The foreign exchange reserves of the SBP have plunged to $6,116 million as of 16th of December 2022. There has been a decline in these reserves of $3,700 million since end-June 2022. The current level of reserves is barely adequate to provide for import cover of one month, when the minimum safe cover is three months.
The big decline in foreign exchange reserves has occurred at a time when there has fortunately been a substantial improvement in the current account of the balance of payments. The deficit on this account has come down to $3,009 million in the first five months of 2022-23 from $7,234 million in the corresponding period of 2021-22.
The fundamental question is why have the foreign exchange reserves fallen so sharply despite the big improvement in the current account deficit position? Clearly, the answer lies in the large decline in net debt creating and non-debt creating inflows.
The Economic Affairs Division of the Ministry of Economic Affairs publishes a Monthly Disbursement Report of Foreign Economic Assistance to Pakistan. This is a very useful report and gives details of inflows from multilateral and bilateral sources, by flotation of bonds and loans from international commercial banks.
The November 2022 report indicates that the total inflow of loans aggregated to $5113 million from July to November 2022. The annual requirement is $22,817 million as per the Federal Budget of 2022-23. Therefore, over the five-month period, the inflows have been only 22.4% of the annual target. At this rate, the annual inflow is likely to $12.2 billion, implying a very big shortfall of over $10.5 billion.
The other development is the skewed distribution of financing from different sources. Almost 82% of the total inflow has come from multilateral agencies, when the target share of funding from these agencies in 2022-23 is 47%. The big inflows received include $1677 million from the ADB, $1166 million from the IMF, $623 million from the World Bank and $511 million from the AIIB. Already, almost 40% of the targeted annual inflow from these agencies has been received.
Beyond the multilateral agencies, the inflow from other sources is only $941 million, when the annual target is of $12142 million. This is the crux of the external financing problem that Pakistan faces increasingly. Within the limited inflow of $941 million, $602 million has come from bilateral sources, including $500 million from the deferred oil facility of Saudi Arabia. Only $200 billion is the new borrowing from international commercial banks. There has been no flotation of Sukuk or Euro bonds, although the target is $2 billion for 2022-23.
An analysis of the month wise inflows since June 2022 is also revealing. Only $439 million was received in July and August. The flow increased after the resumption of the IMF programme and lending of $1,166 million in early September. Since then, $3,528 million has been received, mostly from multilateral agencies like the ADB, AIIB and the World Bank.
The IMF has made some optimistic projections of flows of funds into Pakistan in the September 2022 Staff Report. It expects foreign investment at $2170 million, bond flotation of $3 billion and disbursements into the government account of almost $19.5 billion. At the present rates of inflows, none of these targets will be met.
The projection by the IMF is also that the current account deficit of $9.3 billion will not only be financed by debt creating and non-debt creating inflows but there will also be a big build-up of reserves to $16.2 billion, representing an increase of $6.4 billion over the year. This is predicated on the lowering of risk perceptions of lending to Pakistan in the presence of the IMF programme umbrella and significant net direct funding by the IMF itself of $1864 million.
The big surprise is that despite the presence of the IMF programme there has been a big downgrading of Pakistan’s credit rating. The most recent case is that of S&P, which has lowered Pakistan’s credit rating to CCC+ from B- and the short-term rating to C from B. This is apparently based on enduring economic and fiscal risks of lending to Pakistan.
The conclusion is beginning to emerge clearly that private creditors are increasingly unwilling to lend to Pakistan. This includes the purchase of Pakistani Euro and Sukuk bonds and extension of loans by international commercial banks. As highlighted above, the total inflow from these two sources is targeted at $9472 million in the current financial year, out of which only $200 million has been received up to end November 2022.
Therefore, there are two scenarios for Pakistan in coming months with regard to the level of external capital inflows. The first is in the continued presence of the IMF programme up to June 2023. This will provide the necessary risk-cover to the multilateral agencies and bilaterals to extend loans to Pakistan. Now with support forthcoming for relief and reconstruction after the floods the inflows could be even larger. The World Bank, for example, has recently committed $1.7 billion for this purpose. Consequently, in the presence of the IMF programme, the funding from multilaterals and bilaterals could exceed $12.7 billion in 2022-23.
However, the estimated level of external debt repayment is $12,414 million in 2022-23. Therefore, in this scenario there will be a small net inflow of funds. This will be largely inadequate to finance the likely current account deficit of $8 to $8.5 billion over the year, which could lead to a fall in reserves even below the present low level of $6.1 billion.
The other scenario is even more grim. This is the scenario in which the IMF programme flounders due to lack of implementation of the agreed reforms and actions and the programme is terminated or suspended. In this event, even funding from multilaterals and bilaterals is also likely to be terminated. This will bring the country closer to a financial meltdown in coming months. Pakistani authorities need to assess the high contingent risks and implement a strategy of somehow sustaining the financial position of the country.Dr Hafiz A Pasha, "Low foreign inflows," Business recorder. 2022-12-27.
Keywords: Economics , Foreign exchange , Economic affairs , Budgetary issues , Federal budget , World Bank , Commercial bank , Deficit , Pakistan , SBP , IMF