INSIGHT: Pakistan gets much-needed reprieve; polymer imports to improve

SINGAPORE (ICIS)–Billions of US dollars have started flowing into Pakistan after getting the much-awaited IMF stamp of approval that the south Asian nation will set its house in order, averting an impending sovereign debt default.

• Polymer import sentiment improves
• Pakistani rupee strengthens but still down 20% from start of 2023
• FX capital injections not a panacea

Saudi Arabia and the UAE stepped forward to inject $2bn and $1bn, respectively, into Pakistan’s central bank coffers ahead of the final IMF approval, which was granted on 12 July.

Months of negotiations on the required fiscal policies and structural reforms finally yielded the IMF approval.

Back under an IMF programme called a stand-by arrangement (SBA), Pakistan will immediately get $1.2bn of the total $3bn nine-month bailout package and expects to get more from bilateral partners in future.

This would also facilitate disbursement of some of the $10bn in aid pledges made at the January 2023 flood relief conference, mostly in the form of project loans, according to credit ratings firm Fitch.

All these funds will boost the State Bank of Pakistan’s (SBP) foreign exchange (FX) reserves, which had fallen to dangerously low levels at the start of the year, slipping below $3bn at one point which could barely cover a month of imports.

Pakistan, which is a net importer of crude oil and petrochemicals, was teetering on a sovereign debt default when it secured a staff-level IMF approval on the bailout deal on 30 June, just as its previous bailout package with global financial watchdog expired.

STRONG FOREX RESERVES BOOST LIFTS RUPEE
Fund flows tied to the IMF deal would provide the much-needed boost to the State Bank of Pakistan’s (SBP) net foreign exchange reserves, which have stayed below $5bn since the start of the year.

As of 7 July 2023, the country’s forex reserves stood at around $4.5bn, down by more than half compared with $9.7bn in the same period last year, central bank data showed.

In early February, the reserves had shrunk to as low as $2.9bn due to slumping exports on weak external demand and a decline in overseas workers’ remittances.

Workers’ remittances in the fiscal year ending June 2023 fell by 13.6% to $2.2bn, mainly sourced from Saudi Arabia, UK, UAE and the US, central bank data showed.

Most importers of goods, including petrochemicals, have been unable to pay for goods arriving at ports given difficulties in securing and processing letters of credits (LCs).

Imports also turned much more expensive because of the sharp depreciation of the Pakistani rupee (PRs) against the US dollar, hitting a record low of above PRs295 on 13 May, amid a shrinking foreign exchange war chest.

News of the staff-level agreement with the IMF on 30 June allowed for a slight appreciation.

On Friday, the Pakistani rupee was trading at above PRs275 against the US dollar, which was still down by more than a fifth from the start of the year, data from foreign exchange data provider xe.com show.

“We expect some more exchange rate volatility as the competing forces of financing inflows, the clearing of import backlogs, rebound in remittances and some reversal of dollarization play out in the market,” Fitch Ratings Asia-Pacific director for sovereigns Krisjanis Krustins told ICIS on Friday.

“After the recent strengthening to about PKR270/USD, the exchange rate is broadly in line with our medium term assumption at the time of the upgrade to ‘CCC’,” he said.

On 10 July, Fitch Ratings upgraded Pakistan’s Long-Term Foreign-Currency Issuer Default Rating (IDR) to “CCC” from “CCC-”, two days ahead of the IMF board approval of the new credit facility.

“Pakistan’s commitment to a market-determined exchange rate under the programme likely implies higher volatility for the Pakistani rupee going forward than we have seen since March,” Krustins said.

POLYMER MARKET SENTIMENT TURNS UPBEAT
Pakistan imports 100% of its polyolefin requirements, with the combined annual volume intake of polypropylene (PP), high density polyethylene (HDPE), linear low density PE (LLDPE) and LDPE at more than 1m tonnes.

Market players expect difficulties over letters of credit (LC) issuances caused by dwindling foreign exchange reserves to ease to allow for more imports.

Polyolefin prices in the south Asian markets of Pakistan and India have been rising in recent weeks.

For recycled polymers, there has been a slight uptick in cargo flows from southeast Asia to Pakistan since early July, following the IMF staff-level agreement on the new $3bn bailout package.

Asian producers, however, are not counting on a substantial rebound in demand from Pakistan.

GDP GROWTH TO ACCELERATE
“In terms of the economy as a whole, we assume growth of 2.5% in FY24 [fiscal year ending June 2024] and 4% in FY25, supported by the easing of financing and foreign exchange constraints under the IMF programme,” Krustins said.

In the previous fiscal year ended June 2023, Pakistan’s GDP posted a minimal growth of 0.3%, which reflected “[monetary] policy tightening and production disruption amid widespread floods as well as curbs on imports and FX [foreign exchange] availability”, the Fitch Ratings official said.

“Although these factors will ease in FY24, external financing availability will still constrain domestic demand, compared with historical norms, as Pakistan will still have to limit its current account deficit and partly rebuild its FX reserves under the programme,” Krustins said.

Pakistan’s central bank on 27 June raised its policy interest rates by a full percentage point to 22% to ward off inflationary pressures stemming from recent tax and foreign exchange-related measures taken to appease the IMF.

Its national budget approved on 25 June include higher taxes, duties and the petroleum development levy (PDL) to boost government revenues in the current fiscal year; while the central bank on June 23 withdrew its general guidance for commercial banks on prioritization of imports.

“While the MPC [Monetary Policy Committee] views these measures as necessary in the context of completion of the ongoing IMF programme, they have increased the upside risks to the inflation outlook,” SBP had said in late June.

“The Committee views that additional tax measures are likely to contribute to inflation both directly and indirectly, while the relaxation in imports may exert pressures in the foreign exchange market. The latter may result in higher-than-earlier anticipated exchange rate pass-through to domestic prices,” according to the central bank.

REAL WORK BEGINS
“Steadfast policy implementation will be critical for Pakistan and the success of the program,” the IMF said in a statement on 12 July.

“This will require greater fiscal discipline, a market-determined exchange rate to absorb external pressures, and further progress on reforms related to the energy sector, climate resilience, and the business climate,” it added.

Negotiations took a while because Pakistan has had to show clear commitment to fiscal discipline as well as to structural and market reform.

The IMF is the world’s lender of last resort whose financial assistance famously comes with stringent conditions, which include a market-based exchange rate in Pakistan’s case.

In its 10 July rating action, Fitch noted that Pakistan “has an extensive record of going off-track on its commitments to the IMF”.

While the required policy actions under the new IMF stand-by arrangement have already been made, “there is still scope for delays and challenges to implementation as well as new policy missteps ahead of the October elections and uncertainty over the post-election commitment to the programme”, the credit ratings agency  said.

The remaining $1.8bn in the $3bn IMF facility will be phased over the program’s duration, subject to two quarterly reviews. Pakistan will need to meet the IMF conditions to get the full amount.

Inability to deliver promised reforms stalled the release of the remainder of its previous $6bn extended fund facility (EFF), which expired in June 2023.

The three-year EFF took effect in 2019 and was extended by a year until June 2023. Only a portion of total was disbursed as Pakistan failed to comply with the full requirements of the facility.

Pakistan needs to get it right this time to get the full bailout amount, but nine months may prove too short.

Insight article by Pearl Bantillo

With contributions from Nadim Salamoun and Arianne Perez