Recent reports from both Standard & Poor’s (S&P) and Fitch Ratings highlight a cautiously optimistic outlook for Pakistan, buoyed by the country’s recent staff-level agreement (SLA) with the IMF. The new 37-month, $7 billion extended fund facility (EFF), finalized on July 12, 2024, is expected to provide significant economic relief. Fitch has upgraded Pakistan’s credit rating, citing increased certainty over external funding, while S&P has maintained its rating with a stable outlook, acknowledging the government’s past performance and ongoing reform efforts.

Standard & Poor’s (S&P) maintained Pakistan’s rating with a stable outlook for the current fiscal year, citing the country’s heavy reliance on foreign aid for debt obligations, high inflation rates, and political risks impacting the economic situation and structural reforms.

S&P Global Ratings affirmed its ‘CCC+’ long-term sovereign credit rating and ‘C’ short-term rating for Pakistan, with a stable outlook on the long-term rating, according to the New York-based agency, one of the top three global rating firms. It expects political uncertainty to remain high due to a fragmented political environment. The government’s ability to implement necessary reforms under the IMF program without causing significant social unrest will be crucial for policy effectiveness in the coming quarters. The agency noted that political instability since the removal of former Prime Minister Imran Khan has hindered the government’s reform efforts and adversely affected sovereign credit metrics over the past two years.

“The stable outlook balances risks to Pakistan’s external liquidity and fiscal performance over the next 12 months against the likelihood of continued support from multilateral and bilateral partners,” it stated. The agency warned of a potential downgrade if external indicators worsen rapidly. Official aid has helped boost Pakistan’s foreign exchange reserves, but the country remains reliant on ongoing support and the rollover of credit facilities to sustain its external buffers, which remain low. High debt-servicing costs continue to pressure the government’s fiscal position amid high inflation, tight monetary conditions, and political uncertainties that may impact policymaking effectiveness.

It cautioned that it could lower its ratings if Pakistan’s external indicators deteriorate or fiscal deficits widen beyond the domestic banking system’s financing capacity, potentially affecting the government’s ability to service commercial debt. “A potential sign of domestic financing stress would be further increases in the government’s interest burden, which we estimate will exceed 45% of government revenues over the next few years,” the agency added.

On the upside, S&P indicated that it might raise Pakistan’s ratings if there is a significant improvement in the country’s external and fiscal positions. Positive indicators could include a sustained increase in foreign exchange reserves, a reduction in debt-service costs relative to revenues, and extended debt maturities.

Previously, Fitch Ratings upgraded Pakistan’s long-term foreign-currency issuer default rating (IDR) to CCC+ from CCC following the country’s agreement with the International Monetary Fund (IMF). Fitch’s CCC rating denotes a speculative or junk grade, indicating a high risk of default.

In July of the previous year, Fitch had raised Pakistan’s long-term foreign currency issuer default rating from ‘CCC-’ to ‘CCC’ following IMF loan approval, though the rating still reflected significant credit risk.

“The upgrade reflects increased certainty about the ongoing availability of external funding, particularly in light of Pakistan’s staff-level agreement (SLA) with the IMF for a new 37-month $7 billion extended fund facility (EFF),” the agency stated.

Fitch highlighted that the government’s effective performance under the previous IMF agreement contributed to narrowing fiscal deficits and rebuilding foreign exchange (FX) reserves, with further improvements anticipated. However, it warned that the country’s stability could be at risk if it fails to “implement challenging reforms.”

The agency also noted that by the end of August, Pakistan will need to secure new funding assurances from key bilateral partners—primarily Saudi Arabia, the UAE, and China—amounting to approximately $4 billion to $5 billion for the agreement. “We believe this is achievable, given the strong historical support and the significant policy measures included in the recent fiscal year 2025 (FY25) budget,” Fitch said.

Fitch commended the government’s ambitious reform agenda, which aims to address long-standing structural weaknesses in Pakistan’s tax system, energy sector, and state-owned enterprises, as well as improve exchange rate flexibility and monetary policy. The agency particularly noted the target to increase the tax-to-GDP ratio by 3 percentage points from under 9% in FY24, including higher taxes on the influential agricultural sector, which will require provincial legislation.

Although foreign exchange reserves have recovered, Fitch observed that they remain relatively low. The State Bank of Pakistan (SBP) is working to rebuild FX reserves through new funding inflows and controlled current account deficits. “We estimate that official gross reserves, including gold, rose to over $15 billion by June 2024 (approximately three months of imports), up from nearly $10 billion at the end of June 2023,” the agency noted. Fitch expects reserves to approach nearly $22 billion by FY26, nearing their 2021 peak.

Both S&P and Fitch’s assessments reflect a positive view of Pakistan’s economic prospects, supported by the IMF agreement and the government’s ambitious reform agenda. Fitch’s upgrade and S&P’s stable outlook highlight the importance of continued international support and successful implementation of reforms. Although foreign exchange reserves are improving, they remain relatively low, and the country’s ability to navigate political uncertainties and secure additional funding from key bilateral partners will be crucial for maintaining economic stability and fostering growth in the coming years.