Fitch Ratings, an American credit rating agency, has forecasted that Pakistan’s FY25 budget will significantly reduce government debt, predicting a decline to 68% of GDP by the end of FY24. This improvement is attributed largely to high inflation and deflator effects, which help offset the rising domestic interest costs.
Fitch expects both inflation and interest costs to fall due to economic growth and primary surpluses.
On June 10, the State Bank of Pakistan made a pivotal move by reducing policy rates by 150 basis points to 20.5%, marking the first cut in five years. This monetary easing is anticipated to further reduce inflation to 12% for FY25 and lower the policy rate to 16% by the end of FY25.
on June 13, the federal government presented the FY25 budget, setting ambitious targets: a 5.9% GDP deficit and a 2.0% primary surplus, a significant improvement from FY24’s estimated 7.4% deficit and 0.4% primary surplus. The budget also aims for a 3.6% growth rate in FY25, up from 2.4% in FY24, driven by extensive tax increases and significant fiscal efforts at the provincial level.
Despite these optimistic targets, the budget might face resistance within parliament and broader society due to the coalition’s weaker mandate from the February elections.
Fitch has revised its fiscal forecasts, predicting a primary surplus of 0.8%, taking into account potential revenue shortfalls and higher current spending, partially offset by lower-than-expected development spending. Consequently, the growth forecast for FY25 has been adjusted to 3.0%, down from 3.5%.
Fiscal credibility has been bolstered by unpopular subsidy reforms, aligning the FY24 primary deficit with targets. While Pakistan has historically struggled to sustain reforms, the absence of viable alternatives has fostered support for stringent policy measures in the short term. Following the completion of a nine-month IMF Stand-By Arrangement in April, significant progress has been made towards a new Extended Fund Facility (EFF), according to the IMF.
However, Pakistan’s external liquidity and funding remain critical challenges. A new IMF deal is expected to secure other external funding sources, but maintaining stringent policy settings to manage external financing needs and comply with a new EFF could prove increasingly difficult. Since the February elections, Pakistan’s external position has improved. The current account deficit is projected to narrow to 0.3% of GDP (USD 1 billion) in FY24, down from 1.0% in FY23. Subdued domestic demand has reduced imports, while exchange rate reforms have boosted remittance inflows.
Strong agricultural exports have also contributed positively. Gross reserves, including gold, have risen to USD 15.1 billion, covering over two months of external payments, up from USD 9.6 billion at the end of FY23. Nevertheless, Pakistan’s projected funding needs still exceed its reserves, estimated at about USD 20 billion annually for FY24–FY25, including maturing bilateral debt expected to be rolled over.
This exposes Pakistan to external funding conditions and potential policy missteps. Pakistan’s ‘CCC’ rating, reaffirmed in December 2023, reflects the high external funding risks amid substantial medium-term financing requirements. Fitch emphasizes that despite these challenges, the FY24 primary deficit aligns with targets, supported by unpopular subsidy reforms that enhance fiscal credibility. While sustaining reforms has been difficult historically, the necessity for stringent policy measures has garnered short-term support in the absence of viable alternatives.
