US-Iran tensions threaten Pakistan’s economic fragility |
US-Iran tensions threaten Pakistan’s economic fragility
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As an IMF review mission settles this week for an assessment on Pakistan’s economy, the numbers on their spreadsheets tell a story of hard-won stabilization. Inflation is down, reserves have been rebuilt to roughly three months of import cover, and the current account is looking safe. Yet the arithmetic that matters most to Islamabad is not on any IMF worksheet. It is being calculated in the risk premiums attached to oil tankers navigating the Strait of Hormuz and in the employment contracts of five million Pakistani workers across the Gulf. For an economy that imports over 80 percent of its oil and relies on the Gulf for more than half of its annual remittances, the US-Iran escalation is not a distant geopolitical drama. It is a direct, quantifiable threat to the balance of payments and the IMF program progress that supports it.
The most immediate transmission channel runs through the energy trade. Roughly 20 percent of global oil consumption passes through the Strait of Hormuz daily, with over 80 percent destined for Asian markets. Pakistan’s entire import-dependent energy architecture is downstream of that chokepoint. Even a temporary disruption, or merely the credible threat of one, would trigger simultaneous shocks: a spike in global oil prices, a surge in shipping insurance premiums, and a repricing of freight costs across all maritime trade. For a country that spent heavily on petroleum imports last fiscal year, every sustained $10 increase in oil prices adds roughly $1.5 billion to the import bill. That is not an abstract fiscal concern; it is a foreign exchange leakage that directly widens the current account deficit precisely when the IMF expects it to remain contained.
A 10 percent decline in remittances would remove over $2 billion annually from Pakistan’s external account. Dr. Vaqar Ahmed
A 10 percent decline in remittances would remove over $2 billion annually from Pakistan’s external account.
Yet the energy channel, for all its immediacy, may prove less destabilising than the remittance channel. The increase in Pakistan’s overseas workers remittances from Saudi Arabia and UAE witnessed in the past seven months has become the anchor of recent external account stability. These are not merely transfers; they are the primary mechanism that keeps the rupee stable, finances the trade deficit, and sustains household consumption across the country. A regional conflict translates directly into job losses for Pakistani expatriates. A 10 percent decline in remittances would remove over $2 billion annually from the external account, a shock comparable in magnitude to a major oil price spike.
The third channel is external financing itself. Pakistan has secured fresh loans and rollovers this fiscal year, including a Saudi deposit extension and a Chinese deposit renewal. But global investors and bilateral creditors do not await actual conflict before adjusting their risk assessments. The announcement of heightened US tariffs on any country doing business with Iran, applied retroactively and with broad definitions, creates immediate compliance uncertainty for Pakistani traders engaged in any form of trade with Iran. The mere fear of violating US sanctions causes global banks to cut ties with any counterparts, making trade finance expensive and pushing transactions into informal channels. Trade finance becomes costlier, letters of credit face greater scrutiny, and the informal currency markets that Pakistan has worked to formalize regain their premium.
The interaction of these three channels matters more than any single shock. An oil price spike widens the current account deficit. A remittance decline reduces the financing available to cover that deficit. And tightening external financing conditions make it harder to roll over the maturing debt that bridges the gap.
This is where the macroeconomics becomes unforgiving. Pakistan’s recent stabilization has been achieved through demand compression, not structural diversification. Large-scale manufacturing expanded, but from a low base. Tax revenues remain fragile, with a shortfall in the first half that may force the government to request target revisions. The fiscal space to absorb external shocks is virtually non-existent. A balance of payments deterioration would force the State Bank into an impossible choice: raise interest rates to defend the currency, choking off the nascent recovery, or allow sharper depreciation that fuels inflation and erodes real incomes. Either path jeopardizes the IMF program, either through missed reserve targets or through fiscal slippage as subsidy pressures mount.
What should Islamabad’s proactive approach be? Secure multi-year rollovers of GCC oil facilities to shield the import bill from spot market volatility. Deploy urgent diplomatic outreach to lock in preferential pricing and supply guarantees, to reinforce its external account resilience.
- Dr. Vaqar Ahmed is an economist and former senior civil servant. He specializes in macroeconomic strategy, investment policy, and public finance.