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• There is no clarity on Pakistan’s relationship with the IMF. The 9th review will be delayed till January 2023, which means the next tranche may be delayed till February;
• We expect tensions on the growing circular debt, the strict management of the rupee, insufficient tax revenues, and the delay in imposing GST on fuels;
• While Dar continues to say the economy is moving towards stability, the State Minister of Finance has recently admitted that things are not well. A social media story listing nine emergency measures goes viral, which reveals that the market expects emergency steps soon. The artificial calm projected by policymakers is undermining business confidence;
• Strict import curtailment is choking the domestic economy. In the first five months of FY23, non-oil imports are down 29% compared to FY22, with reports of widespread layoffs as manufacturers reduce shifts because of inadequate imports;
• The government is taking no steps to rethink its external debt. Debt repayments between Nov 2022 to Oct 2023 are over $ 26 bln compared to less than $ 6 bln in late 2017. SBP is trying to shore up confidence by listing $ inflows and outflows in FY23, and arguing that arrangements are in place to meet all $ repayments (while strictly limiting import LCs);
• The current account deficit in November shrinks to $ 276 mln, which means the full-year CAD will be smaller than projected. However, with remittances edging down (distortions in the FX market) and a poor outlook for exports, the BoP problem remains. With SBP’s FX reserves falling to a four-year low, the market cannot shake off fears of default;
• Getting on track with the EFF will be difficult. We expect prior actions on: FX management; GST on fuels; power tariff increases; and some steps to target loss-making SOEs. This is politically unpalatable, which explains the government’s muddled outlook;
• We list eight necessary structural reforms that will be difficult to implement. We wonder if the IMF may seek some guarantee that these measures will be taken (via a charter of economy type arrangement);
• Global oil prices are unexpectedly soft despite the price cap on Russian oil exports. With winter getting worse in Europe, we fear that oil prices could start climbing;
• IK announces 23rd December as the date for the dissolution of the Punjab and KP governments. This will energize domestic politics but do little to provide an economic roadmap.

• Frantic political developments dominate in November. Army felt compelled to counter misinformation in an unprecedented press conference by the ISI chief;
• There was an assassination attempt on IK on 3 November, in which he was injured. One was killed, and 14 were wounded. IK accused Shehbaz Sharif, Rana Sanaullah, and a senior ISI officer for the attack, but could not name them in the FIR. IK also mentioned a second shooter, which the government has dismissed;
• Anticipation is building on the choice of the next COAS. Commentators claim that the decision will determine whether early elections are held, which may provoke a political reaction;
• Dar is trying his best to calm market fears of sovereign default but to no avail. 5-year CDS spreads signal pending default with only weeks till the 5 December Sukuk maturity. The fact that the IMF and MBS (of Saudi Arabia) have delayed their trips to Pakistan adds to the sense of despair;
• Analysts claim the 9th review will be delayed till December, and even if the negotiations are successful, the next tranche will not be released till January 2023. In our view, approval will require prior actions that could be painful;
• The IMF is not convinced about the flood-related economic damage proposed by the authorities. Hence, the Paris donor conference has been delayed. Four months after the deadly floods, international assistance for humanitarian assistance is already too late;
• Inflation remains elevated, with October’s YoY increase at 26.6%. Our projection for average inflation in FY23 is 28%, based on a potential rise in oil prices in December/January and a weaker rupee when the 9th review begins. We argue that inflation is a slow burn, and the loss of purchasing power and increase in poverty could have political repercussions;
• October’s CAD comes in at $ 567 mln, which shows that SBP’s import restrictions are working. However, the 27% fall in non-oil imports in Jul-Oct 2022 (compared to a year before) shows that the economy is being squeezed;
• The exorbitant kerb premium is reducing monthly remittances and creating unease about the artificial strength of the rupee in the interbank market. This could sour the negotiations with the IMF;
• The pending decision of the COAS, the 26 November PTI show of force, and the maturity of the Sukuk, means the next two weeks will be uncertain. One thing is clear, however, political clarity is now a prerequisite for economic clarity.

