Moody’s Upgrades Pakistan’s Banking Outlook to Positive

Global credit rating agency Moody’s has revised Pakistan’s banking sector outlook from stable to positive, citing resilient financial performance and improving macroeconomic conditions compared to last year’s weak levels. “The positive outlook mirrors the Government of Pakistan’s own positive outlook,” Moody’s stated, noting that Pakistani banks maintain significant exposure to sovereign risk through substantial holdings of government securities, which represent approximately half of total banking assets. The agency cautioned, however, that Pakistan’s long-term debt sustainability remains a key concern due to its weak fiscal position and high vulnerability to liquidity and external risks. Economic growth projections have brightened considerably, with Moody’s forecasting a 3% expansion in 2025, up from 2.5% in 2024 and a contraction of 0.2% in 2023. Inflation is expected to ease dramatically to around 8% in 2025, down from an average of 23% in 2024. According to the report, problem loan formation should slow as borrowing costs and inflation decrease, though net interest margins will narrow following interest rate cuts. Banks are expected to maintain adequate capital buffers, supported by modest loan growth and solid cash generation, despite high dividend payouts continuing. The improved outlook stems largely from Pakistan’s enhanced government liquidity and stronger external position compared to 2024. Moody’s highlighted the 37-month $7 billion IMF Extended Fund Facility approved in September 2024 as providing “a credible source of external financing for Pakistan for the next few years.” Looking ahead, the agency projects GDP growth to reach 4% in 2026, building on the anticipated 3% growth in 2025. This economic acceleration is partly attributed to the 10 percentage point reduction in interest rates since monetary policy easing began in June 2024. “Lower inflation and policy rate cuts will spur private-sector spending and investment in Pakistan from current low levels,” Moody’s predicted. The report also addressed potential risks, noting that government securities accounted for 55% of banks’ total assets as of September 2024. “This significant exposure links banks’ credit strength to that of the sovereign, which is improving from very weak levels,” the agency explained. Problem loans have increased to 8.4% of total loans as of September 2024, up from 7.6% a year earlier. However, overall loans represent only 23% of banks’ total assets, limiting the impact of this deterioration. With the removal of the ADR tax for 2025, Moody’s anticipates “lower pressure on banks to increase financing, while demand remains relatively subdued despite lower borrowing costs.” This outlook revision comes just months after Moody’s November assessment, which warned that interest costs in Pakistan would consume nearly 40% of total government spending in 2025, up from approximately 25% in 2021.