S&P downgrading of Pakistan's credit rating
EDITORIAL (May 20 2008): The sad news, though shocking, was expected for some time. Standard and Poor's Rating Services on 15th May lowered its long-term foreign currency debt rating on Pakistan to 'B' from 'B+' and its long-term local currency rating to 'BB-' from 'BB'.
"The outlook is negative. In tandem with the lowering of sovereign credit rating, we are also lowering the Transfer and Convertibility Assessment rating on Pakistan to 'BB-' from 'BB'," added the S&P. According to a statement by Agost Benard, a credit analyst of S&P, the negative outlook reflects the assessment that Pakistan's vulnerabilities may be accentuated further, given that the emergence of a stable, cohesive and effective physical environment needed to tackle mounting macro-economic imbalances does not seem to be at hand.
"Following a year of turbulence accompanying Pakistan's transition to democratic rule, macro-economic management and policy formulation remains significantly constrained by the precedence of political imperatives in the context of coalition and historical rivalry between the two main partners," Benard pointed out.
The downgrading of rating by S&P was backed by a proper analysis of the current situation. Its report observed that in a sharp reversal of years of consolidation, the general government fiscal deficit (excluding grants) was set to reach about eight percent of the GDP in fiscal 2008, well above the four percent of fiscal target and the average 3.7 percent for the past five years.
Significant expenditure overruns due to rising subsidies and interest costs, defence and capital spending were exacerbated by the apparent atrophy of an already weak revenue effort. If the current trend persists throughout the year, Pakistan's revenue to GDP ratio could decline to about 14 percent from 15.3 percent in FY07.
Fiscal shortfall of this magnitude, in conjunction with adverse changes in the financing mix towards short-term higher-cost domestic borrowing and commercial external borrowing, would jeopardise Pakistan's favourable debt dynamics and its debt-to-revenue ratio could rise to about 400 percent against the median 171 percent for similarly rated countries.
In the external sector, a rapid rise in the oil import bill and stagnant exports are yielding record current account deficits, projected to reach 7.3 percent of GDP for fiscal 2008. "With the underlying negative political setting partly causing as well as prolonging the fiscal and external deterioration, an improvement in the rating on outlook is not envisaged unless a fundamental shift occurs".
From the above analysis, it is more than obvious that there is no ulterior motive of any party or some kind of conspiracy of silence involved and downgrading of Pakistan's credit rating is based on a fundamental shift in some of the major indicators of the economy and continuous political instability in the country. The outlook perhaps would have been more negative if the S&P had taken into account the most recent political events in the country which point towards a likely confrontation between the two main political parties and further deterioration in the external sector accounts.
The fact of the matter is that nuclear-armed Pakistan has been through a tumultuous 14 months since President Pervez Musharraf tried to dismiss the top judge in March last year. The crisis was followed by emergency rule, general elections in February, 2008, formulation of a four-party coalition government at the centre and then quitting of the second biggest party from the government.
The lawyers' community continues to be in revolt and the country is now standing at a juncture where nobody can even predict with some degree of confidence the course of events in the next few months. Economic woes of the country are also multiplying.
Inflation rate is high and increasing, current account deficit has widened to unsustainable level, government spending has caused the budget deficit to balloon and the rupee continues to be under tremendous pressure despite State Bank's occasional intervention in the foreign exchange market. The worst part is that political imperatives are dominating the scene while the economy continues to drift. The outgoing Finance Minister had indicated that the country would try to attract inflows of about 3-3.5 billion dollars to tide over the situation but the plans of the new Finance Minister are still unknown.
There is no ambiguity about the undesirable consequences arising from downgrading of Pakistan's credit rating. Both foreign and domestic investors would become jittery and try to avoid the country. In fact, foreign investment is already down by a sizeable margin. This would adversely affect the growth rate of the economy, increase unemployment and may drive the rupee to new lows.
The negative outlook would also hurt the government's ability to raise foreign debt, especially at a time when the country is facing a huge current account deficit and experiencing a consistent decline in its foreign exchange reserves. Venturing into the international debt market would become more difficult and expensive and the proposed issues of sovereign bonds may have to be put on hold.
In our view, there could be no two opinions about the urgent need to revert to the path of economic emancipation and political stability which is basic to the improvement of credit rating and a positive change in the country's perception.
The restoration of investors' confidence is of utmost importance, at least till the time the country is dependent on foreign resources for a respectable level of investment. The leaders of the country could send a positive signal in this regard by avoiding a confrontational attitude and giving democracy a chance to flourish.
Business Recorder [Pakistan's First Financial Daily]