• Dar takes charge of the Ministry of Finance and dominates proceedings. With no change in fundamentals, the rupee begins to appreciate, and the PSX starts trending up.  He then cuts fuel prices as part of his mandate to provide relief;
• In response, the IMF warns against the use of untargeted subsidies, while the World Bank stresses the need to stay on track with energy sector reforms;
• The devastating floods no longer dominate the news, but the damage is significant. The IFIs and UN have estimated the cost at $ 32.4 bln, which is about 11% of GDP.  GoP estimates that this will pull down economic growth to 2%, and put pressure on the external sector for the import of wheat and raw cotton;
• A donor conference is planned to take place in Paris, and policymakers are expecting significant $ commitments. However, it is unclear if the flood relief will come with conditions on how the funds can be used;
• Pakistan’s BoP remains precarious, even though the CAD for September was only $ 316 mln. At this run rate, FY23’s CAD will be below $ 9 bln, which is within the target set in the September 2022 IMF Staff Paper.  However, this improvement has been achieved by discouraging non-essential imports, which means pent-up demand is being created.  In our view, the authorities are hoping that the $ inflows expected from the IFIs and donors should be sufficient to clear this backlog;
• Remittances fell in September to $ 2.4 bln, which surprised us as we expected more generous inflows on account of the floods. However, with the abnormally high kerb premium, some of the inflows may have been routed through the Hundi/Hawala system;
• RDA inflows have also slipped, but remain remarkably stable despite the political uncertainty. With most expats aligned with PTI, we argue that the call for early elections (with IK’s growing popularity) could see stronger inflows into the country;
• We flag the falling ratio of currency in circulation to total deposits as a positive development, which could be responsible for the lower outstanding volume of OMOs. We think this could be traced to a sluggish real estate sector and more restricted spending on consumer durables;
• Import restrictions have brought down non-oil imports, but the sharper fall in oil imports could be traced to the lack of rural demand on account of the floods;
• Inflation dipped in September to 23.2%, driven by a sharp fall in YoY inflation in the utility sub-index. This came about because of a waiver on the fuel cost adjustment in the month, which allowed power tariffs to be reduced for small consumers (these rates are used in the CPI basket);
• The East-West divide is widening, which complicates the debt rescheduling/relief that Pakistan needs;
• We end by highlighting Dar’s gamble, where he needs to deliver on his political mandate (provide relief and bring down inflation) while keeping the IFIs engaged. We also argue there is no coherent plan to repay Pakistan’s $ debts in FY23.

• The rupee’s slide has dominated public attention. Business sentiments are bearish as the market expected the EFF to stabilize the economic outlook.  Delayed SBP approval for LCs has angered businesses and is stalling the formal economy;
• The devastating floods prove that Pakistan is one of the most vulnerable countries to global climate change. The humanitarian and economic damage will take months to overcome, and the economy will slow down.  The uneven recovery in the provinces could have political repercussions;
• Donor grants have not been as forthcoming as expected. Climate-related damage, a global economic slowdown, and Pakistan’s poor image are responsible;
• The IMF Staff Paper was issued, but this depicts a pre-flood scenario. Flood damage and donor relief will change the performance criteria in the EFF (e.g., fiscal & BoP targets, SBP’s FX reserves, etc.) but may not change structural benchmarks (SBs).  The fact that Pakistan has achieved little in this stop-start EFF, has resulted in more conditions imposed on the country.  In the February Staff Paper, six new SBs were included, and the new one adds a further eight.  In total, the authorities must meet 18 SBs by end-June 2023, and since some are politically sensitive, we do not expect a smooth time in the EFF;
• Inflation has crossed 27% and is likely to remain stubbornly high in FY23. However, SBP is not likely to hike interest rates, as this will do little to curb inflation but could trigger a fiscal blowout.  Public anger is mounting about the IMF conditions, especially the inflated electricity bills;
• The IMF Staff Paper states that SBP will only increase its FX reserves by $ 984 mln from end-June 2022 to end-March 2023. This means Pakistan is looking at back-to-back IMF programs in mid-2023, and the FX market will remain jittery in the coming year;
• The economic slowdown will support the EFF by keeping Pakistan’s BoP under control. The first two months of FY23 have seen a sharp fall in the monthly CAD, but the size of the external deficit is no longer the problem.  Heavy debt repayments and low FX reserves are the main concerns;
• The tempo of domestic politics has eased since the flooding started, but this is likely to change soon. IK has announced a rally on 24 September to demand early elections.  With the mounting economic uncertainty and poor business sentiments, public opinion is stacking up against the coalition government;
• Global developments reveal a growing East-West divide. China, Russia, and India have effectively boycotted the UNGA session this month, as they knew the West would focus on Russia’s invasion of Ukraine.  The eastern bloc is seeking to attract countries to trade with Russia against the explicit demands of the US.  This divide will be difficult to navigate for Pakistan, which has expressed interest in buying discounted oil and gas from Russia.

