Pakistan's Currency Strategy: A Fragile Path to Stability

In a significant shift signaling renewed confidence in Pakistan’s economic trajectory, Fitch Ratings upgraded the country’s foreign currency credit rating to ‘B-’ from ‘CCC+’ in April 2025. At the heart of this decision was Islamabad’s decision to allow its currency, the rupee, to weaken gradually—a policy Fitch views as a critical step toward stabilizing an economy once teetering on the brink of crisis. This move, embedded within broader fiscal and structural reforms, offers investors a glimpse of potential opportunity amid persistent risks.

Fiscal Discipline: The Foundation of Stability
Pakistan’s recent fiscal progress has been nothing short of dramatic. The budget deficit, which swelled to over 8% of GDP in 2022-23, has been slashed to an estimated 6% in fiscal year 2024-25, with projections of further declines to 5% by 2026. This tightening has been driven by austerity measures, including reduced public spending and stronger provincial surpluses. A primary fiscal surplus—the surplus excluding interest payments—is now expected to exceed 2% of GDP in 2025, up from near-zero just two years ago.

Lower inflation has amplified these gains. After peaking at over 20% in 2023, inflation has plummeted to an average of 5% in 2024-25, aided by a combination of tighter monetary policy and falling global commodity prices. However, domestic interest payments remain a burden, consuming 59% of government revenue in 2024-25—a figure that underscores the fragile balance between stability and sustainability.

External Stability: Reserves, Remittances, and Risks
The rupee’s gradual depreciation has been supported by external stability measures. Pakistan’s foreign exchange reserves, bolstered by IMF support and central bank interventions, have rebounded to nearly $18 billion by March 2025—up from a low of $8 billion in early 2023. This recovery has been aided by record remittances, projected to hit $38 billion in 2024-25, which now account for over 6% of GDP.

The current account surplus, a rare bright spot in recent years, stood at $700 million in the first eight months of 2024-25. This reflects not only strong remittances but also favorable import prices. However, domestic demand-driven import growth poses a risk. Fitch warns that a widening external deficit could strain reserves if global trade conditions deteriorate.

The Debt Overhang: A Lingering Shadow
Pakistan’s reliance on external financing remains a critical concern. Over $8 billion in external debt matures in 2024-25, with another $9 billion due in 2025-26. The government aims to secure $10 billion in external financing this fiscal year, including $4 billion from multilateral lenders and $5 billion from Chinese commercial banks. While IMF support—through a renewed $7 billion bailout—has eased liquidity pressures, the dominance of short-term commercial loans raises vulnerability to capital flight.

Structural reforms, such as provincial tax hikes on agricultural income, have addressed revenue gaps. Yet political volatility looms large. A fragmented political landscape and potential reversals of reforms could undermine progress, as seen in past cycles of fiscal profligacy.

Conclusion: A Fragile Equilibrium
Fitch’s upgrade marks a pivotal moment for Pakistan, reflecting hard-won fiscal discipline and external stability. The rupee’s gradual depreciation, far from a crisis, has been a deliberate tool to align currency valuations with economic fundamentals. With inflation subdued, reserves rising, and the IMF’s seal of approval, the near-term outlook is cautiously optimistic.

However, the path ahead remains fraught. Sustaining reform momentum, managing external debt, and avoiding political backsliding are non-negotiable. Fitch’s stable outlook hinges on Pakistan’s ability to keep the deficit below 5% of GDP, stabilize inflation near 5%, and secure external financing without overleveraging. The stakes are high: failure could reignite currency volatility and derail progress.

For investors, Pakistan presents a high-risk, high-reward scenario. The currency’s managed weakening, paired with improving fiscal metrics, offers a window to capitalize on undervalued assets—from equities to sovereign bonds. Yet the fragile equilibrium demands vigilance. As Fitch’s rating underscores, Pakistan’s stability is no longer a mirage—but it is still a distant oasis, reachable only through unwavering resolve.