Pakistan Faces Tight Fiscal Situation: IMF

Pakistan faces a tight fiscal situation, says the International Monetary Fund (IMF). The Fund in its latest Technical Assistance Report for Pakistan noted that the ratio of public debt-to-GDP has risen significantly in recent years, growing by around 16 percentage points of GDP between FY17 and FY23. This is due to a combination of factors, including weaker-than-expected GDP growth, a depreciation of the rupee, the high cost of responding to natural disasters and the pandemic, underperforming State-Owned Enterprises (SOEs), but also the general challenges in delivering on planned fiscal consolidation. Concurrently, the proportion of budget revenue consumed by interest payments has doubled since FY17 and now stands at 60 percent of tax revenue. The authorities have the difficult task of converting a primary deficit of 1.3 percent of GDP for FY23 into a primary surplus of 0.4 percent of GDP for FY24. This goal is predicated on the materialization of additional revenues from recent measures and significant restraint across all areas of expenditure while prioritizing social and development spending. The objective in the medium term is to bring down debt below 60 percent of GDP, from 74 percent currently, in line with the Fiscal Responsibility and Debt Limitation Act (FRDLA) of 2005. In recent years, actual fiscal outcomes at the Federal level have fared worse than the projections. The actual fiscal deficit exceeded the budgeted deficit by 25 percent on average over the period FY17 ̶23. Budget estimates for revenue have consistently been overestimated. The performance of non-tax revenue (against budgeted amounts) has notably deteriorated in recent years, experiencing a year-on-year drop of 53 percent in FY19 and 43 percent in FY22. In years prior to FY20, this revenue shortfall was met by spending offsets, particularly by cuts in non-interest recurrent expenditure and development expenditure. In recent years, however, the authorities have failed to contain spending, despite making large cuts to development spending. At the same time, interest payments have risen sharply, due to the increase in public debt, largely domestic and non-concessional in nature, and a rise in borrowing costs. In addition to their own source revenue, the four provinces have a direct call on the “divisible pool” of Federal taxes, as defined by Amendment 18 (2011) of the Constitution. The last National Finance Commission Award allocates this divisible pool “vertically” between Provinces and the Federal government in the ratio of 58:42; then “horizontally” across provinces based on factors such as population size, population density, and poverty. Provinces’ revenue from the divisible pool represents around three-quarters of their total revenue. Their spending comprises roughly two-thirds recurrent and one-third development, largely in education and health. In recent years, each Province has signed a Memorandum of Understanding with the Federal government which includes a desired, but non-binding, level of fiscal surplus. The Federal government’s recent poor fiscal performance is attributable to several factors. These include the devastating floods of 2022, with losses estimated at 5 percent of GDP; substantial volatility in commodity prices; and tightening external and domestic financing conditions. These unforeseen challenges have complicated budget planning and execution. The government was required to undertake emergency measures in response to the floods, the slowdown in economic growth and the rise in consumer prices. Policy slippages have also contributed to the current tight fiscal situation. In FY23, unplanned and untargeted subsidies, and delays in rolling out planned revenue measures delayed planned fiscal adjustments. At the same time, the restrictions on imports throughout the year directly hampered revenue collection from import-related sales tax and customs duties and contributed to the broader decline in tax revenue through a downturn in economic activities and the closure of several industrial facilities. In FY22, amid political tensions, a relief package provided generous subsidies on petrol and diesel, lowered electricity tariffs, and provided tax exemptions and a tax amnesty. These measures were accompanied by increases in public wages and pensions and additional food subsidies. As a result, there have been substantial changes to the size and composition of spending compared to the approved annual budget. These in-year changes have occurred either through technical supplementary grants—which are effectively virements between grants—and through supplementary and excess grants (henceforth “supplementary grants”), which are additional grants approved during the year not met by the surrender of existing grants (as defined by Article 84 of the Constitution). In FY23, the sum of these supplementary grants exceeded 50 percent of budget spending. As discussed later in this report, given the extraordinary latitude taken by the Executive in its interpretation of Article 84 of the Constitution to approve these grants without the prior approval of the National Assembly, this means that a significant proportion of spending does not undergo the prior scrutiny of the latter.