The level of expenditure of the federal and provincial governments combined has been rising continuously. It was at 17 percent of the GDP at the turn of the century. Seventeen years later, in 2017-18, it has approached 22 percent of the GDP.
What factors explain the increase in expenditure? Is this due to expansive behavior by both the federal and provincial governments? Has the cost of debt servicing risen proportionately in line with the growth of public debt? Have the outlays on development outpaced the rise in current expenditure? What has been the magnitude of increase in the defense budget as the armed forces engaged in the war against terror in the country? Have the outlays on human development increased substantially after the 7th NFC Award? Answers to these questions are given below on the basis of trends revealed over the years, 2012-13 to 2017-18.
The last five years have, in fact, witnessed a significant jump in public expenditure of 2.3 percent of the GDP. The level was 19.4 percent of the GDP in 2012-13, excluding the once-and-for-all retirement of circular debt in the power sector. By 2017-18 public expenditure had gone up to 21.7 percent of the GDP.
Bulk of the increase of 2.3 percent of the GDP has been in the expenditure by the four Provincial Governments combined. The increase in the case of Federal expenditure is only 0.2 percent of the GDP. Clearly, the increase in transfers following the 7th NFC Award combined with some improved fiscal effort has enabled rapid expansion in budgets of provincial governments. The result is that the share of public expenditure incurred by these Governments has risen to over 39 percent in 2017-18 as compared to 31 percent in 2007-08. The federal government ought to have contracted somewhat after the 18th Amendment but this has not happened.
The good news is that outlays on development account for a larger share of the increase in public expenditure. The development spending by the five governments combined has approached 4.7 percent of the GDP in 2017-18. This represents an increase of 1.3 percent of the GDP in relation to the level in 2012-13. Current expenditure has gone up meanwhile by 1 percent of the GDP.
Turning to the individual major components of public expenditure, analysis is first undertaken of the trend in debt servicing. Contrary perhaps to expectations, this cost has risen by only 0.1 percent of the GDP during the last five years to 4.4 percent of the GDP. This is indeed a pleasant surprise given that public debt has ballooned up from 63.8 percent of the GDP in 2012-13 to 72.5 percent of the GDP by 2017-18. The Ministry of Finance has been successful in containing the growth in the burden of debt servicing. This has been facilitated by low nominal interest rates in line with the big fall in the rate of inflation after 2013-14. Nevertheless, there is need to recognize the high quality of debt management displayed by MoF.
The other major head in federal current expenditure is the outlay on defense, including military pensions. There has been a significant increase in the defense budget from 3.1 percent of the GDP in 2012-13 to 3.7 percent of the GDP in 2017-18. Zarb-e-Azb operations were at their peak in 2016. Consequently, defense expenditure rose to 3.5 percent of the GDP in 2016-17. The additional cost was more than fully justified as our valiant soldiers have, more or less, completely eliminated the menace of terrorism in the country.
Development spending currently takes up about 22 percent of total public expenditure. As highlighted above, there has also been success in more than doubling the size of the total development budget in the last five years. A major impetus has been provided by spending on CPEC infrastructure projects.
The critical question of the impact of the 7th NFC Award on human development spending is now taken up. Almost 85 percent of the expenditure on education and health is by the Provincial Governments. As such, with the sizeable increase in transfers following the Award there should have been exponential growth in such spending. Unfortunately, this has not happened. Between 2012-13 and 2016-17 the increase is only 0.2 percent of the GDP, from 2.8 percent of the GDP in the former year to 3 percent of the GDP in 2016-17. The information on education and health expenditure in 2017-18 is not yet available. Less than 15 percent of total public expenditure is being devoted on spending to promote human development in the country. Only 32 percent of Provincial budgets are being allocated to education and health.
An interesting ranking can be made of the 3Ds in public expenditure, that is, debt servicing, defense and development expenditure. In 2012-13, the largest spending was on debt servicing followed by development expenditure and defense. The positive development is the change in ranking in 2017-18. Now development expenditure has the first ranking, followed by debt servicing and spending on defense. Nevertheless, it is worrying that the combined expenditure on health and education is lower than each of the 3Ds. For example, In comparison to the third ranked expenditure on defense, spending on human development is less by 13 percent in 2017-18.
The prospects for 2018-19 indicate that there may be a major point of inflection in the pattern of public spending during the year. The PTI has cut the PSDP size by Rs 225 billion in relation to the original budget estimate for 2018-19. Similarly, the Punjab Government has reduced its ADP by 41 percent in relation to the actual spending in 2017-18. Consequently, total development spending may not significantly exceed in real terms the last year's level.
Meanwhile, there has been a major spike in interest rates. Consequently, debt servicing costs will experience an increase of over Rs 400 billion in comparison with the level last year of Rs 1500 billion. There are also indications that there will be a big double-digit increase in defense spending. Therefore, we are likely to witness a fundamental change in ranking of the 3Ds in only one year. Debt servicing is likely to take over the first place from development expenditure and defense spending will come closer to the latter expenditure. Inevitably, expenditure on human development could also fall as a percent of the GDP due to slower growth in transfers. Pakistan already has one of the lowest levels of spending on human development among South and East Asian countries.
The forthcoming Budget for 2019-20 may also witness significant scaling down in public expenditure as percentage of the GDP, especially at the Federal level. Efforts must be made to spread the cut more evenly across heads. Further reductions in development spending should be avoided to prevent a slowdown in CPEC and delay the expansion of the productive capacity of the economy so as to achieve higher growth.
The emphasis has to shift towards economy in current expenditure as promised in the beginning of the tenure of the PTI government. Operational costs can be reduced by almost 10 percent. Salary increases in 2019-20 may have to be restricted to inflation indexation only for the relatively low-level employees. Also, voluntary restraint may need to be sought on defense spending.
(The writer is Professor Emeritus at BNU and former Federal Minister)