• Devastating floods have been the worst since 1961. Rural areas in KP, Sindh, and Baluchistan have experienced substantial loss of life and livestock, while villages and road/rail networks have washed away.  The authorities are still unsure about the loss of agricultural production;
• Local governments haven’t been able to cope amidst growing public anger. It is unclear how this will change the political mood in the country;
• Domestic politics is again in crisis as terrorism charges are leveled against IK. PTI supporters have warned of mass demonstrations if IK is arrested;
• The coalition government is standing firm, not just to groom the next generation of dynastic leaders but to eliminate PTI from the political landscape. Further efforts to sideline IK will only make him more powerful;
• Fears of sovereign default have subsided: GCC countries have committed funding for FY23, the IMF has said that prior actions are complete, its board will meet on 29 August, and steps have been taken to reduce imports. The rupee appreciated in the first two weeks of August, triggering a bull run in the PSX;
• While the EFF is a source of comfort for the market, program details will be sobering. This should include: reforms of loss-making SOEs, the need for a more equitable tax burden, growing bank deposits to finance both the government and the private sector, efforts to control the two circular debts, and additional spending to rebuild the infrastructure that the monsoon rains have destroyed;
• While Miftah Ismail deserves credit for stabilizing the economy, he is sending mixed signals. The reversal of the ban on luxury imports, his promise of relief for importers, his admission that PML-N’s leadership is not happy with fuel and utility price hikes, and the recent decision by SS to take back the fuel cost adjustment in electricity bills, does not give much confidence that the ruling government will follow through with its commitments to the IMF;
• SBP holds the benchmark rate at 15%, claiming that import containment measures are working and should be given more time – this is notable as July’s inflation rate hits 25%. M2 growth has been high in the past two years, driven by OMO injections that will need to be reversed;
• Global conditions remain challenging with the ongoing war in Ukraine that could spike oil and gas prices in the winter. Furthermore, Europe is facing high inflation and possible recession, as is the US.  These countries are Pakistan’s main export markets, and there are indications that export orders have fallen.  Furthermore, with climate change causing chaos worldwide, analysts fear this could lead to famine.

• Pakistan is experiencing soft default: letters of credit (LCs) need SBP approval; interbank rates are posting large spreads; Pakistanis Eurobonds are trading at a deep discount; delayed $ payments are accumulating; and the rupee-dollar parity has witnessed record weakness in July;
• The IMF staff-level agreement (SLA) has been reached, but the conditions are more demanding. Revenue targets have increased, and so has the primary surplus target.  The IMF board meeting is scheduled for late August, which means managing the markets in August could be challenging;
• Efforts to reduce non-essential imports have rattled import-dependent businesses. Uncertainty about future LCs has forced auto assemblers to stop taking orders, while corporate profitability is likely to take a hit;
• The economy will experience a fall in domestic demand, a sharp increase in debt servicing (on domestic and external debt), reduced private investment, elevated inflation, and pressure to meet tax revenues targets;
• The unprecedented weakness of the rupee in July has dominated public attention. The CAD for FY22 was $ 17.4 bln, which is higher than expected.  June’s $ 2.3 billion deficit was driven by a record $ 2.9 bln oil imports;
• FX reserves continue to fall, which explains SBP’s reluctance to supply $s to the interbank market. Remittances have posted a record $ 31.2 bln in FY22, and we expect higher inflows this year as deteriorating economic conditions could result in more assistance from expatriate Pakistanis;
• The challenge of securing sufficient $s to restart the EFF highlights Pakistan’s shortage of FX. With FX reserves barely able to cover 45% of debt payments till May 2023, we raise the need to consider restructuring Pakistan’s external’s debt.  This means that Pakistan will have to speak to friendly countries (China, Saudi, and the UAE) to negotiate debt relief;
• The acute political uncertainty is hampering efforts to stabilize the economy. The political game between the PTI and PML-N in Punjab hints at more intrigue and confusion in the period ahead.  While most accept the urgent need to call for early elections and hand over charge to a caretaker government, the ruling coalition seems adamant about continuing till mid-2023;
• Although we are confident that Pakistan should restart the EFF soon, we do not expect the IMF to be accommodating. With a dozen developing countries heading towards default and Western countries facing recession (which will hurt Pakistan’s exports), restarting the EFF takes on greater significance.  Hence, FY23 will be a challenging year for the economy, which requires significant political will to ensure that Pakistan’s economy is stabilized.  GoP should declare a state of economic emergency and view this fiscal year as a period of consolidation.

