The government recently presented the mid-term budget review of 2019-20 in the National Assembly. The document contained many anomalies and contradictions, highlighting the mismatch between the figures officially quoted and the realities on the ground.
For example, it has been claimed that in the first six months, success has been achieved in limiting the primary deficit as agreed with the International Monetary Fund (IMF). The question is: How the target for deficit reduction can be achieved when there has been a significant shortfall in tax revenues?
To put the whole thing in context, it needs to be added here that the performance criterion on the ceiling to the size of the primary deficit for December 2019 was met by a big jump in the profits of the State Bank of Pakistan (SBP) to Rs 426 billion, equivalent to over 104 percent of the projected annual profits. Secondly, development spending was restricted to 35 percent of the annual budgeted amount.
However, there are a number of risks in meeting the annual target for the fiscal deficit of 7.5 percent of the GDP in 2019-20 and the primary deficit target of 0.6 percent of the GDP agreed with the IMF. These include a substantial shortfall in tax revenue, volatility in the exchange rate, the losses and circular debt in the energy sector, unexpected increase in the public debt and problems in the financing of the fiscal deficit.
Indirectly, the government has conveyed the message to the National Assembly and the IMF that the primary deficit is likely to rise above the ceiling imposed in the performance criterion of 0.6 percent of the GDP for 2019-20.
Let us now analyse how the economic situation will shape up by the end of the year. According to the latest figures of eight months, July 19 to February 2020, federal revenues have reached Rs 2,702 billion, demonstrating a growth rate of 16 percent. If this growth is maintained over the next four months, then the full-year revenues could reach Rs 4,400 billion.
However, the revenues could get a boost from other developments. One is the steep fall in the price of oil. If half of the benefit is retained by the government in the form of a higher petroleum levy, then additional revenues of Rs 90 billion could accrue in the last quarter of 2019-20. Second, if the recent decline in the value of the rupee persists, then import-based revenues could be higher by Rs 30 billion. As such, the level of federal tax revenues, including other taxes, could be Rs 4,745 billion in 2019-20.
But given the fact that the revised target for overall tax revenues is Rs 5,505 billion, the shortfall is likely to be as large as Rs 748 billion – equivalent to 1.7 percent of the expected GDP in 2019-20 and will be the largest shortfall ever. It alone will take up the fiscal deficit to 9.2 percent of the GDP.
One way out of the situation will be to cut expenditure. There are reports that the public sector development programme (PSDP) will be cut back by Rs 100 billion. Also, the outlay on social protection and on the Benazir Income Support Programme (BISP) may be lower due to implementation capacity constraints by Rs 150 billion. These will add up to Rs 250 billion, equivalent to 0.6 percent of the GDP.
The first estimate of the budget deficit in 2019-20 is 8.6 percent of the GDP. The corresponding estimate of the primary deficit is 2.1 percent of the GDP. This is 1.5 percent of the GDP, above the target agreed with the IMF. Therefore, the prospect is that from the third quarterly review onwards by the IMF staff, there will be a violation of a key performance criterion and a need for a waiver will arise.
But some other risks face the economy. The biggest risk relates to the large and growing circular debt of the power sector. There will be a need to inject liquidity into the sector. The other area of concern is the financing of the deficit and the magnitude of debt service payments. The budget had targeted for 58 percent of the financing of the budget deficit with relatively low-cost external borrowing. During the first six months, the contribution of external financing has been 52 percent. Further, the larger deficit will imply more interest payments. The additional burden of debt servicing in 2019-20 can only be countered by a significant drop in the policy rate in the monetary policy.
All said, it seems that the federal budget deficit could be significantly higher than the targeted level of 8.1 percent of the GDP. Experts say that the consolidated budget deficit could reach 9 percent of the GDP in 2019-20. This may result in higher taxes to be imposed in the next budget, putting the average household under greater pressure.