Moody’s upgrades Pakistan’s outlook to ‘stable’ from ‘under review for downgrade’

Credit rating agency Moody's has upgraded Pakistan’s outlook from ‘under review for downgrade’ to ‘stable’, while maintaining a B3 rating, the agency said on Saturday.

The agency in its latest report also confirmed the B3 foreign currency senior unsecured ratings for The Third Pakistan International Sukuk Co Ltd. The associated payment obligations are, in Moody's view, direct obligations of the Government of Pakistan.

The agency noted that the 'review for downgrade' status had reflected Moody's assessment that the country's participation in the G20 Debt Service Suspension Initiative (DSSI) raised the risk that private sector creditors would incur losses.

“In the last few weeks, Moody's has considered the evidence of implementation of DSSI for a range of rated sovereigns and statements by G20 officials,” it said.

“While Moody's continues to believe that the ongoing implementation of DSSI poses risks to private creditors, the decision to conclude the review and confirm the rating reflects Moody's assessment that, at this stage, for Pakistan, those risks are adequately reflected in the current B3 rating,” it added.

The stable outlook reflects Moody's view that the pressures Pakistan faces in the wake of the coronavirus shock and prospects for its credit metrics in general are likely to remain consistent with the current rating level.

“In particular, while Moody's sees downside risks to Pakistan's economy because of movement and activity restrictions related to the pandemic, which would in turn intensify the government's fiscal challenges, strong support from development partners including for external financing, coupled with effective macroeconomic policies started ahead of the crisis, contain external vulnerability and liquidity risks,” it noted.

“While continued spread of the virus poses downside risks to the economy and government finances, financial and technical support from development partners mitigates external vulnerability and liquidity risks,” it said.

Moody’s also noted the Pakistani government’s commitment to the International Monetary Fund’s (IMF) Extended Fund Facility (EFF), which it expects will cover its external financing needs over the next 12-18 months and provide an anchor for ongoing fiscal reforms.

The credit agency also added it expects the country’s economic growth to be positive in fiscal 2021 (ending June 2021) from a recession in fiscal 2020, but still low at around 1-2%.

“While Pakistan's economy is relatively closed with low reliance on exports, movement restrictions due to coronavirus will keep economic activity below the pre-outbreak levels for some time,” it noted.

It added that the slow economic recovery will in turn weigh on government revenue, “Keeping the fiscal deficit wide at around 8-8.5% of GDP in fiscal 2021 under Moody's projections, at similar levels compared to fiscal 2020, and leaving the government's debt burden high at around 90% of GDP by the end of fiscal 2021.”

“Even in downside economic and fiscal scenarios, Moody's expects Pakistan to cover its external financing needs with continued significant financial support from its development partners, including the commitment to rollover most bilateral loans that come due, independent of how DSSI is implemented,” it said.

The agency said it also expects the government's ongoing engagement with development partners on fiscal reforms, such as through the IMF EFF and other programmes with the Asian Development Bank and World Bank, to contribute to a modest widening of the revenue base once the crisis passes, improving debt affordability and containing fiscal risks over the next few years.

On the subject of external financing, Moody's said the need seems to have declined relative to fiscal 2018-19 because of a narrower current account deficit, which occurred as a result of the macroeconomic adjustments over the past two years and continues to be supported by effective policies including currency flexibility.

It projected the the current account deficit to be around 2% of GDP in fiscal 2021, after 1.1% in fiscal 2020, substantially narrower than the average of around 5.5% over fiscal 2018-19.

“Stability in the balance of payments will, in turn, allow the State Bank of Pakistan, the central bank, to keep monetary policy accommodative as inflation declines. This keeps a lid on borrowing costs for the government domestically and lends further support to debt affordability,” it added.

A positive change in the country’s rating could continue if ongoing fiscal reforms were to expand the government's revenue base, raise debt affordability, and lower its debt burden beyond Moody's current expectations.

However, a change in the rating is also on the cards if downward pressure on the rating would stem from renewed deterioration in Pakistan's external position, including through a significant widening of the current account deficit and erosion of foreign exchange reserve buffers, which would threaten the government's external repayment capacity and heighten liquidity risks.