Moody's cuts Pakistan's rating to Caa1

Moody’s on Thursday cut Pakistan’s sovereign credit rating by one notch to Caa1 from B3, citing increased government liquidity and external vulnerability risks, following the devastating floods that hit the country earlier this year.

The floods, caused by abnormal monsoon rains and glacial melt, have submerged huge swathes of Pakistan and killed nearly 1,700 people, most of them women and children.

The floods will also raise Pakistan’s external financing needs, raising the risks of a balance of payments crisis, according to the rating agency.

Moody’s outlook on Pakistan remained unchanged at negative.

The decision to downgrade the ratings to Caa1 is driven by increased government liquidity and external vulnerability risks and higher debt sustainability risks, in the aftermath of devastating floods that hit the country since June 2022. The floods have exacerbated Pakistan’s liquidity and external credit weaknesses and vastly increase social spending needs, while government revenue is severely hit,” it said in a statement.

“Debt affordability, a long-standing credit weakness for Pakistan, will remain extremely weak for the foreseeable future.”

The Caa1 rating reflects Moody’s view that Pakistan would remain highly reliant on financing from multilateral partners and other official sector creditors to meet its debt payments, in the absence of access to market financing at affordable costs.

In particular, Moody’s expects that Pakistan’s IMF Extended Fund Facility (EFF) program will remain in place and provide an avenue for financing from the IMF and other multilateral and bilateral partners in the near term.

Debt sustainability risks

Moody’s expects the fiscal deficit to widen to 7-8% of GDP for fiscal 2023, from a pre-flood estimate of 5-6% of GDP. Pressures on public finances are likely to persist in the next few years, as expenditures remain high because of reconstruction and social needs.

“Against a backdrop of increasing interest rates and weaker revenue collection, Moody’s estimates that interest payments will increase  to around 50% in fiscal 2023, from 40% of government revenue in fiscal 2022, and stabilise at this level for the next few years.”

It said a significant share of revenue going towards interest payments would increasingly constrain the government’s capacity to service its debt while also meeting the population’s essential social spending needs.

LIQUIDITY AND EXTERNAL VULNERABILITY RISKS

Further elaborating on its decisions, the rating agency said it expected Pakistan’s current account deficit to widen to 3.5-4.5pc of GDP for the next fiscal year.

“While imports of a range of goods are likely to decline as demand shrinks, imports of food and other essential items such as medical supplies will increase, while export capacity will be hit.

Earlier in the day, World Bank on Thursday projected a growth rate of 2 per cent for the Pakistani economy for the fiscal year 2022-23, a drop of 2 per cent from its previous projections in April and June 2022.

In its report, the global agency raised the projection for Pakistan to 3.2% for FY23-24.