In a startling turn of events, Pakistan finds itself in the grips of an economic crisis exacerbated by the highest interest rates in the world, maintained by its central bank, the State Bank. With an interest rate pegged at a staggering 22%, influenced by the IMF, the country’s economy is hurtling towards collapse, raising concerns among both policymakers and citizens alike. Traditionally, interest rates are employed as a tool to curb inflation by curbing demand for goods and services. The way it works under normal circumstances is higher interest rates reduce demand for goods and services by making borrowing more expensive. Therefore, businesses borrow less, and invest less, and consumers spend less. This reduces overall demand in the economy, leading to price stabilization (lower inflation). The Curious Case of Pakistan & Why Interest Rates Might Not Be Working Far from controlling inflation, the sky-high interest rates are catalyzing a downward spiral for Pakistan’s economy. The implementation of this policy in Pakistan is yielding unexpected and dire consequences. Business Closures: The exorbitant borrowing costs have dissuaded investment and expansion, leading to a wave of business closures across various sectors. The resultant unemployment adds further strain to an already fragile economy. Increased Costs for Everyone: Industries and agriculture alike are grappling with heightened operational costs, which inevitably trickle down to consumers, exacerbating the inflationary pressures on everyday essentials. Government Debt Spiral: With the government heavily reliant on borrowing, each interest rate hike further inflates the national debt, constraining resources for essential social programs and infrastructure development. Dwindling Investment: Foreign investors, deterred by the prohibitive interest rates, are hesitant to inject capital into Pakistan’s economy. This dearth of investment impedes industrial growth and stifles the potential for future economic prosperity. Caught in a vicious financial circle! Pakistan’s federal government is facing a severe financial crisis. The country’s net revenue receipts, at Rs. 5.3 trillion for the first nine months of the fiscal year is not enough to cover even a single debt servicing expense. Alarmingly, debt servicing costs reached a staggering Rs. 5.517 trillion during this period. This means the government has had to borrow heavily just to pay off existing debt, leaving very little for crucial areas like development. The situation is further strained by high defence spending, which stood at Rs. 1.222 trillion in the first nine months. This dwarfs the meagre Rs. 0.27 trillion spent on the Public Sector Development Program (PSDP), which is vital for infrastructure and economic growth. The total budget deficit has ballooned to nearly Rs. 4 trillion, representing 3.7% of GDP. This gap between income and expenditure is being plugged through domestic borrowing of Rs. 3.4 trillion and foreign loans of Rs. 0.49 trillion. In essence, Pakistan’s government is caught in a vicious cycle of debt and high borrowing costs. This is severely limiting its ability to invest in critical areas and hindering overall economic development. All of which is further multiplied under the nonsensical interest rate! While the ramifications of the interest rate hike are dire for the populace at large, one group emerges as a clear beneficiaries: the banking sector. High interest rates translate into windfall profits for banks, exacerbating the economic disparity between financial institutions and ordinary citizens. Are there any alternatives? Given the unique circumstances driving Pakistan’s inflation, alternative solutions are imperative and might also yield positive results, if they are implemented in true spirit. Reducing Production Costs: Prioritizing measures to alleviate operational expenses for businesses can help mitigate the inflationary pressures stemming from high production costs. Price Controls: Implementing targeted measures to manage the prices of essential goods, such as food and beverages, can provide relief to consumers grappling with the effects of inflation. Promoting Investment: Creating a conducive environment for domestic and foreign investment is paramount. Policies aimed at fostering entrepreneurship and incentivizing investment can catalyze economic growth and job creation. To salvage Pakistan’s economy from the brink of collapse, a multifaceted approach is urgently needed. Lowering interest rates, coupled with targeted interventions to alleviate production costs and manage inflation, presents a viable path forward. With concerted efforts and strategic policymaking, Pakistan possesses the potential to overcome its economic challenges and chart a course towards sustainable growth and prosperity.