ISLAMABAD – Pressure on capital flows and the exchange rate continue toerode foreign exchange reserves and exacerbate external vulnerability forPakistan, says Moody’s Investors Service.
Moody’s in its latest report ‘Sovereigns — global, weakest MENA and APACsovereigns would be most sensitive to an interest rate shock’ states that,
Pressure on capital flows and the exchange rate would erode foreignexchange reserves and exacerbate external vulnerability. This isparticularly relevant for Lebanon, Pakistan, Bahrain, Jordan and Sri Lanka(although the latter is moving toward a more flexible exchange rate). ForLebanon, and to some extent Pakistan and Jordan, relatively low externaldebt as a share of total government debt would mitigate liquidity pressuresshould a shock materialize.
At a sovereign level, exposure is highest for Lebanon, Egypt, Pakistan,Bahrain and Mongolia, followed by Sri Lanka and Jordan.
Exchange rate shocks would exacerbate negative credit effects for Mongoliaand Ghana, since a currency shock would likely accompany a higher cost ofdebt. For others, defending fixed or managed exchange rates could pressurereserves, particularly relevant for Lebanon, Pakistan, Bahrain and Jordan.
The report further states that for five of the 10 most exposed sovereigns –Lebanon, Pakistan (B3 stable), Mongolia (B3 stable), Sri Lanka (B1negative) and Bahrain (B1 negative) – assessment of fiscal strength is“very low (-),” the weakest on the 15-rung scale in global sovereign ratingmethodology.
While weak fiscal strength is already a key feature of these countries’credit profiles, deterioration in fiscal metrics that would furtherexacerbate liquidity and external risks could weaken credit quality ineither of the two potential shocks that we study.
For Pakistan and Bahrain, interest to revenue would rise to 37 percent and35 percent, respectively, by 2021 under the moderate shock scenario,compared with around 30 percent in the baseline. These very high levelscould strain market access and weigh on credit quality.
In Asia Pacific, Pakistan, Mongolia, Sri Lanka and the Maldives are mostexposed to a higher cost of debt that feeds mostly through weaker debtaffordability. The interest-to-revenue ratio rises between 7.5 percentagepoints in Pakistan and 3 percentage points in the Maldives in the moderateshock.
For Mongolia, Pakistan and to some extent, Maldives, reliance on short-termdebt implies that higher yields feed through to debt servicing costsrelatively quickly.
Out of the five sovereigns experiencing the sharpest weakening in debtaffordability under the moderate shock, four have managed exchange ratesregimes. Out of the 30 most exposed sovereigns, 15 have managed exchangerates.
This group of countries features higher interest to revenue in the baselinethan sovereigns with floating exchange rates, a gap which persists underthe shocks. Deterioration in debt affordability could lower investors’willingness to invest in these countries, maintained in the report