Monday May 29, 2023

Pakistan default risk surges

May 24, 2022

On 5 December 2017, the government of Pakistan sold $1 billion worth of Pakistan Sukuk. Back in 2017, the bonds had a yield of 5.625 percent. Red alert: The bonds that are to mature on 5 December 2022 are now yielding a whopping 27 percent. Translation: An international bond guaranteed by the Government of Pakistan is now yielding 27 percent which means that Pakistan’s default risk, as perceived by international investors, has surged.

Lo and behold, Pakistan’s default risk has surged rapidly over the past two weeks. Is anyone listening? As per the State Bank of Pakistan (SBP), ‘predetermined short-term net drains on foreign currency assets’ amount to $4.889 billion (more than 1 and up to 3 months). Translation: Pakistan owes $4.889 billion before end-June 2022. Is anyone worried? On top of that, between now and end-June, our current account deficit is expected to amount to $3 billion. Does anyone care?

Why has Pakistan default risk surged so rapidly? In August 2021, liquid foreign exchange reserves with SBP stood at $20 billion. In the following nine months, liquid foreign exchange reserves are down to $10.1 billion.

In the past eight weeks or so, SBP has lost some $6 billion worth of liquid foreign exchange reserves. Clearly, SBP does not have sufficient reserves to pay back debt obligations plus cover the current account deficit. Clearly, Pakistan will not be able to “meet all its current and future payment obligations without exceptional financial assistance or going into default.”

Bad politics in Pakistan is resulting in really bad economics. A country that is unable to pay its debt goes into default. Bad politics in Sri Lanka has already resulted in a default. On May 18, Sri Lanka was unable to pay $78 million in debt interest payments and went into default for the first time in Sri Lanka’s history. A sovereign default means three things: it damages a country’s reputation with international investors; it makes it prohibitively expensive to borrow and it wrecks confidence in the country’s currency.

To be certain, Pakistan with a budgetary deficit approaching Rs5 trillion and a current account deficit approaching $20 billion must, at all cost, maintain its access to international credit markets. A sovereign default has five consequences: rising unemployment, increase in the rate of interest, bank runs, currency depreciation and stock market crash.

Every power center in Pakistan is playing their own game as the country heads for a default. In 1258, Hulaku Khan, commanding a Mongol army, besieged Baghdad, the capital of the Abbasid Caliphate. The Abbasid Caliph could have called 50,000 soldiers for the defense of Baghdad but the Caliph and the opposition to him were too busy debating ‘if a crow was halal or haram?’ Much of Baghdad was physically destroyed and “800,000 of its inhabitants perished”.