ANALYZING PAKISTAN’S GOVERNMENT SPENDING
Danish Khan
How budgets constrain inclusive development in South Asia
South Asian countries, including Pakistan, Sri Lanka, and Bangladesh, have found themselves in economic turmoil in the last decade. This is largely explained by how government spending is planned. Traditional development-oriented budgets have now become complex balancing acts, which require finding a balance between maintain the state and supporting socio-economic development. Growing debt repayment burdens, forex constraints, and the ideological orientation of key economists and policy-makers have played a key role in constraining inclusive, development-oriented public spending.
Stagnant Growth in Pakistan
Pakistan’s economic growth has been stagnant in the recent past. Government spending is an important tool in the hands of policymakers to jump-start the process of economic growth. Economic development is a process of expanding the productive capacity of the economy, which requires technological advancement and the socially efficient allocation of resources, such as land, labor, and capital. It is a ‘technical’ process overdetermined by politics, since these decisions are mediated by a wide range of socio-institutional factors, including the distribution of political and institutional power in society. Government budgetary allocation choices can support economic development by investing in public goods. Alternately, by catering to narrow vested interests, policymakers through government spending can skew systemic inequities in society, leading to economic stagnation. Such inefficiencies in Pakistan have been often misconstrued as evidence by some economists that government spending is inherently an obstacle to economic development.
“Undertaking an analysis of government spending in Pakistan shows underinvestment in public goods/services. ”
Undertaking an analysis of government spending in Pakistan shows underinvestment in public goods/services. The budget is defined by two features: revenue and expenditure. In the financial year 2024-25, total government spending in Pakistan is estimated to be Rs. 26,315 billion and total government revenue is estimated to be Rs. 17,815 billion. This leaves a budget deficit of Rs. 8,500 billion. Seventy-three percent of the total revenue is collected through taxes. In FY 2024-25, the tax collection target has been set an ambitious Rs. 12.9 trillion, 80 percent higher than the previous fiscal year. Such a high target has serious implications whether it is met or not. If Pakistan’s Federal Board of Revenue (FBR) meets the target, it will come at the expense of working and middle classes since a large share of tax revenue does not come from income or capital gains taxes but rather from tariffs collected on imports and indirect taxes. Thus, high tax revenue will have meant higher prices for consumer goods. In scenario two, if the FBR fails to achieve its tax collection target, the government will impose more austerity by cutting development and social welfare programs. This will also disproportionately impact working and middle classes.
Interpreting Budget Deficits and Debt
“In the case of current budgetary allocations, 92 percent of deficit spending is financed by local lenders and 8 percent by foreign lenders.”
Figure 1 shows that the growth of government spending has outpaced government revenue. In the best-case scenario — if FBR meets it tax revenue target, the federal government of Pakistan will still incur a budget deficit of Rs. 8.5 trillion. While the budget deficit has been growing in recent years, it is worth asking: is it, in fact, alarming? There are two important caveats. One, deficit spending is not necessarily a negative thing if it is used for socially productive investments in the economy. Two, whether the government is borrowing in local or foreign currencies. If government is borrowing in its own currency, as the sovereign issuer of the currency, it technically cannot default on its debt liabilities. However, if the borrowing is in any foreign currency, default becomes a possibility because foreign currency is acquired through exports, remittances, or foreign direct investment (FDI).
In the case of current budgetary allocations, 92 percent of deficit spending is financed by local lenders and 8 percent by foreign lenders. Even though 8 percent seems low, external debt can grow substantially over time, especially if exports, remittances, and FDI fail to keep pace. Already the risk of defaulting on US Dollar denominated external debt is one of the most serious issues facing Pakistan. As shown in
Figure 2, Pakistan’s external debt increased by 100 percent between 2010 and 2022, or an average rate of 8.3 percent per year. Pakistan’s GDP and export growth have failed to match the growth in external debt. GDP growth on average has been hovering around 4 percent, whereas, exports have grown only by around 2.5 percent annually, which creates a serious external account imbalance and has led the country to sign one IMF program after another.
The Limits of Current Capital Flows
Pakistan’s export sector’s growth has been underwhelming. Exports cannot be separated from the productive capacity of the economy as a whole. Without substantive changes in production processes, exports are unlikely to grow at a sustained rate. This requires transforming the prevailing social relations of production and forces of production. The social relations of production are directly connected to the distribution of economic resources, where the political economy of land is dominated by large landholders and civil-military bureaucrats. This skewed distribution of land has led to the aggressive conversion of farmland into gated housing enclaves because it yields high economic returns in the short run.
“…productive resources, such as land, are concentrated in the hands of landed elites, real estate developers, and bureaucrats, who lack the socioeconomic incentives to disrupt the prevailing low-state equilibrium.”
Such trends have at least two major negative consequences, including an inflow of capital into socially unproductive investments and the conversion of productive land into unproductive assets. The capital that is flowing into unproductive land conversion could instead be directed toward the IT and manufacturing sectors, which can contribute to new employment opportunities and export growth. This is directly tied to the fact that productive resources, such as land, are concentrated in the hands of landed elites, real estate developers, and bureaucrats, who lack the socioeconomic incentives to disrupt the prevailing low-state equilibrium. Rent extraction from land and property markets creates a strong incentive for these elites to maintain the status quo. In addition, meeting growing investor demand in the land economy, real estate developers are expanding into the outskirts of cities, leading to the rapid conversion of agricultural land into gated housing enclaves and the displacement of small-scale farming communities. This contributes to stagnation in agricultural productivity and has adverse socio-environmental effects such as urban-sprawl.
