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Pakistan’s policy adjustments to offset growing external risks: Fitch

External liquidity pressures should be manageable in the near term, despite the wider current-account deficit, given Pakistan’s adequate foreign-exchange reserves and success in accessing financing.

ISLAMABAD: Fitch Ratings believes Pakistan’s recent policy adjustments and demonstrated access to external financing, as well as its commitment to a market-determined exchange rate, offset rising external risks from a widening current-account deficit. Ongoing reforms, if sustained, could create positive momentum for the sovereign’s ‘B-’ rating, which we affirmed in May 2021 with a Stable Outlook.

Increases in global energy prices and a strong domestic recovery from the initial Covid-19 pandemic shock have put additional strains on Pakistan’s external position. The current-account deficit in the fiscal year to June 2022 is set to be wider than our previous forecast of 2.2%. The State Bank of Pakistan (SBP) on 19 November 2021 raised its policy rate by a significant 150bp to 8.75%, pointing to rising risks related to the balance of payments and inflation.

We think external liquidity pressures should be manageable in the near term, despite the wider current-account deficit, given Pakistan’s adequate foreign-exchange reserves and success in accessing financing.

Official reserve assets nearly doubled to USD24.1 billion by end-September 2021 from USD12.6 billion two years ago. However, liquid foreign-exchange reserves have dropped since mid-September, which we believe may partly reflect debt repayment.

Pakistan’s near-term financing efforts have been supported by Saudi Arabia, which plans to place USD3 billion on deposit with the SBP and provide an additional USD1.2 billion oil-financing facility under a one-year support package. Its foreign reserves also received a USD2.8 billion boost in August from the IMF’s one-off global allocation of Special Drawing Rights.

Funding from these sources followed Pakistan’s successful international debt issuance through a USD2.5 billion bond in March 2021 and a follow-on USD1 billion bond as part of its global medium-term note programme. Pakistan aims to tap debt markets more regularly through the scheme, which could reduce the costs of coming to market. The authorities also plan new sukuk issuance in 2021.

Following a staff level agreement on the sixth review of the country’s Extended Fund Facility (EFF) reached on 21 November, we expect the IMF to release a further USD1 billion in funding, provided certain prior actions are met. We believe these include amending the SBP Act to formalise the central bank’s institutional independence and removing some tax exemptions. The authorities’ sustained reform efforts and commitment to the IMF programme should support access to external financing, even with global financing conditions potentially becoming more challenging for emerging markets in 2022 as global monetary policy settings grow less accommodative.

If the government retains its commitment to a market-driven exchange rate, we believe this would be a useful shock absorber to help contain external risks in the longer term. An exchange rate that supports the price competitiveness of Pakistan’s exports could over time help to reduce the country’s reliance on debt financing to balance its external accounts, which remains a credit weakness. In addition, fiscal consolidation under the EFF could help reduce external imbalances by dampening imports, while also reducing the drag of weak public finances on Pakistan’s rating.

At our rating review in May we noted that continued implementation of policies sufficient to facilitate a rebuilding of foreign-exchange reserves and easing external financing risks could lead to positive rating action. We also argued that positive rating momentum could emerge from improvements in the business environment or fiscal consolidation, if sustained over time. Continued adherence to the EFF reform agenda would increase the likelihood of achieving these outcomes, in our view. Nonetheless, political pressures could test the government’s commitment to reform, particularly if inflation accelerates from its already high levels.

Javed Mahmood
Written By

I am an experienced writer, analyst, and author. My exposure in English journalism spans more than 28 years. In the past, I have been working with daily The Muslim (Lahore Bureau), daily Business Recorder (Lahore/Islamabad Bureaus), Daily Times, Islamabad, daily The Nation (Lahore and Karachi). With daily The Nation, I have served as Resident Editor, Karachi. Since 2009, I have been working as a Freelance Writer/Editor for American organizations.

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