Interest rate cuts — here is what SBP needs to consider

The State Bank of Pakistan on Monday reduced its interest rate by one per cent from 12 per cent to 11 per cent, in a sign of lower inflation beginning to create opportunities for economic growth. The new interest rate is exactly half the interest rate of about a year ago in March 2024, indicating the impressive journey undertaken by Pakistan on this vital front.

Monday’s decision followed a day-long meeting of the state bank’s monetary policy committee at the SBP’s head office in Karachi. The gathering took place two months after the last such meeting in March this year when the prevailing interest rate of 12 per cent was left unchanged.

The lowering of interest rate on Monday was helped by the declining rate of inflation in Pakistan, which in April fell to 0.28 per cent, making it the lowest rate of monthly inflation in more than 50 years.

Other factors that are supporting Pakistan’s economic future include the country’s successful journey on an IMF loan of U$7 billion, which was approved in the summer of 2024. The IMF loan then helped Pakistan to successfully negotiate with its other lenders and seek terms that it could afford to honour in future.

The state bank’s decision on the interest rate is in large part driven by the falling rate of inflation. Since Pakistan’s rate of inflation fell, economic analysts have speculated a coming fall in interest rate in the coming months.

The IMF loan approved in the summer of 2024 came almost a year after Pakistan was surrounded with warnings of the country heading towards its first-ever default on its foreign debt payments.

The discussion over Pakistan’s interest rate gradually declining after signs of returning relative economic stability has brought together many segments of society.

Leading businessmen have stepped up demands for lowering interest rates so that the cost of their loans from local banks begins to decline.

For sectors such as automobiles, for example, lowering of interest rates creates the opportunity for the leasing of cars through local banks to become more affordable. Other sectors include the vast textile sector where owners of factories will now pay a lower interest rate on borrowings compared to the rate of a year ago.

But economists warn that Pakistan must consider other factors too as it lowers its interest rate. Pakistan’s national savings rate remains significantly lower than the rate of saving of other countries, which are at the same level of development as Pakistan. Reducing interest rate is likely to further reduce incentives for savers across Pakistan to increase their savings.

Besides, Pakistan’s annual economic growth rate remains between 2.5 per cent to 3.5 per cent. This is almost at par with the population growth rate of Pakistan.

Analysts say Pakistan’s economy needs to grow much faster to reach a point where the levels of poverty begin to decline and the country becomes much more prosperous.

The lower rate of inflation now recorded by the government comes after a record increase in inflation from 2022 to 2024. Though the rate of further growth of inflation recently has gone down, many middle and low-income Pakistanis have already suffered much from higher inflation in recent years.