Outlook for the FY23 federal budget

The federal budget for 2022-23 is likely to be presented within the next four weeks in the Parliament. It will be first major statement of policy by the new coalition government. Will it be an innovative and strong effort with wide-ranging and progressive taxation proposals on the one hand and sizeable cuts in expenditure on the other hand or will it be a ‘business as usual’ exercise?

The ongoing fiscal year is likely to end up with large deviations from the initial budget estimates, with the exception of Federal Board of Revenue (FBR) revenues. These revenues have shown extraordinary growth and will exceed the initial target of Rs 5,800 billion but fall somewhat short of the enhanced target of Rs 6,100 million by up to Rs 100 billion. The high growth of over 26 percent is attributable to the over 50 percent expansion in the import tax base.

Non-tax revenues are likely to show a big shortfall. The primary reason is the inability to levy a petroleum levy of Rs 30 per litre at a time when the international price of crude oil rose rapidly in the aftermath of the budget presentation and now stands at almost $110 per barrel following the commencement of the Russia-Ukraine war. There is likely to be shortfall of Rs 450 billion in revenues from the levy.

Further, the Gas Infrastructure Development Cess is confronted with collection problems and dividends from State-Owned Enterprises (SOEs) will be lower than budget. Given the new State Bank of Pakistan (SBP) law, it is also unclear if the profits transferred to the federal government will be of the budgeted magnitude. Overall, there is likely to be a big shortfall of Rs 580 billion in non-tax revenues in 2021-22, as shown in Table 1.

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Table 1
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Budget Estimates and Likely Outcome in 2021-22
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                                                                 (Rs in Billion)
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                                                   Budget                Revised
                                                  Estimate              Estimate
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Federal Revenues                                     8180                   7500
Tax Revenues                                         6100                   6000
Non-Tax Revenues                                     2080                   1500
Transfers to Provinces                               3570                   3530
Net Revenue Receipts                                 4610                   3970
Current Expenditure                                  7636                   8630
Debt Servicing                                       3060                   3450
Others                                               4576                   5180
Development Expenditure                               964                    660
Statistical Discrepancy                                 -                    150
Federal Budget Deficit                               3990                   5470
Provincial Cash Surplus                               570                    570
Consolidated Budget Deficit                          3420                   4900
Primary Deficit                                       360                   1450
Budget Deficit as % of GDP*                           6.3                    9.0
*GDP projections by IMF with 2005-06 base year.
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There is also likely to be a big spillover of almost Rs 1 trillion in current expenditure for a number of reasons. First, the cost of debt servicing could be higher by almost Rs 400 billion because of the big hike in interest rates and yields on government bonds approaching exceptionally higher levels. Second, other expenditure will be larger due to bigger payment of subsidies to the power sector to limit the growth in circular debt and to meet the larger contingent liabilities of SOEs. Also, a monthly subsidy of Rs 100 billion is being given against the relief package announced by the Pakistan Tehreek-e-Insaf (PTI) government.

The large impending budget deficit in 2021-22 is likely to be reduced significantly by the big cut in PSDP spending of Rs 300 billion. Also, the cash surplus of the provincial governments is likely to attain the target level of Rs 570 billion.

Overall, the consolidated budget deficit is projected at Rs 4,900 billion in 2021-22. This is equivalent to 9 percent of the GDP, with the GDP being estimated at 2005-06 prices. The target was 6.3 percent of the GDP. Not only is there a big spillover but the level of 9 percent of the GDP will be the highest ever. The expectation was also that the primary deficit would be limited to be about 0.6 percent of the GDP in 2021-22. It is now projected at almost 2.7 percent of the GDP.

The fundamental problem is that the actual deficit at close to 9 percent of the GDP as compared to the target of 6.3 percent makes the International Monetary Fund (IMF) budgetary projections for 2022-23 well beyond the realm of possibilities. As shown in Table 2, the IMF, following the sixth review, has targeted, presumably in agreement with the government, for a low deficit of 4.5 percent of the GDP in 2022-23. Clearly, a potential halving of the deficit in one year cannot be achieved.

Therefore, in the impending discussions with the IMF in Doha, Qatar there will be need to look at the budgetary targets for 2022-23. An alternative set of targets for 2022-23 are also presented in Table 2. The feasible target deficit in 2022-23 is considered as 6 percent of the GDP, which will still require a major effect at bringing down from 9 percent of the GDP deficit this year. In effect, this will tantamount to a reduction in the size of the budget deficit by almost Rs 1 trillion in one year.

What are the targets required to bring down the budget deficit to 6 percent of the GDP next year?

Table 2

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Table 2
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IMF Projections and Likely Budget Estimates for 2022-23
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                                                                 (Rs in Billion)
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                                                      IMF             Projection
                                              Projections                    for
                                                  2022-23                2022-23
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Federal Revenues                                     9104                   8600
Tax Revenues                                         7255                   7000
Non-Tax Revenues                                     1849                   1600
Transfers to Provinces                               4270                   4060
Net Revenue Receipts                                 4834                   4540
Current Expenditure                                  7688                   8320
Interest Payments                                    3523                   3900
Others                                               4165                   4420
Development Expenditure                               636                    640
Federal Budget Deficit                               3490                   4420
Provincial Cash Surplus                               719                    700
Consolidated Budget Deficit                          2771                   3720
Budget Deficit as % of GDP                            4.5                    6.0
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The IMF target for FBR revenues in 2022-23 is Rs 7,255 billion, implying a growth rate of almost 21 percent. This target will be difficult to achieve in the absence of the sales tax on petroleum products, which have contributed significantly to the revenues from this tax in previous years. Also, given efforts to reduce the trade deficit it is unlikely that imports will show a big growth rate above the very high level already attained in 2021-22.

Direct tax revenues will also be adversely affected by the lack of growth in the big withholding taxes on imports and contracts respectively. The limited growth in the latter will be due to the restriction on the size of Public Sector Development Programme (PSDP) spending in 2022-23. However, there may be faster growth in the fixed tax on interest income due to the hike in interest rates. Corporate income tax revenues may be reduced by decline in net profitability due to higher interest payments.

The suggested target for FBR in 2022-23 is Rs 7,000 billion. This will still require a growth rate of 17 percent. The quantum of taxation proposals in the budget will need to yield up to Rs 500 billion.

Non-tax revenues need to be pitched at Rs 1600 billion, with an increase of Rs 100 billion over the likely level in 2021-22. The growth will be limited by the withdrawal of the petroleum levy.

An ambitious target is a decline of Rs 300 billion in current expenditure, though still Rs 632 billion higher than the IMF projection. Some significant reduction of almost Rs 400 billion will be in subsidies next year if petrol prices begin to at least cover the landed cost. Also, there is scope for rationalization of subsidies by better management of the circular debt in the power sector. Clearly, operating costs of the government and the military will need to be kept, more or less, constant by not granting any increase in salaries or allowances in 2022-23.

The IMF has proposed a more or less some nominal level of Public Sector Development Programme (PSDP) in 2022-23 as in 2021-22. This is appropriate given the need for a drastic cut in the level of the budget deficit as percentage of the GDP in 2022-23.

The government is probably in the process of finalizing the Budget Strategy Paper. Hopefully, the estimates in Table 2 for 2022-23 will provide a basis for deciding on the strategy and targets. It is essential that the federal ministry of finance prepares the strategy prior to the discussions with the IMF in Doha.

Copyright Business Recorder, 2022