FeaturedNationalVOLUME 19 ISSUE # 30-31

Pakistan’s economic struggles: Debt burden and fiscal policies

Moody’s, a leading international credit ratings agency, has issued a cautionary statement regarding certain emerging markets, notably Pakistan, which may soon exhaust their foreign exchange reserves to service their debts, thereby maintaining elevated near-term default risks.

Pakistan’s fragile $350 billion economy has been striving for stability through enhanced economic cooperation with regional allies and has sought loans from multilateral partners and global financial institutions to address a persistent balance of payments crisis. Last year, the nation narrowly avoided a sovereign default through an eleventh-hour agreement with the International Monetary Fund (IMF), and it is currently negotiating another loan program with the IMF to manage its escalating debt servicing obligations.

The international credit ratings agency says Pakistan’s fragile $350 billion economy has been grappling to regain stability, seeking amplified economic cooperation and collaboration with regional allies. Islamabad has persistently pursued loans from multilateral partners and global financial institutions to navigate a persistent balance of payments quagmire.

Last year, the nation teetered on the precipice of a sovereign default amidst a severe macroeconomic crisis, narrowly averting catastrophe through an eleventh-hour agreement with the International Monetary Fund (IMF). Currently, Pakistan is engaged in negotiations with the IMF for another loan program.

Pakistan’s aggregate debt and liabilities escalated at a double-digit rate to an unprecedented Rs81 trillion over the past year. This surge has compounded the nation’s struggle to secure new financing sources to meet escalating debt servicing obligations, exacerbated by subpar credit ratings.

Data from the State Bank of Pakistan (SBP) reveals that by the end of March, Pakistan’s total debt and liabilities swelled by Rs8.4 trillion compared to the preceding year, culminating in a record Rs81 trillion, with Rs4.4 trillion ascribed to liabilities.

This staggering burden now represents three-fourths of the national economy and exceeds the statutory limit delineated in the Fiscal Responsibility and Debt Limitation Act by approximately 15% of the GDP. The rate of debt and liabilities augmentation stood at 12%, averaging Rs31 billion daily over the past year. Despite a deceleration in debt accumulation due to a stabilized exchange rate and the absence of substantial foreign funding, even with the IMF program, the situation remains precarious.

Compared to a year earlier, the rupee’s value stabilized, showing marginal improvement. This stability mitigated the increase in external debt, aided by low credit ratings that deterred foreign commercial banks from extending new loans to Pakistan. Successive governments’ austerity measures have largely remained theoretical, failing to yield substantial benefits. No administration has enacted meaningful reforms to curb debt growth. The three primary political parties have faltered, displaying an apparent unwillingness to embark on the arduous path of debt restructuring.

Prime Minister Shehbaz Sharif’s administration has sanctioned additional grants to bestow honorariums upon officials in the Prime Minister’s Office and the Defence Production sector. Moreover, supplementary funds have been allocated for the refurbishment of the PM’s Office and subsidies for Azad Jammu & Kashmir.

The finance ministry had initially allocated Rs7.3 trillion for interest payments in the current fiscal year. However, these payments are projected to escalate to Rs8.3 trillion. The burden of debt servicing remains unalterable until the central bank reduces the key policy rate and the government successfully negotiates with commercial banks for a rate reduction.

According to data from the State Bank of Pakistan (SBP), by the end of March, the gross public debt, directly managed by the finance ministry, amassed to Rs67.5 trillion. The previous fiscal year witnessed a federal budget deficit soaring to an unprecedented Rs6.7 trillion, a consequence of the expansionary and politically charged fiscal policies implemented by the PDM government.

Moody’s rating agency highlighted that without new or additional foreign currency financing from development partners, countries like Pakistan, Argentina, and Tunisia are likely to utilize their foreign exchange reserves to repay debt. This strategy will deplete their foreign exchange liquidity buffers, maintaining high near-term default risks.

Moody’s Investors Service, one of the preeminent global rating agencies, periodically publishes assessment reports to aid clients in mitigating economic and financial risks. Their latest report underscores significant debt repayments by emerging markets, including Pakistan, over the next two years. The report also noted that inflation and labor market dynamics could sustain higher interest rates, thereby diminishing debt affordability for nations such as Pakistan, Egypt, Kenya, and Nigeria.

According to the report, interest payments for Bahrain, Egypt, Nigeria, and Pakistan are likely to surpass one-third of their total revenue by 2028. For Egypt, Nigeria, and Pakistan, prolonged high-interest rates would further deplete their already limited fiscal resources, hindering their ability to respond to economic shocks or invest in long-term credit-enhancing policies.

This scenario will impair these nations’ efforts to bolster resilience against climate shocks and reinforce their social safety nets. Moody’s also observed that while some countries, including Egypt and Pakistan, have made attempts to extend their debt maturities and reduce exposure to interest rate risks, achieving this in a high-interest rate environment remains challenging.

The report highlights the precarious economic situation faced by Pakistan and other emerging markets, underscoring the significant debt repayments due in the next two years and the potential depletion of foreign exchange reserves. Despite some efforts to extend debt maturities and reduce interest rate risks, Pakistan’s struggle with high-interest rates, substantial debt accumulation, and limited fiscal resources continues to hinder its economic stability and resilience against future shocks. The ongoing negotiations with the IMF and the need for substantive economic reforms remain critical for Pakistan to navigate its financial challenges and avert the looming threat of default.

As Pakistan navigates its economic tumult, the path forward remains fraught with challenges. Moody’s insights highlight the precarious nature of Pakistan’s financial health, emphasizing the critical need for structural reforms and prudent fiscal management. Without significant policy shifts and international support, Pakistan’s efforts to stabilize its economy and reduce debt burdens may face significant obstacles. The government’s decisions in the coming months will be pivotal in shaping the nation’s economic future.