A new stand-by arrangement with the IMF: here are some key points

The wait is finally over for Pakistan, literally on the day the Extended Fund Facility (EFF) was scheduled to expire. Early morning on Friday, it was announced that Pakistan and the International Monetary Fund (IMF) reached a staff-level agreement on a fresh nine-month, $3 billion stand-by arrangement (SBA) with an Executive Board meeting expected by mid-July.

The news comes as a major breakthrough for Islamabad that ran from pillar to post to meet conditions of the Washington-based lender only to see an incessant delay on a successful completion of the ninth review. During this time, the public was alienated, heavy taxes were imposed, and questions were raised on Pakistan’s debt obligations.

With a new SBA, which runs through July-March of fiscal year 2023-24, here are some key points to keep in mind as Pakistan navigates the coming months.

• The IMF Executive Board is likely to meet by mid-July to formally approve the new arrangement with Pakistan

• This is not good news for short sellers. Majority of investors are likely to see this as a major positive and the KSE-100, a benchmark for market performance, is likely to get an upward push when the holidays are over

• Pakistan’s dollar-denominated bonds are likely to see their rally continue as well

• A ratings upgrade could be on the horizon after several downgrades announced by Moody’s, Fitch Ratings, and S&P

• The new facility also unlocks access to capital markets for Pakistan, opening up avenues for lending as it looks to finance its external funding gap. Pakistan has budgeted $1.5 billion as a Eurobond/International Sukuk for fiscal year 2023-24. This amount is likely to be dependent on the rates it is offered in the international market

• Pakistan’s foreign exchange reserves, currently under $4 billion according to latest available data, are likely to get a boost as Saudi Arabia, UAE, and other bilateral partners also come through

• This is a fresh nine-month programme, implying that to move forward, there will be a new set of conditions to keep the SBA going

• It gives some room to the government ahead of elections, and takes the onus off the ‘caretaker setup’ to take measures for the economy

• The IMF will keep a close eye for the next nine months to ensure Pakistan does not sway from its economic measures. The key things it will look at will be the imposition of the petroleum development levy (the new ceiling is Rs60)

• The IMF acknowledged that Pakistan’s economy faced several external shocks, but was quick to point out that there were “some policy missteps” including “shortages from constraints on the functioning of the FX market”. The exchange rate and gap between inter-bank and open markets will be closely followed

• The IMF highlighted that “liquidity conditions in the power sector also remain acute”. This could imply that a power tariff hike is likely. Another scenario could be settlement of circular debt through dividend payouts. We will have to wait and watch

• The lender wants that the revised budget be executed as planned, and that “authorities resist pressures for unbudgeted spending or tax exemptions in the period ahead”. Scrutiny on tax exemptions/subsidies will be high, and the new SBA could be derailed if measures that benefit the government’s vote-bank are announced ahead of elections

• A watchful eye will also be on the State Bank of Pakistan (SBP), and how it handles its monetary policy as well as import prioritisation/exchange rate. The rupee could appreciate in the short-term, but the IMF wants “full determination of the exchange rate”. In other words, the rupee should appreciate and depreciate depending on Pakistan’s dollar liquidity. With import restrictions now removed, there will be pressure on the rupee as well

• The IMF said the SBP should remain proactive to reduce inflation, and maintain a foreign exchange framework free of restrictions on payments and transfers for current international transactions and multiple currency practices. This could mean that the key policy rate is likely to remain high in the short-term, and anchored inflation will remain a priority

• Pakistan will need to mobilise financial support from multilateral institutions and bilateral partners, and convert them into tangible inflows. So far, inflows that have been pledged/committed have not landed in Pakistan’s official accounts

• In addition, viability of the energy sector (including through a timely FY24 annual rebasing), improving governance of state-owned entities, and strengthening the public investment management framework, including for projects needed to build resilience to climate change, are to remain focus areas