As shown by Figure 3, the services sector is the largest contributor to country’s GDP. In comparison, the share of agriculture and industry is collectively around 40 percent of the GDP. Figure 4 illustrates that, despite a growing share of the services sector, Pakistan’s economy has been unable to generate a socially necessary level of decent employment opportunities for working people. Consequently, a large number of people engage in low-end petty-commodity production or disguised wage labor in the informal economy. A large number of these petty-commodity producers are systemically ‘excluded’ from the formal sectors of the economy.
Government spending has steadily increased in recent years. This creates advantages and disadvantages for different economic groups, depending on how government spending is allocated. Pakistan’s budget is divided between federal allocations, which account for 72% and provincial allocations of 28%. The largest single expenditure in the federal budget is interest payments, comprising 52% of the total federal budget (see Figure 5). This allocation also shows how the country’s private banking sector has extracted exorbitant rents from keeping the state afloat.
“High defense spending has entrenched the national security apparatus in economic policymaking and diverts resources away from socioeconomic services in Pakistan.”
The second-largest expenditure is defense spending, accounting for 11%. Defense spending can be productive if it generates positive spillover effects in the economy. For example, research and development (R&D) in the defense industry can lead to technological advancements and enhance domestic productive capacity. However, no significant commercial technological advancements have resulted from defense spending in Pakistan. Instead, high defense spending has further entrenched national security apparatus in economic policymaking and diverts resources away from socioeconomic services in Pakistan. Another key aspect of government spending are subsidies, which constitute 7% of the budget. It is estimated by UNDP in 2020 that only 31 percent of subsidies allocation cater to the lowest 20 percentile income group. A significant portion of subsidies are directed toward advancing the economic interests of the entrenched elites, which reinforces existing inequities. For example, only 14.2 percent of public expenditures are catered towards the bottom 20 percentile income group. In sharp contrast, 37.2 percent of public expenditures cater to top 20 percentile income group. Overall, Pakistani elites appropriate around US $17 billion in subsidies, perks and privileges.
The Public Sector Development Programme (PSDP) constitutes seven percent of the federal budget. The PSDP, which includes major infrastructural development programs, is arguably one of the most ‘productive’ aspects of the federal budget, as it directly expands the provision of public goods in the economy. The PSDP is also important to address uneven socio-geographical development in Pakistan. Inadequate investments in physical and social infrastructure are often cited as a major concern by people living in peripheral provinces, such as Balochistan, which has the largest land mass but a low population density. It requires substantially more resources per capita to reach the same level of development as more densely populated areas. Although Balochistan’s allocation is on par with Punjab in terms of per-capita spending, this is not enough to undo the historical socioeconomic inequities.
Figure 7 also shows that Pakistan’s PSDP has been stagnant for the past few years and, in fact, has reduced in size in US dollar terms due to the depreciation of the PKR relative to the US dollar. Thus, productive government spending has declined substantially in real terms since 2017. Moreover, interest payments, defense spending, and subsidies have further constrained the fiscal space for the PSDP.
How to Stage a Turn Around
This analysis opens the question: what can be done to turn around Pakistan’s current economic predicament? This requires addressing the prevailing socioeconomically inefficient distribution of resources. The solution lies in actively reallocating resources from unproductive to productive sectors. This involves ending the distribution of cheap rents—such as those from land—that benefit economic actors who lack incentives to innovate or compete in export markets.
“The solution lies in actively reallocating resources from unproductive to productive sectors.”
Currently, economic discussions in Pakistan are narrowly focused on short-term accounting issues, such as balancing current and fiscal accounts. This approach reduces economic policymaking to a mere accounting exercise. In reality, current and fiscal account deficits are symptoms of the deeper ‘political economy’ problem. To address Pakistan’s economic challenges effectively, a holistic framework is essential which formulates and implements sustainable long-term solutions. The importance of effective resource reallocation is crucial for moving beyond a low-growth equilibrium, as shown by examining successful macroeconomic policies of ‘developmental states,’ such as South Korea, Japan, Singapore and China. An important caveat to note, I am referring to them as ‘successful’ only in terms of achieving rapid industrialization and technological advancement as issues of equity and social justice are far from being addressed in these countries.
Productive government spending can disrupt the prevailing low-growth situation. This requires two simultaneous policy actions. First, ending the current redistribution of resources from the lower to the upper economic strata. Second, empowering the lower economic strata to contribute meaningfully to economic development. Revenue from progressive taxation on unproductive sectors should be invested in areas that enhance overall economic productivity, such as education, vocational training, clean energy, IT, and public transportation. Agrarian reforms are necessary to protect farmland from encroachment by ‘plot developers’ and to ensure access to affordable institutional credit for small farmers and small-businesses. Urban land reforms are also crucial to prevent the misuse of land, water, and other resources for rent-seeking. These measures can boost economic output and support historically marginalized communities across Pakistan to unleash an inclusive development paradigm.
Danish Khan is Assistant Professor of Economics & Co-Director of the ‘Inequality, Poverty, Power & Social Justice Initiative’ at Franklin & Marshall College. Danish’s research is focused on political economy of inclusive and sustainable development.
https://www.jamhoor.org/read/analyzing-pakistans-government-spending has the graphs and figures.
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