• Revised budget to stay consistent with the IMF negotiations. Revenue shortfall will increase the burden on profitable corporations and high-income individuals.  Details on the wealth tax on real estate assets are still to be released.  PDL target of Rs 855 bln means fuel prices will remain elevated;
• Primary surplus and FBR targets mean the EFF will be difficult;
• Without a staff-level agreement, the FX market and PSX will remain vulnerable;
• Three fuel price hikes have triggered public anger but do not appear to have dented demand;
• May’s CAD hits $ 1.4 bln, with the 11-month CAD in FY22 now at $ 15.2 bln;
• Rupee slide continues with a brief respite in recent days, while SBP’s FX reserves deplete. China’s rollover helps but will not change the trajectory;
• We expect SBP to hike interest rates by 150 bps, but this will not change the country’s inflationary trajectory;
• Managing the external sector will be challenging in FY23. The finance minister has said Pakistan needs $ 41 bln in FY23, which is unlikely to be realized.  We expect some form of debt restructuring next fiscal year;
• While the IMF wants PDL and the GST imposed as soon as possible, the coalition government intends to stagger it as the public pain could undermine its popularity;
• Imports show signs of easing as trade restrictions and a weaker rupee reduce demand. Rising interest rates also dampen consumer demand, especially for automobiles and motorbikes.  However, monthly exports are trending down, and with a global recession about to start, Western orders for textiles are falling;
• YoY inflation hits 13.8% in May and could surge beyond 23% in June;
• Revised budget reveals a degree of desperation to restart the EFF, but it is not clear what SS wants. The loss of political capital, possible disappointment in the Punjab byelections, and a tough EFF does not support the SS government’s aim to stay in power till 2023.  Perhaps the latter is driven by the goal of undermining IK’s popularity and grooming the next generation of the two political dynasties.  We argue that if Hamza Sharif cannot secure his government in Punjab, the PML-N supremo will pull the plus and demand early elections;
• The war in Ukraine is driving the world into recession. The EU must cope with dwindling gas supplies from Russia, and experts are projecting a global famine.  While this conflict continues, global commodity prices will remain elevated, and Pakistan’s external sector will remain vulnerable.  However, we see the conflict moving towards a negotiated settlement.

• The coalition government rightly said that Pakistan cannot afford IK’s relief package (specifically the fuel subsidy), but the government still hasn’t increased fuel prices. This has dampened business sentiments as many feel the EFF is in doubt, and without the IMF, Pakistan is heading towards default;
• The policy paralysis can be traced to the overwhelming political uncertainty. Coalition partners are divided about early elections and raising fuel prices, yet are putting across a false bravado about taking tough decisions;
• Pakistan and the IMF have started the 7^th review, which should pave the way to restart the EFF. The IMF has clearly stated that the fuel subsidy must be eliminated, which could become a prior action to resume the EFF in FY23;
• The rupee has lost Rs 15/$ in May and there is no respite in sight. SBP’s FX reserves continue to fall, but the pace of decline has eased in recent weeks.  The market realizes that fresh inflows are not possible until Pakistan secures the next IMF tranche;
• April’s current account deficit (CAD) was $ 623 mln, which shows that the external deficit is now under control. The import momentum appears to have eased and record-high remittances have contained the CAD;
• Although Pakistan’s oil import bill continues to increase, non-fuel imports have started falling and will continue as the rupee weakens and new import restrictions are imposed;
• SBP is unable to control market interest rates. Despite a 250 bps hike on April 8^th, the market expects a further 150 bps increase, as inflation is rising and SBP tends to pointlessly chase inflation;
• Food inflation (YoY) hits 17% in April, and headline inflation exceeds 13%. If diesel prices are increased to match international prices, YoY inflation could touch 25% in June 2022, and food inflation could be even higher;
• IK’s rallies are capturing public attention as more TV channels are airing his populist speeches. The political/economic paralysis is playing into IK’s narrative, as he steps up his attacks on political dynasties, corruption, subservience, and US interference;
• While coalition partners claim that they will serve their full term (till August 2023) we do not think this is possible. SS is caught in a Catch-22 situation: stay in power and be blamed for the economic pain, or call early elections and face criticism that he only came into power for selfish reasons (recall, IK dissolved parliament on April 3^rd, which would have automatically triggered early elections);
• The war in Ukraine could become unpredictable as the US/NATO seek a military solution. As the war continues, food and fuel prices will remain elevated, which means more BoP pressure on Pakistan.

