Can rate cut backfire?

LAHORE: Inflation in the month of August fell to 3.0 per cent, emboldening government and businesses to call for a drastic reduction in policy rates. Yet the situation is not favourable at all. The economic landscape is battered by catastrophic floods, a stressed currency, and lingering structural weaknesses, calling for extreme caution.

The State Bank of Pakistan (SBP) will have its next monetary policy announcement on Monday (September 15), and all stakeholders will be carefully watching the central bank’s moves. In such circumstances, the SBP’s independence and prudence are not luxuries; they are vital safeguards for the nation’s economic stability.

It is tempting to view declining inflation as a green light for aggressive rate cuts. But context matters. Recent floods have devastated agriculture, disrupted supply chains and damaged infrastructure, threatening inflation’s downward trend. At the same time, the rupee faces persistent pressure amid widening external account challenges. A sharp reduction in interest rates at this juncture could weaken the currency further, erode investor confidence and push Pakistan into another round of inflationary pain.

This is where the SBP’s autonomy comes into sharp focus. History shows that in every economic crisis, central bank independence is tested — often undermined for years. Governments, unwilling to take politically unpopular steps like cutting expenditures or raising taxes, turn to central banks to deliver short-term relief. The temptation is strong: lower rates can stimulate credit, appease businesses and offer a political win. But such moves, if divorced from fundamentals, sow the seeds of deeper crises.

Pakistan’s economic challenges are structural, not cyclical. For decades, the country has lived beyond its means, relying heavily on borrowing while failing to broaden its tax base or reform state-owned enterprises. Each crisis — whether triggered by flawed governance, external shocks or natural disasters — reinforces this cycle. The SBP’s role as a stabilising anchor is therefore more important than ever. Its cautious stance on rates may be unpopular, but it is essential for preventing currency collapse, restoring investor trust and shielding the poor from another bout of runaway inflation.

It is worth remembering that in crises, the poor bear the heaviest burden. Unlike developed economies with robust welfare systems, Pakistan’s most vulnerable have no safety nets. Job losses, rising food prices and dwindling purchasing power hit them hardest, while economic recovery benefits them last. If monetary policy is compromised to favour short-term relief over long-term stability, these citizens will once again pay the steepest price.

Many countries have faced similar crossroads and emerged stronger by empowering their central banks, not undermining them. Pakistan must follow suit. The SBP should hold its nerve, resist populist pressure and focus on stabilising the rupee, taming future inflationary risks and creating conditions for sustainable growth.

For the government, the message is clear: monetary policy is not a substitute for fiscal discipline. Reducing extravagant expenditures, mobilizing domestic revenue, and implementing reforms are the only sustainable ways to address Pakistan’s economic woes. Until then, the SBP remains the last line of defence against instability — a role it must play with independence and resolve, no matter how loud the calls for easy money become.