Pakistan’s perceived default risk rises significantly

Pakistan's perceived risk of default, measured by the 5-year credit default swap (CDS), has spiked in the last one month and hit 64.19% on November 11.

As per data provided by brokerage house Arif Habib Limited (AHL) on Monday, Pakistan's 5-Year CDS increased from 2,208bps in October to 6,419bps in November, an increase of 4,210bps in one month.

A CDS is a financial derivative that allows an investor to swap or offset their credit risk with that of another investor. To swap the risk of default, the lender buys a CDS from another investor who agrees to reimburse them if the borrower defaults.

“Pakistan’s debt insurance cost is increasing, which means the country’s default perception is rising,” said an analyst on condition of anonymity.

“This means that the credit market has become more inaccessible for Pakistan, and getting commercial loans from banks or through Euro bonds would become very difficult.”

As of May 31, 2022, the country’s total external debt and liabilities amounted to $126.07 billion, of which $85.64 billion was on account of public external debt.

“The increase in CDS is driven by ongoing political instability in the country. Moreover, the decline in foreign exchange reserves and remittances and the country’s inability to secure funding in the wake of recent floods is driving the perception,” said the analyst.

According to latest data available, foreign exchange reserves held by the State Bank of Pakistan (SBP) plunged $956 million on a weekly basis, clocking in $7.96 billion as of November 4, 2022. Total liquid foreign reserves held by the country stood at $13.72 billion. Net foreign reserves held by commercial banks clocked in at $5.76 billion.

Moreover, the inflow of remittances in Pakistan fell nearly 16% in October 2022 on a year-on-year basis to $2.215 billion as informal and illegal channels of transferring money took their toll, coupled with a global economic slowdown that exacerbated the issue.

The market expert said the government needs to implement measures to curb the outflow of foreign currency, and improve its foreign exchange position.

Last week, Federal Minister for Finance and Revenue Ishaq Dar said that the government has secured financial commitments of around $13 billion to $14 billion from friendly countries to meet Pakistan’s financing needs.

“In the coming 12 months, Pakistan has to pay back $22 billion to meet its multilateral and commercial liabilities. The country’s current account deficit is projected to be around $10 billion-12 billion, which needs to be paid back,” Dar said in an interview with a private channel.

“However, we have covered half the mileage ... we have secured financial commitments of around $13 billion to $14 billion, which includes commitments from China and Saudi Arabia,” said Dar.