Moody's Investors Service has changed its outlook for the banking system in Pakistan from stable to negative, the company announced in a press release on Monday.

"Over the next 12-18 months, banks in Pakistan will see their credit profiles challenged by their high exposure to the country's low-rated sovereign debt and a slowing economy," says Constantinos Kypreos, a senior vice-president at Moody's.

Read: Mini-budget measures not enough to curb fiscal deficit: Moody’s

Moody's says that the banks' operating conditions will be difficult, with Pakistan's real GDP growth slowing to 4.3% in the fiscal year ending June 2019, down from 5.8% in 2018.

The rupee has depreciated 30% versus the US dollar, interest rates rose by 450 basis points between December 2017 and February 2019, and inflation is rising; all factors which affect business and consumer confidence and the private sector's debt repayment capacities, the company adds.

Moody's also points out that Pakistan's banks face the risk of macroeconomic contagion through a range of channels, including:

1- their large holdings of government securities, which caps their credit profiles to the sovereign, and

2- from the authorities' weakening capacity to support the banks in case of need, as evidenced by the negative outlook on the sovereign rating.

"On a more positive note, the banks will continue to benefit from stable customer deposits and high liquidity," adds Kypreos.

The negative outlook is based on Moody's assessment of six drivers: operating environment (deteriorating); asset risk (deteriorating), capital (stable); profitability and efficiency (stable); funding and liquidity (stable); and government support (deteriorating).

Moody's rates the five largest banks in Pakistan by assets. Together, these banks account for around 50% of system deposits.