SBP updates on monetary policy transmission

August 11, 2026 (MLN): The monetary easing cycle that began in June 2024 resulted in a substantial reduction in the policy rate, from a recent high of 22% to 10.5% by December 2025. 

The cumulative reduction of 1,150 bps over one and a half years has been transmitted to market interest rates, the Central Bank said in its latest Monetary Policy report. 

The short-term money-market rates adjusted broadly in line with the policy rate, and the weighted-average lending and deposit rates have declined considerably from their recent peak levels.

However, the emergence of the Middle East conflict-driven supply shock significantly impacted the inflation outlook.

In response, the MPC increased the policy rate by 100 bps to 11.5% in late April 2026 to keep inflation expectations anchored, contain potential second-round effects and ensure that inflation returns to its medium-term target range.

The initial transmission of this policy adjustment is already evident in financial market rates. The overnight repo rate, on average, increased to 11.7% since the increase in the policy rate.

Meanwhile, its standard deviation declined to 0.25 from 0.39 during February-April 2026, indicating reduced volatility and more stable alignment of short-term market rates with the policy rate. Other market rates also adjusted upward in line with the policy rate.

KIBOR increased to 12.6% from 11.5%, while the weighted average lending rate rose to an average of 12.9% during May–June 2026, compared with 12.1% during February–April 2026.

However, the broader effects of the increase in policy rate on financing conditions, credit demand, output and inflation will be visible with the usual lag of about 6 to 8 quarters.

While these movements indicate the initial transmission of the monetary policy decision through short-term market and lending rates, longer-term yields capture the market’s evolving assessment of inflation risks, interest rates and the prospective monetary policy path.

In this regard, movements in the yield curve during the period under review reflected considerable uncertainty surrounding the rapidly changing geopolitical situation.

Consequently, the yield curve shifted both upward and downward as market participants repeatedly reassessed the likely duration and intensity of the supply shock and its implications for inflation and monetary policy.

Following the announcement of the ceasefire in midJune 2026, yields declined across maturities as geopolitical risks and uncertainty receded.

However, the subsequent re-escalation of the conflict in early July 2026 shifted the yield curve upward, indicating a renewed reassessment of inflationary pressures, associated risk premia, and the expected path of monetary policy. 

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