ISLAMABAD: Fitch Ratings downgraded Pakistan’s outlook on Tuesday to negative from stable and affirmed its long-term foreign currency (LTFC) issuer default rating at ‘B-’ (B minus) due to deteriorating external liquidity position and difficult financing conditions.
The New York-based agency — one of the three major global rating agencies — noted a host of factors, including political risks, financial challenges following the reversal of commitments given to the International Monetary Fund (IMF) in February this year and external conditions for downgrading Pakistan outlook to negative.
The outlook revision came on Tuesday ahead of the rupee losing almost Rs7 against the dollar and the benchmark stock exchange KSE-100 index falling about 980 points.
It said the revision of the outlook to negative reflected a significant deterioration in Pakistan’s external liquidity position and financing conditions since early 2022.
Revision reflects significant deterioration in country’s external liquidity position, financing conditions since early 2022
“We assume IMF board approval of Pakistan’s new staff-level agreement with the IMF but see considerable risks to its implementation and to continued access to financing after the programme’s expiry in June 2023 in a tough economic and political climate,” Fitch Ratings said in a statement.
Highlighting political risks, the rating agency said renewed political volatility could not be excluded from the major risks and could undermine the authorities’ fiscal and external adjustment, as happened in early 2022 and 2018, particularly in the current environment of slowing growth and high inflation.
It noted that former prime minister Imran Khan, who was ousted in a no-confidence vote in April, has called on the government to hold early elections and had been organising large-scale protests in cities around the country.
“The new government is supported by a disparate coalition of parties with only a slim majority in parliament. Regular elections are due in October 2023, creating the risk of policy slippage after the conclusion of the IMF programme,” it said.
On foreign exchange reserves, it said limited external funding and large current account deficits (CADs) had drained forex reserves, as the State Bank of Pakistan (SBP) had used reserves to slow currency depreciation. Liquid net reserves at the SBP declined to about $10bn or just over one month of current external payments by June 2022, down from about $16bn a year earlier.
“Pakistan’s ‘B-’ rating reflects recurring external vulnerability, a narrow fiscal revenue base and low governance indicator scores compared with the ‘B’ median,” Fitch said. “External funding conditions and liquidity will likely improve with the new staff-level agreement.”
“Nevertheless, slippage against programme conditions is a risk and could quickly lead to renewed strains, while diminished foreign exchange reserves and high funding needs now leave less room for error,” it said, adding that Pakistan’s access to market finance could remain constrained.
The rating agency anticipated the fiscal deficit narrowing to 5.6pc of GDP (about Rs4.6 trillion or $22bn) in the current fiscal year from 7.5pc of GDP (about Rs5tr last fiscal year), which it said had deteriorated because of tax reductions and subsidies on fuel and electricity introduced by the previous government in February and lasted until June.
For the current year, Fitch’s forecast of the fiscal deficit is about 1pc of GDP, wider than the government’s budget target.
Fitch said its forecast of average inflation of 19pc in FY23 and 8pc in FY24 largely reflected base effects, but recent and planned future energy price hikes would all fuel broad-based inflation and mean inflation was skewed to the upside.
It said the economy had overheated last year, mostly driven by private consumption, largely reflecting a loosening of fiscal policy in FY22, as well as a fairly loose monetary policy despite significant tightening throughout the year.
“The SBP estimates that the economy was operating above potential in FY22, and we forecast slower growth of 3.5pc in FY23 amid fiscal and monetary tightening, high imported inflation, and a weaker external demand outlook, all of which will also hit household and business confidence,” it said.
Fitch estimated the CAD at $17bn (4.6pc of GDP) in the fiscal year ended June 2022, driven by soaring global oil prices and a rise in non-oil imports boosted by strong private consumption. Fiscal tightening, higher interest rates, measures to limit energy consumption and imports underpin the forecast of a narrowing CAD to $10bn (2.6pc of GDP) in FY23.
Noting large funding needs, the rating agency estimated public debt maturities in FY23 at about $21bn. Maturities of about $9bn are to bilateral creditors (chiefly Saudi Arabia and China), which should be fairly easy to roll over with an IMF programme in place. Much of the $5bn in debt to commercial banks is also to China.
“Staff-level agreement will potentially unlock $4bn in IMF disbursements to Pakistan in FY23, assuming board approval of a $1bn augmentation and extension to June 2023,” Fitch said.
Published in Dawn, July 20th, 2022