in international commodity prices and unpredictable weather conditions could put further pressure on Pakistan’s economy. As a country that relies heavily on imported fuel, Pakistan is particularly exposed to such developments. Any significant increase in global energy prices eventually affects transport, electricity, production costs and household budgets.
The SBP’s priority is to prevent these pressures from turning into another prolonged period of high inflation. Higher interest rates can help discourage excessive borrowing and spending, support confidence in the rupee and keep inflation expectations in check. This matters particularly for ordinary households, many of which have yet to recover from sharp increases in living costs.
But there is another side to the argument. Businesses are already dealing with expensive electricity, taxation, weak consumer demand and limited access to affordable financing. A further increase in borrowing costs could discourage investment, slow industrial activity and affect employment. The government, too, may face additional pressure through higher domestic debt-servicing costs.
There is also a limit to what interest rates can achieve. Much of Pakistan’s inflationary pressure comes from factors beyond the central bank’s control. Higher interest rates cannot bring down international oil prices, improve agricultural harvests, or fix energy-sector inefficiencies. They can reduce demand, but excessive tightening may weaken an economy that urgently needs investment and jobs. This does not mean the SBP should ignore inflation risks or rush to reduce rates. The challenge is to control inflation without unnecessarily restricting productive economic activity.
What Pakistan needs now is a coordinated, time-bound policy response rather than relying primarily on interest rates. The government should establish measurable targets for reducing energy-sector losses, rationalising non-development expenditure, improving agricultural supply chains and broadening the tax base instead of repeatedly burdening existing taxpayers. These reforms should be accompanied by quarterly public progress reports to ensure accountability.
Equally important, fiscal policy must support rather than undermine monetary stability. Government borrowing should be managed prudently, while carefully targeted, transparent financing arrangements for export-oriented industries and small businesses should encourage productive investment without creating fresh inflationary pressures. The SBP should publish clear indicators guiding future rate decisions, particularly inflation expectations, private-sector credit and industrial performance.
The latest rate increase may be justified as a precaution, but it should not become a substitute for structural reform. Monetary restraint can buy time; only credible fiscal discipline, lower production costs and improved productivity can deliver lasting stability. Pakistan’s real policy challenge is not choosing between inflation control and economic growth, but ensuring that the pursuit of one does not undermine the other.
—The author is an institutional development, finance and governance specialist.
