Due to the dramatic worsening in external liquidity and funding conditions as well as the drop in foreign exchange reserves to dangerously low levels, Fitch downgraded Pakistan’s Long-Term Foreign-Currency Issuer Default Rating (IDR) on Tuesday from “CCC+” to “CCC-.”
In accordance with its policy of not providing outlooks to ratings of “CCC+” or below, no outlook was given to the nation.
The agency’s rating action commentary, said, “While we assume a successful conclusion of the 9th Review of Pakistan’s IMF program, the downgrade also reflects large risks to continued program performance and funding, including in the run-up to this year’s elections. Default or debt restructuring is an increasingly real possibility, in our view.”
It referred to Pakistan’s meagre foreign exchange reserves, stating that as of February 3, 2023, the State Bank of Pakistan’s (SBP) liquid foreign exchange reserves were at $2.9 billion, or less than three weeks’ worth of imports.
From a peak of more than $20 billion at the end of August 2021, the reserves have decreased.
Fitch Ratings Statement Over Pakistan’s Rating
“We expect reserves to remain at low levels, though we do forecast a modest recovery during the remainder of FY23, due to anticipated inflows and the recent removal of the exchange rate cap,” the agency said.
It stated that foreign public-debt maturities totaling over $7 billion in the remaining fiscal year ending June 2023 (FY23) and would remain high in FY24 in response to the significant refinancing risks.
The remaining $7 billion for FY23 is made up of $1.7 billion in loans from Chinese commercial banks that “we also assume will be refinanced in the near future” and $3 billion in deposits from China (SAFE) that are likely to be rolled over.
It further said that the SAFE deposits would mature in two installments of $2 billion and $1 billion each.
Pakistan’s current account deficit may grow once more despite a recent decline. The current account deficit of Pakistan decreased from $9 billion in 2H21 to $3.7 billion in 2H22.
After a deficit of $17 billion (4.6 percent of GDP) in FY22, Fitch predicted a full-year deficit of $4.7 billion (1.5 percent of GDP) in FY23.
Import limitations, the availability of foreign exchange, budgetary restraint, increased interest rates, and initiatives to reduce energy usage all had a major role in this.
The ratings agency said that the backlog of unpaid imports trapped in Pakistan’s ports suggested that whenever fresh funding was made available, the current account deficit may worsen once further.
“Nevertheless, exchange-rate depreciation could limit the rise, as the authorities intend for imports to be financed through banks, without recourse to official reserves,” it said.
Remittance inflows may also resume after being partially diverted to unauthorized routes in 4Q22 to take advantage of better exchange rates on the black market, the report added.
The 9th Review of Pakistan’s IMF program, which was initially due in November 2022, has been delayed due to issues with revenue collection, energy subsidies, and policies that are incompatible with a market-determined exchange rate, according to the ratings agency, citing the challenging IMF conditions.
“We understand that the completion of the review depends on additional front-loaded revenue measures and increases to regulated electricity and fuel prices,” Fitch said, adding that the IMF’s demands were likely to prove politically and socially challenging in light of the devastation caused by last year’s widespread flooding as well as the sharp economic slowdown and high inflation.
In the absence of an IMF plan, which was also essential for additional multilateral and bilateral finance, longstanding allies China, Saudi Arabia, and the United Arab Emirates appear reluctant to offer new aid, contributing to the recent funding difficulties.
However, following the conclusion of the IMF staff visit to Pakistan on February 9, the authorities seem to be close to reaching an agreement on the 9th program review and have already taken steps that should help.
This includes what appears to be the lifting of a rupee exchange rate ceiling in January. The prime minister has stated his intention to stay in the program on numerous occasions.
Pakistan has additional funding in the process, including $3.5 billion from other multilaterals in FY23, in addition to the remaining $2.5 billion in IMF disbursements. However, those would be opened up following a deal with the IMF.
In addition to rollovers of existing financing, there have been indications of allies considering further pledges totaling more than $5 billion; however, the number and terms of these agreements are still unknown.
At a conference for flood assistance in January 2023, Pakistan received $10 billion in promises, primarily in the form of loans.
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