PAKISTAN’S public finances are in a Ponzi game, and have been so for several years. No metric captures this fact more starkly than interest payments on public debt as a percentage of net federal revenue. For FY24, this figure provisionally stood at 122 per cent — ie the federal government used up all its retained revenue after transfer to the provinces, and still had to borrow an additional amount to make interest payments.

The fiscal pressure has been mounting over many years without serious attention or corrective action. Ten years ago, for fiscal year 2014-15, interest payments on public debt were 62pc of net federal revenue, an elevated but still barely manageable figure. But it was increasingly clear that the pressure was only set to increase further. With the trajectory of capacity payments to IPPs and public sector pension liabilities rising inexorably well into the future, in addition to mounting losses of state-owned enterprises, it was transparent that the fiscal framework was completely unsustainable without major surgery.

Yet, despite the warning signs, successive governments have dilly-dallied on structural reform and continued to borrow to finance their un­­checked spending spree. Key political constituents such as traders continue to remain un­­touched, while the federal government’s bloated employee-related expenses continue to soar.

The federal government’s employee-related expenses (salaries, allowances and pensions) have increased from Rs752 billion to Rs2.4 trillion over the past 10 years. Including the expenditure incurred on this head by provincial governments, and excluding state-owned enterprises, government employee-related expenses have ballooned over this period to 4.3pc of GDP. With a compound annual growth rate of 13.7pc, this pension liability is set to double in 5.3 years.

It is unclear if policymakers truly grasp the nature and scale of the fiscal challenge.

On top of this, the two successive PDM governments since 2022 have loaded their budgets with political bribes via freebies for parliamentarians, the military, members of the judiciary, the bureaucracy — and even ‘working journalists’. The unconscionable budgeting has been extended to pork-barrel projects in the PSDP and provincial ADPs. Similarly, the allocation for ‘loans’ to government servants has doubled to Rs40bn for FY25.

Provincial budgeting, especially in the case of Punjab, is even more unconscionable where the budget records 70 projects totalling Rs968bn under the head of ‘Chief Minister’s Initiatives’. The finance minister’s pre-budget talk about sacrificing ‘holy cows’ appears to have been empty rhetoric.

The overall macro context makes clear Pakistan’s fiscal challenges well into the medium term, and the contours of the required policy response. And against the gargantuan task at hand, this government’s underwhelming and anaemic response via the federal budget for FY25 can be evaluated.

To restore a semblance of fiscal order, Pakistan needs to make a fiscal adjustment of around 4 to 5pc of GDP. This is not just to change the direction of the public debt dynamic, but to cater for the ballooning pension liability and making minimal allocations for meeting the SDGs. Even with this substantial adjustment, however, the country will not be building buffers against the effects of climate change or fully catering to the needs of a rapidly growing, and urbanising, population.

As important as the quantum of the fiscal adjustment is the question of how it is achieved. That is, the ‘quality’ of adjustment: which new non-paying or undertaxed sectors are brought into the tax net, how the fiscal effort of the provinces is improved, and to what extent have non-productive expenditures and political ‘pork-barrel’ projects been slashed. In short, who bears the burden of adjustment.

On each of these tests, the federal budget falls woefully short. While it aims for an overall fiscal adjustment of around 1.5pc of GDP, by far the largest in Pakistan’s history, it does so on heroic assumptions, especially on the revenue side. FBR tax collection is projected to increase over 24pc in real terms, against a real growth of 5pc in FY24. In terms of tax buoyancy, the budget aims for an unprecedented increase in FBR tax collection of 2.5 times over projected nominal GDP growth, against an increase of 1.2 times recorded in FY24.

New tax measures equalling 1.8pc of GDP, mostly coming from existing taxpayers, are expected to propel the targeted increase in tax revenue. Similarly, an abnormal increase in non-tax revenue and an outsized provincial surplus provides a prop for the fiscal façade. One ‘windfall’ the federal budget is very likely to reap is on debt servicing costs. With inflation likely to resume its sharp fall after a few months of reversing course due to the inflationary impact of the budgetary measures, the government’s interest payments could very likely be significantly lower than budgeted (assuming the volume of borrowing remains constant).

Nonetheless, it is on the expenditure side that the federal budget’s absence of a reform vision and intent is woefully apparent. Non-interest federal expenditure is budgeted to rise 32pc on the back of the increase in government employee-related expenses, stuffing of pork-barrel projects in the PSDP, defence and security-related spending, and a substantial allocation for provincial expenditures in the federal budget.

A key element of responsible budgeting is to find offsets for politically motivated initiatives (assuming the finance minister does not have the standing to say no, which sadly appears to be the case). However, this does not appear to have been practised in allowing political constituents such as traders to remain outside the tax net, or budgeting for political patronage projects and initiatives.

In sum, the federal budget for 2024-25 is a collection of misplaced priorities, a mostly missing reform impulse and overambitious targets. But these are the least of its shortcomings when compared to its biggest fatal flaw — the lack of legitimacy. A government presenting a fiscal austerity programme loaded with tax increases, administered price adjustments, and subsidy withdrawals needs to have both political legitimacy as well as credibility. With neither, this budget is destined to be as lame-duck as the government and the finance minister that presented it.

The writer has been a member of several past economic advisory councils under different prime ministers.

Published in Dawn, June 22nd, 2024