Fitch downgrades Pakistan’s IDR rating to ‘CCC+’

KARACHI: Fitch Ratings has downgraded Pakistan’s long-term foreign currency Issuer Default Rating (IDR) to ‘CCC+’ from ‘B-’. The rating agency reasoned the worsening liquidity and policy risks for downgrading the rating of the country

Fitch typically does not assign outlooks to sovereigns with a rating of ‘CCC+’ or below.

“The downgrade reflects further deterioration in Pakistan’s external liquidity and funding conditions, and the decline of foreign exchange reserves. This is partly a result of widespread floods, which will undermine Pakistan’s efforts to rein in twin fiscal and current account deficits,” the rating agency noted.

“The downgrade also reflects our view of increased risks of policies potentially undermining Pakistan’s International Monetary Fund (IMF) programme and official financial support,” it added.

The liquid net foreign exchange reserves of the State Bank of Pakistan (SBP) were around $7.6 billion by October 14, 2022, or about a month of current external payments, down from more than $20 billion at the end of August 2021.

Before stabilising in the week ended October 14, the reserves had been falling every week since the disbursement of $1.2 billion from the IMF during the week ended September 2.

“Fiscal tightening, higher interest rates and measures to limit energy consumption and imports underpin our forecast for the current account deficit (CAD) to decline to $10 billion, 2.7 per cent of the GDP, in the fiscal year 2023, despite the hit to export revenue and import needs after the recent floods,” the report said.

Pakistan’s external public debt maturities in fiscal year 2023 are over $21 billion, mostly to bilateral and multilateral creditors, which mitigates rollover risks, and there are already agreements to roll over some of these.

The authorities estimate the flood damage at $10 billion to $30 billion, but reconstruction costs are likely to be lower, as is the impact on Pakistan’s twin deficits.

Pakistan recently received funding commitments of $2.5 billion from the World Bank (WB) and Asian Development Bank (ADB), according to the authorities, “although we understand that much of this is repurposed from ongoing programmes. It remains unclear to what degree the IMF will be able to relax Pakistan’s programme targets, or augment Pakistan’s access under the EFF.”

Fitch assumed that Pakistan will continue to receive disbursements under its IMF programme, but risks to this have risen. Fuel-price cuts from October 1, may not be compatible with commitments to the IMF. A quarterly electricity tariff adjustment due in October has yet to happen.

Finance Minister Ishaq Dar has reaffirmed commitment to the programme, but prefers a strong exchange rate, and may revisit the SBP law that was amended in early 2022 to grant the SBP greater autonomy, as previously agreed with the IMF.

The previous finance minister said before resigning that Pakistan would seek debt relief from non-commercial creditors, although he reiterated the intention to repay the $1 billion bond due in December 2022.

Prime Minister Shehbaz Sharif also appealed for debt relief within the Paris Club framework. However, the finance minister publicly ruled this out.

Pakistan’s debt to private creditors is only a small fraction of the total and the authorities maintain that they have no intention to restructure debt to private creditors.

Former prime minister Imran Khan continues to put political pressure on the government, organising protests across the country calling for early elections.

Khan’s party won by-elections in Punjab in July, defeating the incumbent government, while his party also won more national and provincial seats in by-elections held on 17 October.

Regular elections are due in October 2023, creating the risk of policy slippage after the conclusion of the IMF programme due in June.

The fiscal deficit of the country widened to 7.9 per cent of the GDP, over Rs5 trillion in fiscal year 2022, from 6.1 per cent during the previous fiscal year.

Tax reductions and subsidies on fuel and electricity account for most of the fiscal deterioration which were introduced by the previous government in February and lasted until June.

The rating agency expected a narrowing of the deficit to 6.2 per cent of the GDP, around Rs5 trillion in fiscal year 23, driven by some spending restraint and higher taxes.

“We forecast the GDP growth to decelerate to around 2 per cent in fiscal year 2023, from 6 per cent in fiscal year 2022, amid fiscal and monetary tightening, high imported inflation, a weak external demand outlook, and flood-related disruptions,” the report said.

“This is broadly in line with the government’s forecast, down from its initial target of 5 per cent and a 3.5 per cent forecast in the IMF programme. The 2010/11 floods contributed to Pakistan’s weak recovery after the global financial crisis,” it added.