Amid significant risks to the official budget deficit target due to higher-than-budgeted spending on interest payments, a cabinet body on Tuesday discussed further tightening of the belt by slashing development spending, particularly expenses on provincial schemes.

In the inaugural meeting of the Cabinet Committee for Economic Revival (CCoER), the interim Finance Minister, Dr Shamshad Akhtar, also ruled out giving any further subsidies for any ventures, including information technology projects. She asked the members to present proposals for private sector-led growth, according to government officials.

The meeting also broadly discussed the issue of inflation, which is set to spike further in the coming months due to higher electricity and fuel prices and constant rupee devaluation. The cabinet body urged the central bank, the Ministry of Planning, and the provinces to formulate a joint strategy to lower inflation expectations.

The cabinet body was informed that inflation in Pakistan would remain high during this year due to currency devaluation and an increase in electricity and fuel prices, with further volatility expected in the exchange rate market.

For the current fiscal year, the federal budget deficit target is Rs7.6 trillion or 7.2% of GDP, which sources said might be missed as interest payments were understated. Interest payments are budgeted at Rs7.3 trillion.

Sources said that the cabinet committee resolved that fiscal stabilisation should be the goal during the current fiscal year and any expenditure slippages should be offset by rationalising public sector development spending.

One member suggested that the provincial projects funded by the federal government should be halted during the current fiscal year to offset the impact of any excessive expenditures. For this fiscal year, the government has allocated Rs950 billion for development spending.

The interim prime minister established the committee to propose short-to-medium-term recommendations for economic revival. However, these goals run contrary to the fiscal stabilisation objectives agreed upon under the $3 billion International Monetary Fund (IMF) agreement.

But there are serious risks to the fiscal and external financing framework due to ambitious goals set at the time of the budget, said the sources.

The interim finance minister emphasised fulfilling the IMF conditions, including a ban on the issuance of supplementary grants.

The federal government debt increased to Rs61 trillion – equal to 72% of GDP by June 2023 – an addition of Rs13 trillion in FY23, the sharpest pace of increase ever recorded. An amount of Rs 900 billion was added to public debt in the last fiscal year due to primary budget deficit-related slippages. Another Rs5.8 trillion was the cost of interest payments, while Rs6.9 trillion was added to the debt due to rupee devaluation.

This fiscal year’s projected budget deficit of Rs6.9 trillion will be financed with Rs4.4 trillion in domestic borrowing and Rs2.5 trillion in external borrowings. However, the $6 billion budgeted commercial borrowing at current sovereign ratings and high global interest rates seems overly ambitious, they added.

In the case of a higher deficit and shortfall in external funding, reliance on domestic bank financing will increase, which would further constrain private sector credit.

The SBP’s outstanding loans to commercial banks have increased to a record Rs10 trillion as of August 18, 2023, a rise of 182% since June 2022. The banks take these loans and then lend to the federal government for budget deficit financing. This is quite an alarming increase in overnight operations, equivalent to one-third of the broad money.

A participant in the meeting said that the government’s expenditure cannot be controlled until there is a reduction in interest rates. However, given the inflationary path, it is highly unlikely that interest rates can be reduced from their current level, he added.

Credit to the private sector went negative by Rs189 billion during the month of July compared to a Rs100 billion increase in the same month of the previous year. Credit to the government increased by 27%, and credit to Public Sector Enterprises (PSEs) increased by 30% in the last fiscal year. However, credit to the private sector posted a marginal 0.4% growth in FY23, down from 22% in FY22. The railways minister said that he had a plan to turn around the entity, which he would share with the committee soon.

The meeting was informed that the inflation rate would further increase this month compared to the 28.4% reading last month. Overall headline inflation will spike by 1% due to Rs20 per litre diesel prices, according to finance ministry estimates. The second-round impact of energy prices will keep core inflation high until December this year.

There is also an increase in international commodity prices in July, which will fuel prices of crude oil and coal, whose prices increased by 9% in July.

The industry minister proposed that the textile sector not be overburdened with the cross-subsidy of domestic consumers, or else the export targets cannot be met.

Over the years, Pakistan’s economic growth has been primarily consumption-led, fuelled by spending by households and the government. Consumption spending contributed 96% to GDP growth in FY2022, which declined marginally to 94% in the last fiscal year. Economic growth slowed to 0.3%, although the figure has been disputed by independent economists and international financial institutions.

No government has been able to shift this trend, and the country’s manufacturing base is now shrinking due to wrong economic policies.

Exchange rate volatility has returned due to higher imports, lower remittances and exports, and a resulting current account deficit. The rupee lost further value and closed at over Rs303.05 to a dollar in the interbank – the lowest ever value. The average variation between the interbank and open market rates was 3.1% on August 15th, more than double the level agreed with the IMF.

Published in The Express Tribune, August 30th, 2023.

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