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Pakistan’s Urgency of Euro-bond Issue – Analysis

October 6, 2015

Recent ongoing debate on Euro-bond is discussed at all levels among academics, policy makers and non-governmental groups. In fact ever Tom, Dick and Harry has jumped in to discuss the subject, but has failed to convince the market about the urgency of its issuance. This is because the subject is vast with copious layers.

The reasoning given for its requirement by the Finance Minister Ishaq Dar, backed by SBP’s supportive statement is a weak argument. It is more like using 5th wheel when the 4th wheel was unable to take the load.

Let’s us discuss and debate some of the monetary and economic facts to set the parameter for a comprehensive and balance approach, which is of key relevance and has been ignored.

According to FM Dar, Pakistan issued USD 500 Million bond to pay loan as Musharaf’s era bond is maturing in March 2016, which is why government had to run for cover and Chinese unrest was the cause of costly bond pricing by nearly 150 basis point. Then big question is that why issuance of bond was not delayed until December/January?

On query that why economic activity is not picking up despite sharp fall in inflation and low interest rate environment, he was quick to blame energy shortage as main factor, which has an annual impact of 1.5 pct on GDP growth, but again, he was quick to take credit of attaining 7-year high growth, which is questionable?

In his reply to a Tv presenter FM emphasized that IMF loan was taken to pay IMF loan. If the current issuance of bond was to cover loan then what was the purpose of earlier issuance USD 2 Billion Eurobond in June 2014 and USD 1 Billion Sukuk about less than a year ago.

But his most disappointing answer in his late night Tv response to Kamran Khan was on last Friday when he made a strange comment by giving example of Turkey and Abu Dhabi Commercial Bank (ADCB) as an institution and said ADCB pulled out from issuing bond, while comparing it with Pakistan bond issuance. What was the logic to compare Sovereign borrowing with a UAE base Commercial Bank ?

Our FM made another interesting comparison and was justifying his expensive borrowing with 25-year soft term loan of $ 500 Million already taken @ 2 pct and another $ 950 Million due next month at same rate. He says the two borrowing would average 3.5 pct. The borrowing is cheap, but it also means piling up of external debt for the future generation.

However, average cost of external debt of USD 65 Billion (Plus) still remains around 5.5 pct and therefore annual deficit financing is close to USD 4 Billion.

Defending 10-year bond issuance at 8.25 pct, Dar reminded that the nation is paying exorbitant price due to high yield of Pakistan Investment Bond (PIB) averaging around 9.33 pct.

His answer to slow growth was most unconvincing, as energy is one of the causes, which is not discussed at length. At the end of Musharraf term Pakistan was already generating around 15.000- megawatt of energy and then had a maximum production capacity to produce 20.000 megawatt. During that period oil prices were comfortably trading around $ 105 per barrel. But then Pakistan’s Fx Reserves was almost half of the current levels.

Foreign exchange constrain forced the PPP government to utilize half of its strategic oil reserves, which was a very risky move and it simultaneously cut energy production to ease pressure on its oil bill.

Present government opted for same strategy. It certainly saved nation FX in Billions of USD, as the country was/is struggling on two front’s terrorism resulting economy discomfort.

Blaming previous governments is the easiest escape. If the truth is that obsolete energy plants is the cause of energy shortfall then how did the production during recent heat wave comfortably exceeded 15.000 megawatt. Yes, old transmission network problem due to lack of investment in energy sector.

Pakistan can still produce 15.000-16.000, but then there is no control over power theft and recovery of bills. This means by increasing energy production Circular Debt, mother of energy problem will inflate and government has no plan, control or strategy to arrest rising circular debt. At current pace, suppose for discussion sake if Pakistan energy production reaches 18.000, Circular Debt will surpass Rs 400 Billion.

Mr. Dar is well aware that the fall in economic activity is not due to slow global growth or lower commodity prices. It is obviously a planned strategy not to provide credit to corporate sector to encourage banks to invest in government securities (PIB,T/bills & Sukuk) to lower and attain fiscal deficit target, as it cannot borrow directly from SBP, which will then become government borrowing. SBP data ill support my argument, which shows bank Advances in 2005 was Rs 2.043 Trillion versus Deposit Rs 2.661 Trillion. It means then advance/deposit ratio was 76 pct against current Rs 4.565 Trillion Versus Rs 9.02 Trillion suggesting Advance/Deposit Ratio of 50.60 pct. For any economy to grow Adv/Depo ration should range around 60-65 pct.

Interestingly, he also pointed out 10-year PIB average cost @ 9.33 pct. Sir it is MOF’s responsibility to align coupon rate with target rate, which is nearly 300 to 400 basis point higher. Based on inflation, target rate is still too high. So no should be blamed for higher cost, MOF should act quickly.

You said Savings/GDP ratio should be 20 pct. As long as, education, poverty and all income is not taxed, this is a wishful thinking.

Recent SBP’s input towards economy is valuable. However, I have my reservations about its comment that the country’s external Debt-to-GDP ratio is comparatively well below its peer. It is around 25 pct, but SBP did not mention its overall impact on total debt due to depreciation of Rupee at the time maturity or re-pricing that pushes domestic debt higher.

It has already breached 60 pct Debt Limit. Trend suggests, revenue target may not be easy to achieve, which means domestic debt could further climb, unless GDP growth make sharp up-move, which does not look a possibility, unless bank advance/deposit is pushed higher towards and beyond 60 pct and simultaneously. Target rate and coupon rate is slashed.

(Disclaimer applies in my post, which means that the perspective is my personal view. I have made every effort to ensure accuracy of information provided. However, accuracy cannot be guaranteed. This article is strictly for information and not intended for Trade or Business Transactions)

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