ISLAMABAD: The country’s public debt sustainability has deteriorated because of policy reversals by the PTI government in the second half of the previous fiscal year ending June, but it is expected to improve going forward with steadfast implementation of a tight policy matrix.

“The debt-to-GDP ratio is now projected to rise from 77.9 per cent at end-FY21 to 78.9pc at end-FY22 before falling to around 60pc by end-FY27, assuming the adjustment efforts in the context of the EFF [extended fund facility] programme are fully carried out,” the International Monetary Fund (IMF) said in its latest report on Pakistan.

It said that while gross financing needs (GFN) remain elevated over the near term amid sizeable fiscal deficits and limited progress in lengthening maturities, GFNs are projected to decline over the medium term — reflecting programmed fiscal consolidation and efforts to enhance cash and debt management — reaching 17.2pc of GDP by FY27.

It, however, warned that higher interest rates, a larger-than-expected growth slowdown due to policy tightening, pressures on the exchange rate, renewed policy reversals, slower medium-term growth, and contingent liabilities related to state-owned entities pose significant risks to debt sustainability.

In a detailed report on ‘Public and External Debt Sustainability Analysis’, the IMF noted that sustained fiscal adjustment in line with the EFF programme commitment and a favourable interest rate-growth differential are projected to put debt ratios back on a clear downward path. The rebasing of GDP last year to 2015-16, which raised nominal GDP by 16pc, would itself lower the end-FY21 debt-to-GDP ratio to 75.8pc (from 88.6pc at the time of the sixth review).

The Fund said the combined effect of the GDP rebasing, the broader debt perimeter and revisions to the macro projections lead public debt to decline to 62.4pc of GDP by end-FY26 (from 70.4pc at the time of the sixth review) and around 60pc by end-FY27.

In this context, the IMF said the near-term financing needs remain elevated amid headwinds to the authorities’ debt management strategy. Although the authorities met all indicative targets on long-term issuance by wide margins, efforts to reduce the stock of outstanding treasury bills (T-Bills), supported by the on-lending of special drawing rights (SDR) allocation in the local currency, which provided a reprieve to the reliance on short-term instruments, were undone as the fiscal deterioration in January-June generated enormous borrowing demands.

As a result, GFNs are projected to have risen to 23.5pc of GDP in FY22 (from 19.8pc in FY21). In addition, domestic bond issuance during FY22 was skewed towards two- and three-year instruments such that medium-term refinancing needs will remain high, currently projected to decline towards 17.2pc in FY27.

In addition, two-thirds of long-term issuance during FY22 has been at floating rates tied to the T-Bill rate, implying that the government bears much of the interest rate risk. That said, the resumption of domestic sukuk issuance and the inverted yield curve are providing potential scope for the lengthening of maturities, albeit at the cost of locking in higher rates for longer.

External financing needs rose in FY22, reflecting the large current account deficit and remain elevated over the medium term, largely reflecting rollover of the increased stock of short-term borrowing.

The IMF advised the authorities for sustained efforts to lower GFNs, particularly as they navigate the current challenging environment. The authorities’ plans to raise financing periodically in international markets have been impeded by the spike in sovereign spreads following geopolitical and domestic political volatility as well as the rising global interest rates.

Published in Dawn, September 5th, 2022

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