The Standard and Poor’s (S&P) rating agency has affirmed ‘B-‘ long-term and ‘B’ short-term sovereign credit ratings for Pakistan, as the ratings remain constrained by a narrow tax base and domestic and external security risks, which continue to be high.
The rating agency stated that Pakistan faces a muted economic outlook, along with a highly stressed external position, as the government attempts to address its elevated fiscal deficit and debt stock. “We expect the sovereign’s credit metrics to remain under pressure over the medium term as a result,” maintained the agency.
The government’s securing of an IMF reform and funding programme along with considerable additional bilateral and multilateral funding, will help address near-term funding risks. Nevertheless, continued reform progress will likely be necessary to address Pakistan’s credit vulnerabilities.
“We are affirming our ‘B-‘ long-term and ‘B’ short-term sovereign credit ratings on Pakistan. The stable outlook reflects our expectations that funding from the IMF and other partners will be sufficient for Pakistan to meet its considerable external obligations over the next one to two years,” stated the agency.
The agency stated, ”The stable outlook reflects our expectations that donor and partner financing will ensure that Pakistan is able to meet its external obligations over the next 12 months and that external, fiscal, and economic metrics will not deteriorate materially beyond our current projections.”
”We may lower our ratings if Pakistan’s fiscal, economic, or external indicators continue to deteriorate, such that the government’s external debt repayments come under pressure. Indications of this would include GDP growth below our forecast, or external or fiscal imbalances higher than what we expect. Conversely, we may raise our ratings on Pakistan if the economy materially outperforms our expectations, strengthening the country’s fiscal and external positions more quickly than forecast.” the agency maintained.
The ratings on Pakistan reflect subdued expectations for the country’s economic growth, heightened external indebtedness and liquidity needs, and an elevated general government fiscal deficit and debt stock. While Pakistan has secured financial aid from the IMF and numerous other international partners to address its immediate external financing needs, fiscal and external imbalances will remain elevated over the near to medium term.
Pakistan’s very low-income level remains a rating weakness stated the agency. The subdued domestic sentiment, a negative fiscal impulse, and difficult external conditions will weigh on economic growth over the medium term.
Inadequate infrastructure and security risks continue to be structural impediments to foreign direct investment and sustainable economic growth.
The economic slowdown results from a paucity of growth drivers. In particular, real investment contracted sharply by 8.9% in the fiscal year ended June 2019, the worst performance since fiscal 2011. Prospects for a rapid recovery in investment are limited owing to the fading impulse from China-Pakistan Economic Corridor (CPEC) related projects, along with cautious sentiment in the private sector.
Nevertheless, the government has begun to implement more powerful economic reform measures, in line with its agreement to a US$6 billion, 39-month extended funding facility with the IMF. Chiefly, these include fiscal reforms aimed at increasing the government’s revenue mobilization, as well as the introduction of and commitment to a more flexible, market-determined exchange rate regime. The government’s fiscal 2020 budget, announced in July, aims to boost revenue by 1.7% of GDP this fiscal year, primarily through improvements to the government’s sales and income tax regimes.
The ratings on Pakistan remain constrained by a narrow tax base and domestic and external security risks, which continue to be high. Although the country’s security situation has gradually improved over the recent years, ongoing vulnerabilities weaken the government’s effectiveness and weigh on the business climate.
Pakistan’s economy has begun a period of structural adjustment which entails slower real GDP growth as officials address significant external and fiscal imbalances.
In view of the negative impulse stemming from the government’s nascent fiscal reforms, as well as weak domestic and external demand conditions, we expect real GDP growth to fall to 2.4% this fiscal year–a 12-year low.
Taken together with Pakistan’s relatively fast population growth of approximately 2.0% per year, real per capita economic growth will fall to an anemic 0.4%. That will contribute to a decline in Pakistan’s 10-year weighted average per capita growth to 1.8%, below the global average of 2.3% for economies at a similar level of income.
The Pakistani rupee’s approximately 25% depreciation against the U.S. dollar in fiscal 2019 has also contributed to a decline in the economy’s nominal GDP per capita. We forecast GDP per capita to fall to just above US$1,200 by the end of this fiscal year, versus US$1,565 in fiscal 2017-2018.
The S&P said its stable outlook reflected its expectations that funding from the IMF and other partners will be sufficient for Pakistan to meet its considerable external obligations over the next one to two years.
The agency, however, warned that it may lower ratings if the country’s fiscal, economic, or external indicators continue to deteriorate, such that the government’s external debt repayments come under pressure. Conversely, it may raise ratings if the economy materially outperforms expectations, strengthening the country’s fiscal and external positions more quickly than forecast.
The agency expects the current account deficit to decline somewhat over the next three years, Pakistan’s external financing and indebtedness metrics exhibit significant stress. Its high degree of external stress is marked by a continued rise in the economy’s gross external financing needs relative to its current account receipts and usable reserves; we forecast this ratio will climb to approximately 161% at the end of fiscal 2020, versus approximately 133% at the end of fiscal 2018.
However, inflationary pressure is likely to remain elevated in fiscal 2020 following the recent depreciation of the rupee. From 2020 onward, we expect inflation to gradually decline toward its long-term trend. The government’s commitment to end budget financing by the SBP (starting in July 2019) should also assist in cutting inflationary pressure over the medium term.