Pakistan has recorded a major improvement in its fiscal position during FY26, with the consolidated fiscal deficit falling to 2.6% of GDP, the lowest level recorded since FY04. The improvement marks a significant shift from the fiscal pressures experienced during FY22 and FY23, when the deficit averaged 7.9% of GDP and the country faced serious external financing and default risks. The government also recorded a primary fiscal surplus for the third consecutive year, reaching 2.9% of GDP in FY26.
The improvement in fiscal indicators has also helped reduce the public debt burden relative to the size of the economy. Gross public debt declined from 75.2% of GDP in FY23 to 68.3% in FY26. At the same time, the burden of debt servicing relative to net fiscal revenue dropped from 122% to 66% over the same period. The reduction has provided some room for fiscal management, although the adjustment has also placed pressure on economic activity through taxation and restrained development expenditure.
The fiscal improvement has come alongside a substantial tax burden on businesses and consumers. Petroleum levy collections, in particular, have become an important source of government revenue. While the government made some adjustments to taxation in the FY27 budget, the overall tax burden remains higher than it was in FY22. High taxation can influence investment decisions by reducing the incentives for businesses to expand capital formation, while continued pressure on government finances limits the space available for development spending.
The government is also operating under the requirement to maintain primary fiscal surpluses as part of its commitments under the International Monetary Fund programme. This has resulted in ambitious revenue targets, particularly for the Federal Board of Revenue. Questions remain over whether these targets can be achieved without placing additional pressure on businesses, consumers and investment activity.
During FY26, total consolidated fiscal revenues increased by 9.9% to Rs19.8 trillion. This was below nominal GDP growth of 11.6%, indicating a decline in revenue growth when measured against the expansion of the overall economy. Federal tax revenues increased by 10.8% to Rs13 trillion, while provincial tax revenues recorded stronger growth of 23.5%, reaching Rs1.2 trillion, although the provincial tax base remains comparatively smaller.
Non-tax revenues increased by only 5.3% to Rs5.6 trillion. Petroleum levy collections were one of the strongest contributors within this category, rising by 28.5% to Rs1.6 trillion. The levy remains an important revenue source for the government, and its contribution could increase further if the existing rate is maintained despite higher international petroleum prices.
State Bank of Pakistan profits remain the largest component of non-tax revenues. However, SBP profits declined by 7.3% to Rs2.4 trillion during FY26 and could face additional pressure as interest rates decline. Lower interest rates can reduce the earnings generated by the central bank, creating another potential constraint on the government’s non-tax revenue position.
On the expenditure side, consolidated fiscal spending declined by 4% to Rs23.1 trillion during FY26. Federal expenditure recorded a larger reduction of 10.3%, falling to Rs15.3 trillion. The decline was significantly influenced by a 22% reduction in debt servicing costs as interest rates fell.
Excluding debt servicing, however, federal current expenditure increased by 10.5%. Spending associated with the routine operations of the government and defence continued to rise. Defence expenditure increased by 18%, while expenditure on the civil government increased by 16%. These figures indicate that the reduction in overall federal expenditure was not accompanied by an equivalent reduction in core current spending.
Subsidies and development spending absorbed a significant portion of the adjustment. Subsidies declined by 22%, mainly because of lower power sector subsidies as electricity consumers increasingly face full cost recovery. Federal Public Sector Development Programme spending also declined by 12.5%, reducing the government’s development expenditure at a time when infrastructure and investment remain important for economic expansion.
The reduction in development spending has implications for employment and private sector activity. Lower public investment can limit the creation of government-supported economic activity while higher energy prices and taxes place additional pressure on households and businesses. This creates a difficult balance between maintaining fiscal discipline and creating conditions for stronger economic growth.
The federal fiscal deficit stood at Rs4.8 trillion, equivalent to 3.8% of GDP, compared with 6.2% of GDP in the previous year. The fiscal position of the provinces helped bring the consolidated deficit down further, with provincial governments recording a surplus. As a result, the overall consolidated deficit declined to Rs3.3 trillion, or 2.6% of GDP.
The composition of fiscal financing also changed during FY26. External financing increased by 90% to Rs1.2 trillion, while domestic financing declined by 62% to Rs2.1 trillion. The shift was supported by lower interest rates and greater use of external financing to meet part of the government’s funding requirements.
Despite the increase in external financing, domestic financing remained almost twice the size of external financing. The structure highlights the continuing importance of reducing Pakistan’s dependence on domestic borrowing and developing more sustainable sources of long-term foreign financing.
The country also continues to face challenges relating to the composition of its debt. Domestic debt remains a significant part of the overall burden, while external debt has declined as a percentage of GDP. Increasing access to longer-term external financing could help reduce rollover risks and provide greater room for private sector borrowing within the domestic banking system.
The improvement in fiscal indicators provides Pakistan with an opportunity to shift greater attention toward economic growth and employment generation. Maintaining fiscal discipline remains important, but the next stage will require policies that create more space for private investment, capital formation and productive credit.
Reducing unnecessary pressure on businesses and investors could help improve investment incentives, while greater availability of private sector credit could support expansion across productive sectors. At the same time, longer-term foreign financing could reduce refinancing pressures and provide additional resources for investment.
Pakistan has therefore made substantial progress in stabilising its fiscal position, but the challenge now is to translate that stability into stronger economic activity. With the fiscal deficit at 2.6% of GDP and the primary surplus at 2.9% of GDP, the country has achieved a degree of fiscal space that was not available several years ago. The focus ahead will be on using that space carefully to support investment, productivity and employment without reversing the gains made in fiscal management.
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