Debt servicing to hit record Rs2.8 trillion

IMF conditions responsible for high cost of retiring foreign loan

ISLAMABAD: The government may allocate over Rs4 trillion for debt and defence spending in the upcoming budget as the cost of debt servicing will hit a record Rs2.8 trillion.

This is mainly due to the International Monetary Fund’s (IMF) demand to increase the interest rate and shift budgetary borrowing to commercial banks.

For the next fiscal year, defence budget has been estimated at Rs1.270 trillion, higher by Rs170 billion or 15.4% over the original budget for the outgoing fiscal year, said sources in the finance ministry.

The Rs1.270 trillion worth of defence expenditure is exclusive of military pensions, strategic nature expenses, and special military packages, according to the ministry officials.

The ministry is also considering whether to fully reflect all the expenditures in the next fiscal year, that will increase the budget deficit to 7.8% of gross domestic product (GDP) or Rs3.4 trillion, excluding provincial savings, the sources said.

It is yet to be seen whether the finance ministry presents the next year's budget at a parity of Rs150 to a dollar or Rs171 to a dollar, which is the rate under the IMF's framework by June next year.

The base of the exchange rate will have a direct bearing on the cost of external debt servicing and defence spending.

If the government fully reflects the expenditures, size of the next year's budget will cross Rs6.8 trillion, higher by 25% over the original budget of the current financial year, said the sources.

This is despite the fact that Adviser to Prime Minister on Finance Dr Abdul Hafeez Shaikh has vowed to unveil an austerity budget on June 11. The single largest drain on the budget is the cost of debt servicing.

Finance Ministry Spokesman Dr Khaqan Najeeb was not available for comments.

The additional cost of debt servicing will be more than the amount that the government will collect by slapping additional taxes on the people, including low-income groups. The government has proposed an Rs5.550-trillion tax collection target for the Federal Board of Revenue (FBR).

Cumulative spending on debt and defence has been projected at Rs4 trillion for the fiscal year 2019-20, starting July, according to the sources. The Rs2.8 trillion debt servicing cost is higher by Rs760 billion or nearly 42% over the current fiscal year, they added.

The domestic debt servicing cost has been projected at nearly Rs2.5 trillion, higher by Rs710 billion or 41%. The external debt servicing cost is projected at Rs320 billion, up to Rs50 billion. But this cost will go up further due to nearly 15% exchange rate depreciation in the next fiscal year.

From July, Pakistan will adopt a market-driven flexible exchange rate regime.

The sources said the debt cost would shoot up due to the increase in interest rate by the State Bank of Pakistan, shifting of the government borrowing from the central bank to commercial banks and issuance of bonds against the federal government's debt that it owed to the central bank. All the three measures are being taken on the IMF's instructions.

Pakistan and the IMF have reached a staff-level agreement for a $6-billion bailout package but its approval from the IMF's Executive Board is subject to implementation of agreed actions in the new budget.

As part of the IMF conditions, the SBP has already increased the interest rate by 1.5% to 12.25%. This single factor has massively increased the cost of debt servicing.

The IMF has also asked the finance ministry to borrow from commercial banks instead of the central bank for budget financing. Now, the banks will borrow from the central bank and will make money by lending the same amount to the federal government. This will increase the federal government's interest cost by another 1%.

The sources said the IMF has also forced the government to issue domestic bonds against the debt stock of over Rs4.5 trillion that it owes to the central bank. Banks are likely to be the clients of these bonds.

The sources said the defence budget for the new fiscal year could be Rs1.270 trillion, which will be around 2.9% of GDP. In addition to the defence budget, the armed forces will get another $1.5 billion or Rs250 billion under the Armed Forces Development Programme, said the sources.

For the outgoing fiscal year, the defence budget was Rs1.1 trillion but the finance ministry told the National Finance Commission that by the end of the fiscal year 2019, Rs1.676 trillion would be spent on defence. This is the second biggest expenditure in the budget after debt servicing.

The Rs1.676-trillion defence expenditure is inclusive of pensions, strategic nature expenses, and special military packages, according to the finance ministry's presentation.

After including the expenses next year as well, the defence spending will be close to Rs1.9 trillion, said the sources.