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Fitch Ratings Downgrades Pakistan Amid Dicey Outlook

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Fitch Ratings – a major global rating agency – has downgraded Pakistan’s long-term foreign currency issuer default rating (IDR) to ‘B-’ ahead of a major maturing Eurobond repayment worth $1 billion in April 2019.

Besides, the country is to repay $7-9 billion in debt servicing per year over the next three years. The rating was downgraded as Pakistan’s capacity to repay weakened due to fast shrinking foreign currency reserves, which depleted to a critically low level of $7.26 billion as on December 7, 2018 covering just one and a half month of imports, it said.

“The downgrade reflects heightened external financing risk from low reserves and elevated external debt repayments as well as a continued deterioration in the fiscal position, with a rising debt/GDP ratio,” Fitch said in a statement on Friday.

“External debt servicing will stay high throughout the next decade, with the China-Pakistan Economic Corridor (CPEC)-related outflows set to begin in the early 2020s,” it said.

“We also project high gross financing needs, with expected narrowing of the current account deficit being offset by higher external debt service payments relative to last year.”

The US-based rating agency noted Pakistan had yet to reach an agreement with the International Monetary Fund (IMF) for a bailout package as it remained engaged with the Fund since October.

“Successful negotiations (with the IMF) could attract more stable and sustained financing by opening up budget support from the World Bank and the Asian Development Bank and by improving access to bilateral lending and global capital markets,” it said.

“Fitch estimates that in the absence of an IMF programme, liquid foreign exchange reserves would continue falling to $7 billion by the end of fiscal year 2019,” Fitch said in a statement on Friday.

The agency made such estimates after incorporating Saudi Arabian financial assistance of $6 billion ($3 billion in cash for one year and $3 billion in deferred oil import payments for three years) for Pakistan.

“Bilateral financial assistance, including $3 billion in short-term financing from Saudi Arabia…along with undisclosed commitments from China and the UAE, has helped plug the near-term financing gap,” it said.

Fitch’s rating downgrade on Friday coincided with the release of the second tranche of $1 billion by Riyadh, boosting Pakistan’s reserves to over $8 billion, according to the State Bank of Pakistan (SBP).

Stable outlook, But Downgraded?

“The outlook is stable,” the rating agency added. “Reduced infrastructure capacity constraints, particularly in the energy sector, following CPEC investments, along with improved national security, could support growth in the medium term.”

Rupee depreciation (32% against the US dollar in the last 12 months), lower crude oil prices and newly imposed import duties will drive a deceleration in imports, while exports are likely to strengthen gradually. “However, this may not be sufficient to re-build reserve buffers sustainably,” it said. “Better fiscal coordination between the federal and provincial governments is also planned through the Fiscal Coordination Committee,” it pointed out.

Pakistan’s debt/GDP ratio rose to 72.5% in the previous fiscal year 2018, from about 67% in FY17, due to rupee depreciation and a widening fiscal deficit. “Fitch forecasts that the debt ratio will rise further to 75.6% of GDP in FY19 on additional rupee depreciation,” it said. “Debt is mainly denominated in local currency, but the pace of external borrowing has increased in the past two years.”

The accumulation of losses in public-sector enterprises poses a contingent liability for the government. So-called circular debt in the energy sector has continued to rise in the past few years and stands at about 3% of GDP due to inefficiencies, low tariffs and inadequate tariff collection, it noted.

Fitch forecasts that GDP growth will fall to 4.2% in FY19, from a 13-year high of 5.8% in FY18, as monetary and fiscal tightening measures begin to weigh on activity. “However, this remains above the current ‘B’ category median GDP growth of 3.5%.”

Inflation has surged due to significant rupee depreciation and higher energy prices. Fitch expects inflation to increase to an average of 7% in FY19, from 3.9% in FY18. Geopolitical tensions with neighbouring countries and issues around compliance with intergovernmental Financial Action Task Force (FATF) standards also pose risks.

The new government has an ambitious structural reform agenda aimed at improving institutional governance and the business environment. This agenda could enhance medium-term policymaking and boost growth but there are significant implementation challenges. “Entrenched vested interests, internal coalition dynamics and a strong opposition could prevent the enactment of broad-reaching reforms.”

Originally Published in Tribune

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