Pakistan has raised $3.5 billion through an issue of dollar-denominated Eurobonds in two instalments in March and early July to build its foreign exchange reserves and meet its external financing requirements.

Some analysts argue that the yields on the offerings are on the higher side given the much lower US treasury rates for the papers of the same tenors and the government should have waited for some more time, at least in floating 10 and 30-year notes.

Others insist that the delay in the bond float could further push the price of the debt raised given the re-emergence of the current account deficit, the building pressure on the rupee, the freeze on the International Monetary Fund (IMF) programme and the expected global recovery.

The previous fiscal year ended with a current account deficit of $1.8bn or 0.6 per cent of the GDP in spite of posting a surplus of around $159million in the first 11-month period between July and May. The deficit is mainly driven by a much swifter growth in imports, especially in June, when compared with subdued improvement in exports. According to the central bank data, the current account deficit rose to $1.6bn in June alone as exports of goods and remittances increased by $368m and $197m while imports of goods rose by $1.4bn.

Critics say it makes sense for investors to take a risk in Pakistan’s economy if they are getting a high enough yield on their money

The State Bank of Pakistan said that the current account deficit in the last fiscal was the lowest in 10 years, adding that the nation’s external position is at its strongest in many years with remittances at an all-time high, and the foreign exchange reserves rose by $5.2bn to a four-and-half year high of over $17bn.

The strong growth in remittances notwithstanding, the current account in the last seven months of the previous fiscal year (between December and June) had continuously posted a deficit on the growing trade gap. Yet it remained in surplus till the end of May on over 27pc increase in remittances from overseas Pakistanis to $29.4bn.

Besides the low current account deficit supported by remittances, the financial account inflows have also helped to jack up foreign exchange stocks during last fiscal. Still, the State Bank of Pakistan data showed the government’s dependence on external borrowings, especially commercial loans, to meet its growing financing needs and to keep official reserves from depleting owing to almost stagnant exports and declining foreign direct investment.

Analysts say Pakistan’s external financing needs are growing where the net external financing target through commercial sources for the present year is around $5.5bn. It is no surprise then that Pakistan has issued the three-tranche dollar-denominated Eurobonds for five, 10 and 30 years in March and early July to raise $3.5bn. This was widely celebrated by the government as Pakistan’s significant achievement in getting huge foreign investment to meet its growing external financing needs and to ease pressure on its currency, which has depreciated fast against the greenback in the last couple of weeks.

In March, Pakistan sold debt of $2.5bn through its three-part note by offering very lucrative yields to build its foreign exchange reserves and meet mounting external debt payments. The government will pay 6pc for five-year maturity bonds, 7.375pc for 10-year notes and 8.875pc for 30-year paper.

It was Pakistan’s first capital market transaction in the last more than three-and-a-half years and the interest rates were relatively higher than initial expectations as investors charged a higher risk premium. The interest rates for the five-, 10- and 30-year notes were higher by 5.23pc, 5.6pc and 6.5pc than the US treasury rates for the papers of the corresponding maturity period.

Again, earlier this month the government raised additional debt of $1bn through a tap issue of the Eurobond it had floated back in March. It will pay 5.875pc, 7.125pc and 8.450pc interest rates on the three tenors. The borrowing cost is higher by 5.01pc, 5.7pc and 6.4pc when compared to the US treasury rates for papers of similar tenors.

However, the rate is slightly lower than the previous transactions. The Eurobond interest rates were significantly lower when compared with the 7pc cost that the government is paying on one-year short-term borrowings through Roshan Digital Accounts.

For the new fiscal year, the government has budgeted $17bn external new loans to repay the old debt and keep the foreign exchange reserves at their current levels. It plans to raise Rs1.76 trillion in debt through the issuance of domestic and foreign Sukuks.

The critics say it makes sense for the investors to take a risk in Pakistan’s economy if they are getting a high enough yield on their money. “However, for the benefit of the economy of Pakistan, this rate should not be exorbitantly high and be comparable with bonds of similar credit rating like those issued by Nigeria (B rated), Kenya (B rated) and Egypt (B rated), or other similar sovereigns,” a banker said on condition of anonymity.

An analysis done on Pakistan’s Eurobond issuance in March by a commercial bank highlights three main policy failures. Firstly, the government chose the worst possible time to issue the Eurobonds, which was in the first 180 days of this year. Rates, for comparable bonds of Turkey and Egypt, were 50-100 bps higher in April 2021 than the start of 2021. This meant that if Pakistan were to issue its Eurobonds a little earlier in the year, in January or February, Pakistan would have saved significantly in interest costs.

Secondly, the interest rates on Pakistan’s Eurobond declined by around 60-70 bps in 30 days from the issuance date. This was an unprecedented rally as no other fixed-income paper has seen till the year to date. Moreover, comparable yields of similarly rated sovereigns like Nigeria and Egypt are consistently lower than Pakistan’s similar-maturity bonds. Papers of Nigeria and Egypt are trading at yields of 6.75pc and 6.28pc, both lower than Pakistan’s yield of 7.37pc for similar maturity.

Lastly, the analysis suggests that when interest rates are high the borrower should only borrow for a shorter duration and lock in that rate for that period. Borrowing for 10 or 30 years meant that Pakistan locked in a higher interest rate for 10 and 30 years and will not be able to benefit when these rates decline in future.

However, others strongly differ from this view. Fahad Rauf, head of research at Ismail Iqbal Securities, for one is of the opinion that the yields offered by the government on the bonds were determined by the country rating and the size of its (accumulated foreign) debt. “No government wants to buy expensive debt; the yields have to be attractive to create interest in the debt sold,” he added.

He also defended the timing of the issues. “The timing of floating the bonds was perfect in my view. With the current account deficit reemerging, the currency coming under pressure and the IMF programme on hold, the delay in issuing the bonds would have pushed the yields upwards. Besides, further current account slippages would have made Pakistan look desperate for funds to meet its needs, and it may become a challenge to raise funds in future,” Mr Rauf concluded.

Published in Dawn, The Business and Finance Weekly, July 26th, 2021