Challenging gross financing requirements

Pakistan is about to enter into an Extended Fund Facility (EFF) programme with the International Monetary Fund (IMF).

A July 12 press release from IMF indicated that ’The Pakistani authorities and the IMF team have reached a staff-level agreement on a comprehensive program endorsed by the federal and provincial governments, that could be supported by a 37-month Extended Fund Arrangement (EFF) in the amount equivalent to SDR 5,320 million (or about US$7 billion at current exchange rates).

This agreement is subject to approval by the IMF’s Executive Board and the timely confirmation of necessary financing assurances from Pakistan’s development and bilateral partners.’

Unlike the standby arrangement (SBA), the EFF programme focuses on not only macroeconomic stabilisation – as done in SBA – but also on economic growth. Currently, an important downside risk to bringing macroeconomic stability, and enhancing and sustaining economic growth from its current low level of around 3 percent – and which is expected to be around 3.5 percent on average over the next ten years, as per projections by a report published by BMI, which is a Fitch Solutions company – is the large amount of financing needs facing the country.

These are due to both on account debt repayment needs, and also because of current account deficit – if artificially high import controls are not applied, as has been the case over the last number of quarters, exports and other foreign inflows are generally far less than imports.

As per ‘IMF Country Report No. 24/105’, which was released on May 10, the country is facing a huge challenge in the shape of gross financing requirements.

Hence, including the current fiscal year, that is during FY2024-25 to FY2028-29, average gross financing requirements on per fiscal year basis stand at around $24.8 billion. Now add to this, the fact that Pakistan has virtually entered into a 37 month, and a $7 billion EFF programme with the IMF, which means that its repayment will also add to the already difficult gross financing requirements. As per IMF’s lending policy regarding EFF, it is stated by IMF that repayment will take place ‘Over 4½–10 years in 12 equal semiannual installments.’

As rightly pointed out in a July 22, Financial Times (FT) published article ‘Pakistan’s latest record-breaking, reality denying IMF programme’ by the State Bank of Pakistan’s (SBP’s) former acting governor, Murtaza Syed, it is indeed strange that the July 12 press release of IMF indicating about EFF related staff agreement between IMF and Pakistan, does not speak about Pakistan’s debt sustainability. Perhaps it shows that while IMF has entered into a programme with the country, it has little confidence over the sustainability of its debt.

The FT article points out in this regard: ‘Earlier this month, Pakistan secured a staff-level agreement for a record 24th tryst with the IMF. Conspicuously absent from the accompanying IMF press release was any mention of debt sustainability. This omission is both surprising and disappointing. Just this May, the IMF came as close to declaring Pakistan’s debt unsustainable as it diplomatically could without triggering a run for the hills by creditors.

In its last Staff Report, it warned that Pakistan’s path to debt sustainability was “narrow” amid “acute”, “exceptional” and “uncomfortably high” risks from elevated gross financing needs and scarce external financing…’

Hence, for anywhere near meeting its gross financing requirements, it is exceedingly important that the programme produces strong positive consequences for economic growth, and both in terms of domestic production, and exports, while also attracting a significant level of foreign direct investment.

But for that to happen, the programme conditionalities will have to significantly shift from its traditional basis of being pro-cyclical, and over-emphasizing austerity, to being counter-cyclical, and the programme emphasizing a policy of reined-in austerity.

The country has already suffered on account of over-board austerity policy whereby, on one hand, the country has apparently struggled to come out of low economic growth levels during the last two years, while banks have made huge gains in terms of profit earnings.

At the same time, high cost of capital, and rising government needs to roll over debt – not to mention high inflation rate over the same period significantly contributing to government expenditure, especially current (non-developmental) expenditure – in turn raising borrowing needs overall. This, in turn, has meant very low levels of borrowing by the private sector.

Highlighting these concerns, a recent FT article ‘Pakistan’s banks enjoy soaring profits on interest from mounting government debt’ pointed out: ‘Pakistan’s banks have enjoyed bumper profits and some of the highest returns in Asia in recent months, as two years of sky-high interest rates have driven a boom in earnings from the government debt that dominates their balance sheets. Seven of the 15 banks with the highest second-quarter total returns in the Asia-Pacific region are in Pakistan… After-tax profit in the entire banking sector almost doubled to Rs642.2 billion ($2.3 billion) in 2023, according to the State Bank of Pakistan.

During the same year, the economy of the world’s fifth most populous country contracted amid one of Asia’s worst recent economic crises. …Government borrowings for budgetary support reached Rs29 trillion at the end of June, almost double the Rs15tn borrowed three years earlier. …Pakistan has one of the lowest rates of domestic credit to the private sector as a percentage of GDP. It was just under 12 percent in 2023, down from 24 per cent in 2008, according to the World Bank.’

The repayments of IMF finances, including that of the EFF programme, are, according to IMF policy regarding lending, are ‘based on the market-determined Special Drawing Rights (SDR) interest rate’. Be that as it may, an over-emphasized monetary austerity policy overall globally has meant that SDR interest rate on average has also seen a sharp increase over the last two years, and given a world of world of poly-crisis, especially in the wake of fast-unfolding climate change crisis, and rising geo-political tensions in the Middle East, it is quite likely that pressures on inflation, especially from the supply side – just like during the global aggregate supply shock during the Covid pandemic – and in turn on policy rate will keep coming back over the medium term.

This, in turn, keeps risk levels with regard to further adding to Pakistan’s already difficult gross financing requirements at an elevated level.

This calls for not only a very cautious approach in Pakistan with regard to following pro-cyclical, and over-board austerity, but also globally, given the highly difficult consequences it has for overall global economy, and particularly for developing countries, especially when the world needs to drastically build existential threats-related resilience.

A recently released report ‘Achieving catalytic impact with the Resilience and Sustainability Trust [RST]’ by the ‘Task Force on Climate, Development, and the International Monetary Fund’ which as per the Report ‘…is a consortium of experts from around the world…’ pointed out with regard to the drastic increase in SDR interest rate that ‘Figure 1 shows how the SDR rate has escalated over the last two years, thereby amplifying RST borrowing costs.’

Hence, just like rising costs of repayments with regard to RST, Pakistan’s repayment towards IMF has also been increasing, and will continue to impact as Pakistan takes on a substantial loan under the EFF programme. Highlighting the sharp increase in SDR interest rate, ‘Figure 1’ of the Report pointed out that ‘average of SDR interest rate’ increased from near to zero: percent around the last quarter of 2022, to sharply rising to 4 percent during the third quarter of 2023, a little-over-which it has stayed since.

Copyright Business Recorder, 2024