KARACHI – The current account (CA) deficit of the country is likely to widen to beyond $7.0 billion in 2010-11 because of nonpayment of two tranches on the part of the IMF, rising world oil prices and a hike in the yield of Eurobonds.
The IMF has withheld $3.40 billion, to have been paid in two tranches, to Pakistan with the government postponing the enforcement of the reformed GST along with a reversal of an original decision to ramp up the prices of POL products because of sharp criticism from the general public and opposition parties.
The higher dependency on oil imports coupled with rising oil prices leaves Pakistan vulnerable to current account shocks. Analysts believe that the current account deficit is likely to widen up to $7.78 billion by the end of FY11 (financial year 2011). The current account balance is highly correlated to CDS spread with a correlation coefficient of (-73), a report of Arif Habib Limited Research indicates.
Therefore, the worrying current account deficit is second only to concerns centered on the fiscal deficit. Sovereign debt, not exactly a pressing factor, Pakistan external debt and liabilities for FY10 stood at 69.5 percent of the total GDP, the report noted. Recently, Pakistan’s 10-year Credit Default Swap (CDS) spread has widened from 518bps to a level of 828bps since January 05, 2011 to date. Following a similar trend, the Eurobond yield has jumped from 9.6 percent to 10.4 percent. This is primarily attributed to a significant rise in fiscal deficit and pervading political uncertainty, which are raising doubts of the government’s ability to control its debts.
The deferment of the reformed GST and u-turn on petroleum prices is likely to put further pressure on the government’s revenue generation capacity, creating a gaping fiscal deficit. In order to meet the needs the government, it has borrowed heavily from domestic sources.
Financing the government borrowing requirement through external sources remains a distant possibility, given that the last two tranches worth $3.4 billion of IMF funding is still pending and are only likely to be deposited once the GST bill is approved, pushing the fiscal deficit for the country to 5.9 percent, higher than government’s target of 4.7 percent agreed under the IMF program.
The country registered three consecutive current account surpluses during September-November 2010, which was on account of lower oil imports and higher workers’ remittances. However, rising oil imports is likely to push current account in the red zone in remaining period of this financial year.
The sovereign default risk arises mainly on the back of weak fiscal and current account position. Therefore a higher CDS spread translates into Pakistan’s heading towards a fiscal deficit trap. Analysts opine that maintaining fiscal soundness is important in improving the investors’ confidence, especially in case of Pakistan which is vulnerable to external shocks.
