Budgetary outcome in first half of FY24

The information on the fiscal operations by the federal and the provincial governments in the first half of 2023-24 has been released by the federal ministry of finance. The overall budgetary outcome is a consolidated fiscal deficit of 2.3% of the GDP, as compared to 2.0% of the GDP in the corresponding period of last year.

However, the good news is that there is a larger primary surplus of 1.7% of the GDP as compared to 1.1% of the GDP last year. Consequently, the performance criterion for December 2023 with respect to the size of the primary surplus in the on-going IMF Stand-by Facility has been met.

This is need to explain the apparent contradiction between the presence simultaneously of a larger budget deficit and a larger primary surplus. This is due to the big increase in the level of debt servicing from 3% to 4% of the GDP, leading to a, more or less, corresponding increase in total expenditure. However, this has been largely neutralized by an increase in the total revenue-to-GDP ratio from 5.6% to 6.5% of the GDP.

Exclusion of the larger level of debt servicing from total expenditure leads to a bigger primary surplus of 1.7% of the GDP. It is vital that the target for the year of 0.4% of the GDP is achieved. Usually, the largest primary deficit is in the fourth quarter of a financial year. For example, during this last quarter in 2022-23 the primary deficit was as large as 1.6% of the GDP.

The overall revenue outcome is positive. Total revenues of the federal and provincial governments combined have risen significantly from 5.6% to 6.5% of the GDP, with a growth rate of almost 46%.

However, most of the buoyancy has been demonstrated by federal revenue sources. The overall growth rate of federal taxes and non-taxes combined is as high as 48%. Examples of extraordinary growth in taxes are income tax and excise duty. The former has shown a growth rate of almost 40%, due to fast increase in withholding tax revenues from interest income, imports, etc. The big 61% jump in revenues from the excise duty is the result of the big escalation in the tax rate on cigarettes.

There is need, however, to highlight here a point of vulnerability in FBR revenues. This is the relatively low growth rate in revenues from customs duty and the sales tax, with growth rates of 16% and 19%, respectively. This is due to the restricted growth in the volume of imports and recent stability in the value of the rupee. Consequently, the tax base corresponding to the rupee value of imports has shown an increase of only 8%. If income tax revenues show somewhat less buoyancy in coming months, then the FBR revenue target will become increasingly difficult to achieve.

The revenue effort by the four provincial governments has been disappointing. Total revenues have shown a growth of close to 19% and continue to decline as a percentage of the GDP, despite the substantial potential for raising much larger revenues through progressive taxation.

Within federal non-tax revenues, there has been a truly extraordinary jump in revenues from two sources, which have made a major contribution to improving the budgetary position. These are SBP profits and the petroleum levy which have shown increases of 161% and 165%, respectively.

These much larger revenues have helped finance the additional outlay on debt servicing. However, there is unlikely to be any further transfer of profits by the SBP in 2023-24. Consequently, there will be a shortfall of almost Rs 150 billion.

Turning to the expenditure side, debt servicing has now preempted over 45% of total public expenditure. It has risen by 64% in the first six months and is likely to exceed the budgeted magnitude in 2023-24 by over Rs 1 trillion, due to the continuation of the extraordinarily level of interest rates.

Defence expenditure has increased by 19%. There is evidence of some spillover in this expenditure as the annual projected growth is 13%. Due to enhancements in salaries and pensions, these expenditure heads have shown big increases of 34% and 26%, respectively.

The growth rate of subsidies has been unprecedented at over 90%. This is probably the consequence of interventions to reduce the circular debt in the energy sector. However, there are indications that the performance criteria related to the power sector payment arrears in the IMF SBF for December 2023 has not been met. This will render difficult the forthcoming second quarterly review.

The most depressing aspect of public finances today is the virtually full displacement of development spending at the federal level by the exponential growth in current expenditure, like debt servicing and subsidies. Believe it or not, federal development spending in the first six months of 2023-24 is only Rs 130 billion, even less than the level of Rs 136 billion in the corresponding period of 2022-23. This is equivalent to 0.1% of the GDP.

The throw-forward of ongoing project costs in the federal PSDP is estimated at almost Rs 9000 billion. As such, even if the development expenditure target of Rs 500 billion is met for the year, this will contribute only marginally to the completion of projects. The lack of infrastructure development will act as a major constraint to growth in years to come.

The bottom line is a budget deficit of Rs 2407 billion in the first six months. The federal deficit is Rs 2697 billion, while the provinces have generated a combined cash surplus of Rs 290 billion. They are expected to achieve a surplus of Rs 600 billion by the end of the year. There is a need to note the large statistical discrepancy of Rs 219.5 billion in the second quarter, which has led to a corresponding significant reduction in the budget deficit.

Finally, there is need to focus on the financing of the federal budget deficit of Rs 2697 billion. The pre-dominant source has been domestic bank financing of Rs 2338 billion. Net external financing has been of Rs 608 billion, while non-bank borrowing is a negative Rs 250 billion.

The actual pattern of deficit financing diverges substantially from the budget estimates. The expectation was that non-bank borrowing would be a major source of borrowing in 2023-24 with the magnitude approaching Rs 2 trillion. Instead, it has turned negative. Further, additional inflow of Rs 650 billion is anticipated from external sources in the second half of 2023-24.

Overall, the first half of 2023-24 has seen a budgetary outcome, which is positive in nature, with a big increase in the primary surplus from 1.1% to 1.7% of the GDP. However, there are some risks associated with meeting the annual fiscal targets. These include slow growth in the tax base of the rupee value of imports, flattening out of federal non-tax revenues, continued pressure on subsidies due to the growing circular debt problems and a process of abandonment of implementation of on-going federal PSDP projects, which will jeopardize growth prospects in years to come.

Copyright Business Recorder, 2024