• The past month witnessed frantic political maneuvering as opposition parties sought to topple IK’s government. After much drama on 3^rd April, the Supreme Court had to direct parliament to carry out the vote of no confidence on 9^th April;
• IK was removed as PM and Shehbaz Sharif (SS) was voted in as prime minister on 11^th April;
• The US has refuted IK’s allegation that it sought regime change and interfered in Pakistan’s affairs;
• The new finance minister (FM), Miftah Ismail, has said that IK’s fuel subsidy cannot be sustained. He has said several times that petrol prices are subsidized by Rs 21/liter, and diesel is subsidized by Rs 51.52/l.  Eliminating these subsidies will be politically difficult;
• Discussions with the IMF have focused on the need to reverse IK’s relief package, and to stay on track with targets for end-June 2022. The FM has agreed to reverse the fuel subsidy, but said it would be impossible to come on fiscal track because of the mismanagement by PTI;
• Pakistan’s current account deficit (CAD) was $ 1 bln in March, which shows a degree of consolidation despite elevated commodity prices. The $ 13.2 bln CAD in 9-month suggests that the $ 17 bln full-year target is credible;
• SBP’s FX reserves fell by $ 5.5 bln since end-February, and the rupee has been on a roller coaster ride. In our view, this does not reflect economic fundamentals but ongoing political developments;
• While the FM is keen to restart the EFF, prior conditions could be tough. The need to eliminate fuel subsidies, to increase power tariffs, steps required to rehabilitate loss-making SOEs, and the need to build FX reserves, will require unpopular steps.  With a large and unstable coalition, SS may opt for early elections and let the 3-month interim government do the heavy lifting;
• IK held large and energetic rallies in Peshawar, Karachi, and Lahore, as his supporters ignored PTI’s poor economic performance while in power. IK’s narrative about the endemic corruption in Pakistan’s political dynasties, which have been allowed to stay in power because of Western (US) support, appears to have fired up his supporters;
• While PTI wants early elections to be announced immediately, the ruling coalition parties are not singing from the same page. In our view, given the corrective steps required and the diverging interests of coalition partners, the SS government will call for early elections as soon as preparatory work for the next elections has been completed;
• The war in Ukraine will drag on as Russia has changed its focus to Eastern Ukraine and taking control of Ukraine’s access to the Black Sea. As this conflict continues and more civilians are killed and displaced, the divide between the West and the East (Russia, China, India) will deepen.  This has repercussions for Pakistan, as both sides will want to know what side of the fence Pakistan would prefer to be in.

• The opposition tables a no-confidence (No-C) vote against the PM for 28^th March;
• IK has responded by warning that PTI will gather one million supporters in D-Chowk to impede turncoat PTI lawmakers and opposition MNAs from attending the No-C vote;
• Both sides have approached the Supreme Court (SC) for clarification on defecting lawmakers, but the SC is unlikely to impede the constitutional system;
• Although IK claims he has a surprise in store, it would appear the opposition has the numbers to end IK’s term as PM;
• The timing, however, is awkward: on 28^th February, IK announced a relief package to cut fuel prices by Rs 10/liter and power tariffs by Rs 5/unit, and keep these prices fixed till July 2022. Against the backdrop of the Russian invasion of Ukraine and the resulting spike in global commodity prices, the cost of this subsidy will surely derail the EFF.  Reversing the relief package will spike inflation and carry a heavy political cost;
• In our view, the easiest path forward is for IK to call early elections in exchange for the withdrawal of the No-C vote, while the 3-month interim government would take the painful steps to bring Pakistan back on track with the EFF;
• Looking at the economics, February’s current account deficit (CAD) at $ 545 mln was shockingly low. The abrupt narrowing in the absence of policy measures to contain imports in February, makes one question if this improvement is sustainable;
• February’s oil import bill is lower than what was posted each month between Aug to Dec 2021, while auto and food imports have fallen sharply in February. This is likely to reverse itself in the next several months;
• Telltale signs that the IMF is seeking a return to cautious policymaking can be seen in the recent weakness of the rupee;
• SBP maintains the status quo on interest rates and supports PTI’s political narrative. However, it warns that the next MP decision could be ahead of schedule if “external” factors demand it.  We see rates hikes in the next few months;
• Russia’s invasion is bogged down by Ukrainian resistance, as both sides have hardened their positions. Western sanctions against Russia have hammered its economy, but this does not appear to weaken Putin’s resolve.  Mainstream media (CNN, BBC, etc.) has adopted a one-sided narrative in the conflict, which will make a negotiated settlement more difficult;
• NATO is wary of directly engaging Russian troops/jets, which means the invasion will drag on and the humanitarian cost (deaths and refugees) will continue to mount. The conflict will also keep commodity prices elevated, which means the EFF takes on greater imperative;
• A number of prominent countries have refused to condemn Russia, which means Russia is not as isolated as the West would like. In our view, Russia (in collaboration with China) is trying to create an alternative currency clearing system that bypasses US restrictions on $ clearing.  In our view, this may be the most prominent repercussion of the war in Ukraine.