S&P Global Market Intelligence forecasts the overall budget deficit to be 5.1% of GDP, higher than the budget estimate of 3.9% of GDP. Real GDP growth is projected at 3.6% in fiscal year 2026, lower than the government’s target of 4.2%. The relief and targeted measures will, to some extent, shield lower- to middle-income households and smaller businesses against cost-of-living pressures, especially as the inflation slowdown continues and overall consumer price inflation eases to 3.9% and 6.3% in calendar years 2025 and 2026, respectively. The large-scale manufacturing sector recovery is also projected to become more broad-based and entrenched, with a growth rate of 5.7% in the calendar year 2026.
Key highlights from the outlook include:
• The commitment to fiscal consolidation in the budget announcement is broadly in line with expectations, given the coalition government is seeking to continue progress under the IMF program, which also allows it access to concessional financing and rollovers of bilateral repayments from traditionally friendly countries as well as other multilateral development institutions. The budget, therefore, improves the likelihood that Pakistan will stay on course of the IMF programs, receiving timely disbursements.
• However, this will be dependent on the coalition government’s implementation of the above-mentioned revenue-raising measures. Furthermore, we do not anticipate widespread civil society opposition to these revenue-raising measures if implemented, especially for the carbon tax on fuel; sporadic and localised protests would remain likely in some cities. The revenue target appears ambitious, however, and has historically been under-achieved. The revenue generation shortfall will encourage underutilisation of the already reduced development spending allocation, with current expenditures, particularly defence and interest, being given higher priority.
• The higher defence spending allocation, although expected in the aftermath of the recent military escalation, will result in constrained spending for other critical sectors, such as education and health expenditures. The additional budget is almost certain to be disbursed towards the acquisition of more military equipment, arms, and ammunition, as military personnel payments are not included in the defence budget. New defence acquisition is most likely to include purchases of fighter jets and ballistic missile defence systems, among others.
• One concern is that the announced taxation measures are heavily reliant on indirect channels, which will keep inflationary expectations strong, with businesses likely to pass on the impact to consumers through higher prices. Tax policies targeting the wholesale and retail segments are also expected to underperform, given the high share of undocumented economic activity in the segments. This will potentially adversely impact revenue growth and widen the fiscal deficit beyond the target.
