1MDB’s failure to service a US$50 million interest payment, following its dispute with Abu Dhabi’s International Petroleum Investment Corporation, will hurt Malaysia’s efforts to cut budget deficit, says international ratings agency Moody’s.

Moody’s estimates Malaysia’s total liability associated with the default at around 2.5 percent of the gross domestic product, while the fund’s total of RM42 billion debt is four percent of the GDP, financial news website Nikkei Asian Review reported.

However, the contingent risk is “high or even higher than the government’s actual explicitly guaranteed exposures”, Moody’s is quoted as saying.

"The cross-defaults triggered on instruments guaranteed by the government of Malaysia, as well as an indemnity associated with the IPIC guarantee, raise the risks of the crystallisation of contingent of liabilities on the balance sheet of the country," Christian de Guzman, senior credit officer at Moody's, reportedly said.

Malaysia aims to hit a deficit target at 3.1 percent of GDP this year.

The Public Accounts Committee estimates that the Malaysian government exposure in 1MDB is at RM20 billion.

1MDB refuses to pay the US$50 million, arguing that it is the responsibility of IPIC which had acted as guarantor to US$1.5 billion in bonds issued by 1MDB in 2015.

IPIC on Monday said it will honour the interest payments to bondholders, but is seeking indemnities for what IPIC and its subsidiary Aabar Investment PJS should have been paid in return for acting as guarantor.

1MDB said it already made that payment to British Virgin Island-registered firm Aabar Investment PJS, but IPIC says it does not own this firm.

Bloomberg reported that IPIC is unmoved despite the US$50 million default.

“There’s no cross-default from that bond to IPIC if only 1MDB defaults, so the contagion risk is absent as long as IPIC fulfils its payment obligations as a guarantor,” Rehan Akbar, a Dubai-based analyst at Moody’s Investors Service, told the financial newswire.

“Investors who are familiar with the government of Abu Dhabi and its key state-owned enterprises understand that the willingness and capacity to honour contractual obligations by these entities isn’t in question as a result of the 1MDB situation."