The State Bank of Pakistan (SBP) on Monday retained its key policy rate at 11%, citing moderate inflation and continued economic momentum, while warning that this year’s floods are likely to disrupt growth and increase inflationary pressures in the near term.
In its monetary policy statement, the central bank’s Monetary Policy Committee (MPC) said inflation remained relatively moderate in July and August, while core inflation continued to ease at a slower pace. Economic activity, supported by high-frequency indicators such as large-scale manufacturing (LSM), showed improvement, but the overall macroeconomic outlook has weakened slightly due to widespread flooding across the country.
“This temporary yet significant flood-induced supply shock, particularly to the crop sector, may push up headline inflation and widen the current account deficit in FY26,” it said, adding economic growth was also projected to moderate compared to earlier estimates.
Stronger economy
According to the MPC, Pakistan’s economy is more resilient now than during past flood events, citing stronger external and fiscal buffers, a low-inflation environment, and prudent policy coordination over the past two years.
It said foreign exchange reserves were stable at around $14.3 billion despite net debt repayments and a current account deficit. Tax collection by the Federal Board of Revenue (FBR) grew 14.1% year-on-year in July–August 2025 but fell slightly short of targets. In this scenario, it said, real policy rate remained sufficiently positive to anchor inflation around the medium-term target of 5-7%, although short-term inflation volatility is expected.
Floods and growth outlook
High-frequency data indicates ongoing economic momentum from the second half of FY25, with increased machinery imports, auto and cement sales, and credit to the private sector. LSM posted a 3% year-on-year increase in Q4-FY25 after three quarters of contraction.
However, satellite data shows losses to Kharif crops and supply chain disruptions, which are likely to slow down both manufacturing and services. Rabi crop prospects, however, may benefit from better post-flood conditions. As a result, GDP growth for FY26 is expected near the lower end of the earlier 3.25%-4.25% range.
External sector
The current account deficit stood at $254 million in July, driven by higher imports and lower remittances. Despite this, FX reserves stayed stable, projected to rise to $15.5 billion by December 2025, assuming planned official inflows materialize.
Flood-related crop losses may widen the trade deficit, though improved U.S. market access and historically resilient remittances could help offset the impact. The current account deficit is projected to remain within the 0-1% of GDP range for FY26.
Fiscal and credit conditions
The Rs. 2.4 trillion profit transfer from the SBP to the government, as well as increased petroleum levies, are expected to generate a primary surplus in Q1-FY26. However, the MPC warned that floods could raise government spending and potentially slow down revenue growth. It reiterated the need to broaden the tax base and reform loss-making state-owned enterprises to create room for development and social spending.
On the credit side, broad money growth slowed to 13.9% year-on-year as of Aug. 29. Private sector credit grew 14.1% year-on-year, with increased lending in textiles, telecom, and retail sectors. Credit demand is expected to remain robust, despite possible post-flood slowdowns.
Inflation outlook
Headline inflation climbed to 4.1% in July but dropped to 3% in August, reflecting food and energy price volatility. Core inflation continued to decline gradually.
However, the floods have raised uncertainty, especially regarding food inflation. Weekly price data shows notable increases in perishables and wheat. While recent adjustments in electricity tariffs may soften the blow, inflation is still likely to exceed the 5-7% target range in the second half of FY26, before easing back within range in FY27. “This inflation outlook is subject to multiple risks, particularly from the evolving flood situation, volatile global commodity prices, and unexpected energy price adjustments,” the MPC cautioned.