KARACHI: Moody’s credit rating agency has placed Pakistan among countries that may face serious financing issues in the extreme scenario under the ongoing US-China trade tensions as Islamabad’s reliance on foreign currency borrowing and thin reserve coverage of external debt payments have weakened its debt affordability.
While Moody’s assumes generally stable financing conditions with slowing global growth, ongoing US (AAA stable) and China (A1 stable) tensions and global flashpoints of political risk, sovereigns in emerging markets (EM) and frontier markets (FM) face a material risk of a period of heightened financing stress.
“To gauge exposure to broad or idiosyncratic financing pressure beyond our base case, we have developed a stress test assuming a severe but plausible shock,” the agency said. “We quantify the direct effects of such a stress on core credit metrics and the rating ranges they imply to determine the most affected EMs and FMs.”
Although second-round effects and policy responses would determine the full implication of any shock, the results highlighted a range of exposure among lower-rated sovereigns and those further up the rating scale, the agency said.
“Greatest exposure is among B-rated sovereigns in Asia-Pacific (APAC), Middle East and North Africa (MENA) and Latin America (LatAm), which see the sharpest deterioration in credit metrics when stressed due to weak debt affordability, reliance on foreign-currency borrowing and thin reserve coverage of external debt payments,” Moody’s Investors Service said in its sector in-depth report on “Sovereigns – Global: B-rated sovereigns in APAC, LatAm and MENA most exposed to financing stress.”
“Jamaica (B3 positive), St Vincent and the Grenadines (SVG, B3 stable), Tunisia (B2 negative), Egypt (B2 stable), Ghana (B3 stable), Angola (B3 stable), Pakistan (B3 negative) and Sri Lanka (B2 stable) are particularly exposed to a shock,” it said.
In terms of debt affordability, Sri Lanka, Pakistan, Egypt, Angola, and Ghana would see the most significant deterioration in their interest payments-to-revenue ratios compared to the baseline 2019-20 forecasts.
“This is driven by large gross borrowing requirements of between 15% and 30% of GDP annually as a result of relatively short average maturities of around five years and short-term treasury bills, on average, comprising over 30% of outstanding domestic debt,” it said.
Pakistan’s external financing gap has been alleviated by a $6 billion, 39-month IMF agreement, along with other bilateral and multilateral borrowings providing an external buffer, “however, external vulnerability remains high following years of wide current account deficits and a lack of substantial non-debt-creating foreign exchange inflows.”
“While we expect that a more market-determined exchange rate and import compression will bolster foreign exchange reserve adequacy against external debt repayments, still low levels threaten the ability of the government to refinance foreign currency debt at affordable costs,” it said.
Pakistan’s fiscal profile has been weakened further by higher interest rates following the central bank’s cumulative 750-basis-point hike over the last two years in response to external imbalances.
With the frequent rollover of short-term treasury bills, these higher domestic interest rates have rapidly increased the government’s borrowing costs.
The External Vulnerability Indicator (EVI) increases the most among sovereigns with the widest current account deficits and lowest foreign exchange reserve adequacy.
Turning to the direct impact of lower capital flows, among B-rated sovereigns, Pakistan, Belarus, Turkey (B1 negative), Sri Lanka and Papua New Guinea (PNG, B2 stable) see the largest increase in their EVI under Moody’s stress scenario, the report said.
In the stress scenario, Belarus, Ethiopia (B1 stable), Pakistan and SVG experience a two-notch rating range shift by the second year of the shock on account of changes in both fiscal strength and external vulnerability risk, while Turkey, Kenya (B2 stable), the Maldives (B2 negative), PNG and Ghana experience a one-notch rating range shift on account of both factors.
Published in The Express Tribune, September 13th, 2019.