While macroeconomic stability improved in the first half of fiscal year 2026, the war in the Middle East poses risks to the economic outlook amid heightened uncertainty, the State Bank of Pakistan (SBP) said on Tuesday.

The SBP released its Half Year Report 2025-26 (The State of Pakistan’s Economy) on Tuesday, showing that Pakistan’s macroeconomic stability strengthened in the first half of the fiscal year despite headwinds from uncertainty regarding global trade and domestic floods.

However, the report noted that the war in the Middle East poses “significant risks to the macroeconomic outlook”, as supply chain disruptions are likely to affect the inflation trajectory, external trade and remittance flows, and the country’s economic activity, according to an SBP press release.

Discussing the outlook for FY26, the report notes that the latest data on high-frequency indicators — including Purchasing Managers’ Index (PMI), LSM and construction — suggests that economic activity maintained the momentum through February before the war began to weigh on output in the remaining month of FY26.

“Therefore, SBP projects real GDP growth close to the lower bound of the earlier projected range of 3.75 to 4.75 per cent for FY26,” the statement said, adding that despite momentum in economic activity and higher commodity prices, the current account deficit is now expected to be close to the lower bound of the earlier projected range of 0-1pc of GDP.

However, a surge in international oil prices and its impact on other commodity prices are expected to keep the National Consumer Price Index (NCPI) inflation above the upper bound of the medium-term target range of 5-7pc for most of FY27.

The report highlights that economic indicators improved significantly in the first half of FY26. It noted that average NCPI inflation eased further, while SBP’s FX purchases and net financial inflows shored up external buffers.

“These outcomes were supported by prudent monetary and fiscal policies, ongoing structural reforms, favorable commodity prices and [the] IMF programme,” the press release said, particularly highlighting the continued cautious monetary policy stance of the SBP.

“The macroeconomic stability, in turn, facilitated growth momentum,” it added.

The report further said that the real GDP in H1-FY26 grew at “twice the pace” of the same period last year, mainly driven by pickup in industrial activity followed by services and agriculture sectors. The momentum in economic activity translated into a volume-driven increase in imports in H1-FY26.

At the same time, it noted, a significant drop in rice exports led to a decline in export earnings. However, steadily rising workers’ remittances continued to finance a major part of the deficits in trade, services, and primary income balance, helping to keep the current account deficit at moderate levels.

The report also highlights that “the substantial reduction in interest payments and fiscal consolidation measures turned the fiscal balance into a surplus in H1-FY26, for the first time since FY02, while the primary surplus remained at last year’s level”.

The report further notes that “continued prudent policy mix, an improved external account position and stability in exchange rate, softened international commodity prices along with downward adjustments in administered electricity tariffs” kept inflation moderate during H1-FY26.

“The NCPI inflation averaged 5.2 per cent in H1-FY26, about two percentage points lower compared to the same period last year,” the SBP said.

According to the SBP statement, the report highlights that while Pakistan’s overall economic conditions improved, the country’s transition to a sustainable high-growth path with sustained macroeconomic stability required deep-rooted economic reforms.

“These specifically need to address the long-standing issues, including low savings and investment, weak competitiveness, falling exports, subdued foreign direct investment, and the persistently low tax to GDP ratio,” it said.

The report includes a chapter titled ‘Climate Change and its Impact on Pakistan’s Economy’, which highlights that while Pakistan’s contribution to global greenhouse gas emissions is very low, it is the 15th-most affected country by climate events.

It further noted that Pakistan is among the countries that face high levels of vulnerability to climate change and low levels of preparedness to deal with the ensuing challenges, saying, “This low readiness enhances the risks to country’s economy.”

It also pointed out Pakistan’s relatively high emissions intensity of GDP, reflecting “structural inefficiencies and a carbon-intensive growth trajectory”.

It stressed the requirement for substantial investments in climate mitigation and adaptation, which currently remain largely unmet due to low international climate inflows and challenges to domestic public and private sector financing.

The report also discusses the multifaceted macroeconomic risks to the medium-term outlook in the case of an extended war in the Middle East.

Last week, the Ministry of Finance and the SBP showed unanimous optimism over economic growth and achieving fiscal and current account targets despite the regional crisis.

In April, SBP Governor Jameel Ahmad said that while the ongoing conflict in the region has introduced new risks and heightened uncertainty about the macroeconomic outlook, the economy is relatively better positioned than during previous crises to manage these challenges.