Rising public debt

The SBP (State Bank of Pakistan) has released figures of total debt and public debt of Pakistan as of end-June 2024. The total public debt of the federal government consists of domestic debt, external debt and debt with the IMF (International Monetary Fund).

The magnitude of public debt was Rs 71,245 billion at the end of 2023-24. It has increased from Rs 62,881 billion at the end of 2022-23. This represents a growth rate of 13.3%. The level of public debt as a % of the GDP has come down significantly from 75% of the GDP at the end of 2022-23 to 67.2% of the GDP at the end of last year.

This can be considered as a significant positive development. However, this reflects the high rate of inflation in 2023-24.

Consequently, the nominal GDP went up during the year by as much as 26.4%. It does not reflect any big decline in the annual growth rate of public debt. Over the last decade, the annual growth rate has been 14.8%, not much higher than the growth rate of 13.3% in 2023-24.

A major factor in preventing faster growth in public debt is the actual appreciation in the value of the rupee in 2023-24. It was Rs 286.4 per $ at the start of the year and ended the year at Rs 278.4 per $. Consequently, the rupee value of public external debt has shown near zero growth, although the dollar value has gone up from $84.0 billion to $86.4 billion in 2023-24.

The long-term growth of public debt has been exponential in character. It was Rs 14,291 billion in 2012-13 and has shown annually an average growth rate of 14.6% to reach Rs 71,245 billion at the end of 2023-24. Consequently, each citizen of Pakistan carries on his/her shoulder a debt burden of almost Rs 300,000.

The main source of increase in the absolute value of the public debt in 2023-24 of Rs 8,364 billion is pre-dominantly the large borrowing, mostly from domestic sources. This was necessary to finance the very large budget deficit of 7,725 billion incurred during the year, especially due to limited access to external financing.

The large budget deficit is due mostly to the cost of debt servicing of Rs 8,159 billion in 2023-24. This sharply highlights how the accumulation of public debt leads to higher debt servicing which has to be financed mostly by borrowing. This puts further pressure on the size of public debt and the result is a vicious cycle.

There has, in fact, been a quantum jump in the effective interest rates on both domestic and external public debt since 2017-18. It was 8.4% on domestic debt in 2017-18 and has more than doubled to 16.7% in 2023-24. Similarly, the average interest rate on external debt has also doubled from 2.1% to 4.5%. The inability to attract sizeable net inflows of concessional multilateral and bilateral debt has contributed to this increase.

Domestic debt has also seen big changes in its composition between long-term and short-term debt. The former consists of government bonds like the PIBs and Ijara Sukuk Bonds, and funded debt in the form of National Saving Schemes. The reliance on bond flotation has substantially increased.

The National Savings Schemes are, more or less, moribund. The total debt in these schemes has actually declined in absolute terms and is now only 5.9% of total public domestic debt. There is a big need for reviving these schemes to provide an impetus to household savings, especially with an investment allowance to reduce the income tax liability. Believe it or not, there was actually total dissaving by the households in the country in 2023-24, perhaps for the first time ever.

There should also be attempts to shift to shorter tenure of bonds. With the prospect of lower interest rates in response to the big drop in the rate of inflation, the lock-in into long-term bonds with relatively high interest rates must be avoided.

We need to look at the outlook for the rate of accumulation of public debt in 2024-25. The original projection of the budget deficit this year at the time of presentation of the federal budget was Rs 8500 billion. Bulk of the financing, almost 92%, is to be from domestic sources. Non-bank borrowing is to be revived with a share of 31%. Net external receipts are estimated at approximately $2.2 billion only.

There is the risk now that the budget deficit in 2024-25 will be significantly larger. Non-tax revenues are now expected to be Rs 1250 billion lower than the original projection. There are also indications already that there will be a significant shortfall in FBR revenues.

The Provincial cash surplus is expected to be smaller by over Rs 500 billion. The positive change is in the recent reduction in the policy rate by the SBP by 2%. This will reduce the cost of debt servicing by almost Rs 600 billion. However, SBP and commercial bank profits will be lower. Overall, the expectations now are that the federal budget deficit could approach 8% of the GDP in 2024-25, equivalent to almost Rs 10,000 billion.

This will represent a jump in the budgetary financing requirements of almost 30% in relation to last year’s level, almost entirely from the domestic capital market. There will continue to be limited access to external financing. The likelihood is that there will be more market pressure on interest rates.

As such, there will be a limit to the extent to which the SBP can reduce further the policy rate, especially at a time there is need to bolster household savings?

Copyright Business Recorder, 2024