Pakistan's fiscal strain widens as govt breaks borrowing record

July 12, 2024 (MLN): Pakistan's government has borrowed a massive sum of Rs8.564 trillion from commercial banks in the fiscal year 2023-2024 (FY24), the highest debt ever taken in a year and surpassing the combined figure of the last two fiscal years.

The central bank’s data on monetary aggregates states that the government used these funds to meet its budgetary operations, or in other words, we can say to finance its fiscal deficit.

The country has been stuck in the debt tunnel for quite a prolonged period, where its expenses have always exceeded its revenue base, resulting in an operational gap that has to be covered through debt either from local or foreign sources.

Concerningly, the deficit trend is rising at a faster pace over the years due to which the government has increased its dependence on commercial banks to fund the economy’s operations.

The revised deficit figure for FY24 stands at Rs8.39 trillion. When compared with the actual borrowing figures, it becomes partly evident that the government covered more than 90% of this deficit through funds provided by commercial banks.

This, at times, is expressed as a positive indicator as the government has reduced its reliance on foreign sources to run the economy, switching and preferring borrowing from local sources.

However, what lies as a major concern for the economy are the dark shadows of hectic markup costs associated with this borrowing which is the dominant outflow that the economy has to face every year.

As per the budget documents, the total markup on domestic debt is revised at Rs7.21tr for FY24, covering 47.57% of the total expenditure.

Another alarming fact is the trend witnessed in these interest payments, rising at a 10-year average of 23.8% annually, and around 45% year-on-year in just FY24.

The inflationary shocks that arose in the post-COVID recovery zone led to an increase in interest rates across the globe. In Pakistan, the central bank has been observed raising the policy rates since late 2021 to its peak of 22% in June 2023.

Heavy borrowing coupled with peak policy rate, led to increased interest charges, which in turn resulted in higher expenditure and further widened the revenue-expenditure gap.

The government is considered the most reliable lending resort in the eyes of commercial banks due to its status as the most secure and dependable source to lend to.

This becomes more evident as loans to the private sector have shown stagnant growth this fiscal year, with the government being the main lending destination for the country’s most profitable sector.

What further added to their benefit was the central bank’s decision to keep interest rates in the country at their peak of 22% throughout the year, apart from the recent 150bps cut towards the end of FY24.

This enabled banks to book persistent higher returns, but on the other side, it exposed the government to heavy finance charges and the private sector to the crowding out effect.

Will the upward trend continue?

History shows that the gap between Pakistan’s revenue and expenditure will sustain its climbing journey, which in turn would widen the room for bank borrowing.

Amount in Rs Million

Additionally, the government has set massive tax and non-tax targets of Rs12.97 trillion, and Rs4.85tr, respectively for FY25 which appears to be more questionable rather than achievable, resulting in feasibility concerns.

Monetary easing has already begun in the country on the back of slowing inflation. Further drops in interest rates might prompt the government to continue local bank borrowing at reduced markup rates.

On the other hand, the business sector or private individuals are currently unwilling to borrow at premiums over 20.5%. They believe that since inflation dropped to 11.8% in May, the policy rate should be reduced more quickly and immediately.

This means that the private sector may not be very demanding of bank loans in the near term, prompting banks to continue to focus on the government.

Moreover, before witnessing eased pressures on the finance charges section, the government would have to bear the consequences of borrowing at peak policy rates.

In FY25, the government plans to finance its estimated federal deficit of Rs8.5 trillion by borrowing 90.38% of the amount (Rs7.68 trillion) through banks, selling securities such as T-bills, PIBs, and GIS bonds.

Meanwhile, the markup payment on domestic debt, which is covered approximately in total by outflows to banks is projected at Rs8.74tr, up by 21.15% compared to the revised estimates of FY24.

Therefore, it is projected that government borrowing will continue to rise at an alarming rate in the upcoming fiscal years, with the exception that fiscal operations improve, meaning that the country transits to fiscal surplus, which appears quite unlikely.

Furthermore, with further monetary easing, the pressure of interest payments on the country’s resources is unlikely to decrease significantly as it is primarily determined by the volume of loans, which could increase due to upcoming payment obligations.

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