By Qudsia Bano

The US Federal Reserve’s latest interest-rate increase has renewed concerns over capital outflows, higher borrowing costs and stronger dollar pressures across emerging markets, with economies carrying substantial foreign-currency debt particularly exposed to tighter global financial conditions.

The Federal Open Market Committee on September 16 raised the target range for the federal funds rate by 25 basis points to 3.75-4.00%, reversing the easing trend seen in 2025. The Fed said inflation remained elevated and that the move would support a return towards its 2% objective.

The decision followed weeks of uncertainty over whether policymakers would tighten monetary policy or maintain rates at 3.50-3.75%.

Federal Reserve Governor Christopher Waller had highlighted that uncertainty earlier in September. In a September 3 speech, he said recent data were showing signs of disinflation and indicated that he would support keeping rates unchanged if subsequent inflation readings confirmed that improvement. However, he also left open the possibility of an increase if progress proved temporary.

The eventual rate increase has shifted attention from whether the Fed would tighten to how a renewed period of higher US rates could affect international financial conditions.

Speaking to Wealth Pakistan, Sakib Sherani, Founder and Chief Executive Officer of Macro Economic Insights and former Principal Economic Adviser to the Ministry of Finance, said the implications of a fresh US monetary tightening cycle would extend across emerging markets rather than being confined to Pakistan.

“The start of a monetary tightening cycle in the US has deep implications for all emerging markets, not just Pakistan,” he said.

Sherani said that historically, rising US interest rates had encouraged what is known as a “flight-to-safety”, as investors moved risk capital away from emerging economies and towards US assets.

For countries such as Pakistan, he said, this transmission worked through two important channels: reduced availability of international private capital and appreciation of the US dollar.

“When the US Fed starts to raise interest rates, it accelerates the so-called ‘flight-to-safety’ phenomenon whereby risk capital starts to flow back from emerging markets to the US,” he said.

This shift, Sherani explained, reduces the pool of international private financing available to emerging economies and consequently raises their cost of accessing capital.

“It reduces the potential supply of international private capital, driving up the cost of capital,” Sherani said.

At the same time, higher US interest rates can support the dollar as investors seek higher returns in dollar-denominated assets. A stronger dollar can increase the domestic-currency burden of servicing foreign-currency liabilities.

Sherani said Fed tightening “strengthens the US dollar, which in turn makes the dollar-denominated sovereign debt of countries like Pakistan more expensive in revaluation terms.”

Pakistan remains sensitive to these external financial conditions because of its sizeable foreign-currency debt stock. According to the Pakistan Economic Survey 2025-26, external public debt stood at $92.15 billion at end-March 2026, including $82.26 billion in government external debt and $9.89 billion owed to the International Monetary Fund.

The external debt portfolio also included $6.3 billion in Eurobonds and international Sukuk, exposing Pakistan to conditions in international capital markets when it seeks to refinance existing obligations or raise new commercial financing.

The impact of Fed tightening on Pakistan would therefore extend beyond movements in the policy rate itself. Higher US benchmark rates can increase the base cost of dollar financing before Pakistan’s own sovereign-risk premium is added, while shifts in international investor appetite can affect the availability of capital.

The September decision also does not necessarily establish how quickly or how far the Fed will tighten from here. The FOMC said economic activity was expanding at a solid pace, domestic spending remained resilient and inflation remained elevated, while uncertainty was still high partly because of geopolitical developments.

The Fed’s September projections also showed considerable differences among policymakers over the appropriate level of interest rates, underscoring uncertainty surrounding the future policy path.

The next scheduled FOMC meeting is on October 27-28, meaning incoming inflation, employment and economic activity data will again shape expectations over whether the September increase develops into a broader tightening cycle.

For Pakistan and other emerging economies, the significance therefore lies not simply in the Fed’s latest 25-basis-point increase but in what follows. As Sherani’s assessment suggests, a sustained US tightening cycle could reduce the availability of international private capital, raise external borrowing costs and increase the burden associated with dollar-denominated debt.

The September hike has consequently brought those risks back into focus, with the future direction of US inflation and Federal Reserve policy likely to remain important external variables for emerging-market financing conditions.

Credit: INP-WealthPk