For decades, Pakistan’s economic story has been one of structural imbalances, chiefly, the infamous twin deficit dilemma: a persistently high fiscal deficit and a recurring current account shortfall. These vulnerabilities have repeatedly brought the country to the doors of the International Monetary Fund (IMF), with the latest Stand-By Arrangement (SBA) and ongoing negotiations for a longer-term Extended Fund Facility (EFF) marking only the most recent chapters in a long history of stabilisation efforts.
Against this backdrop, the FY2025–26 federal budget, unveiled on 10 June, functions both as a political statement of intent and a technocratic exercise in fiscal restraint, crafted with the objective to stabilise the economy and satisfy the IMF. However, in doing so, it overlooks a more foundational challenge: how to craft a fiscal strategy that is inclusive, fair, and resilient – one that can unlock long-term prosperity, not merely avert the next crisis.
The Spending Side: Austerity Without Reform
On the surface, the budget projects fiscal restraint. Total spending is slated to decline from PKR 18.8 trillion in FY25 to PKR 17.5 trillion in FY26. Yet a closer look at the composition of expenditure reveals a sobering reality. Interest payments alone absorb almost half of the total outlay, leaving little room for investment in human development or infrastructure. Meanwhile, defence spending has risen by 20%, reaching PKR 2.5 trillion, while allocations for the Public Sector Development Programme (PSDP) have been slashed by the same proportion. That means fewer funds for roads, schools, clean water projects, and other services that people rely on.
In an attempt to preserve headline targets, the federal government has shifted the development burden to provinces, many of which lack the fiscal capacity or institutional readiness to compensate. This downward delegation of responsibility, absent a coordinated reform agenda, risks entrenching spatial inequalities and institutional fragmentation.
Perhaps the greatest casualty of fiscal compression is human capital investment. Pakistan currently spends just 1.5% of GDP on education, which is far below UNESCO’s recommended 4–6%. With over 23 million children out of school, the country ranks among the worst globally in educational attainment. The health sector fares no better. Allocations are insufficient to tackle rising maternal and infant mortality, address widespread malnutrition, or strengthen the fragile public health infrastructure. These are not merely social priorities; they are binding constraints on future economic growth. A country with a median age of 22 and a youth bulge entering the labour market cannot afford to underinvest in education, health, and skills development. Without robust human capital, productivity will stagnate, inequality will worsen, and economic mobility will remain a distant dream for millions.
On the revenue front, the budget projects a 38% increase in tax receipts, targeting PKR 14.1 trillion in Federal Board of Revenue (FBR) collections
The budget’s neglect of climate adaptation is equally alarming. Despite Pakistan being among the ten most climate-vulnerable countries in the world – and despite the catastrophic floods of 2022, which displaced 33 million people and caused over USD 30 billion in damages – the FY26 budget includes no major outlays for climate-resilient infrastructure, disaster mitigation, or adaptation. Worse still, regressive taxes on solar panels and hybrid vehicles send counterproductive signals, discouraging the very transitions needed for a sustainable future. While many countries have mainstreamed climate considerations into their fiscal planning through green bonds, resilience funds, and climate-smart subsidies, Pakistan continues to treat climate risk as a peripheral issue. This omission not only jeopardises future sustainability but rather increases the probability of humanitarian and economic crises in the near term.
The Revenue Side: Illusions of Reform, Regressivity in Practice
On the revenue front, the budget projects a 38% increase in tax receipts, targeting PKR 14.1 trillion in Federal Board of Revenue (FBR) collections. But this ambition is undercut by the methods employed to achieve it. Rather than expanding the tax base, the budget leans heavily on raising rates and withdrawing exemptions, particularly on bank deposits, electricity usage, and renewable energy components. These measures may boost short-term revenues but come at the cost of investment incentives, social equity, and climate objectives.
The core issue remains unaddressed: Pakistan’s tax-to-GDP ratio continues to hover around 9%, which is one of the lowest in the region. Fewer than 7 million individuals file tax returns in a population exceeding 240 million. While the budget makes a modest reduction in income tax rates for low-income earners, this relief is undermined by the continued reliance on indirect taxation, such as sales tax, petroleum levies, and utility surcharges that disproportionately burden the poor. What the salaried class needs more than relief is fairness, which comes not through excessive indirect taxation, but by the sharing of burden that comes through taxing businesses and enterprises and enveloping them under the umbrella of fiscal formality.
Critically, the budget fails to bring the most undertaxed sectors – agriculture, real estate, wholesale and retail trade, and the sprawling informal economy – into the tax net. Estimates suggest the informal sector accounts for at least 35–40% of GDP, or over PKR 9 trillion. Yet there is little to suggest a strategic shift towards formalisation. Continued over-taxation of already compliant sectors risks reducing competitiveness and deepening public mistrust.
A fair and modern tax system should emphasise breadth over depth, that is the employment of measures to widen the base, eliminate distortions, and encourage compliance. Countries such as Indonesia, Brazil, and Turkey have made progress by introducing documentation requirements, integrating digital audits and financial systems, streamlining tax administration, and more. Pakistan’s inertia on this front reflects a broader institutional reluctance to confront entrenched interests and modernise its fiscal apparatus.
Stalled Private Sector Growth, Persistent Public Debt
Structural informality also impedes private sector dynamism. Pakistan’s formal corporate sector, though small, contributes disproportionately to tax revenue and employment. Yet it operates in a policy environment marked by regulatory complexity and macroeconomic unpredictability. Private investment remains low at around 10% of GDP, which is half the South Asian average. Similarly, net FDI inflows stood at a mere USD 1.5 billion in FY24, underscoring Pakistan’s declining competitiveness and weak investor confidence.
There are modest increases in social protection outlays, including higher allocations for the Benazir Income Support Programme (BISP), and some expansion of concessional credit lines for SMEs – an encouraging, if limited, step towards inclusive growth
In the absence of robust private sector growth, revenue remains insufficient, and tax collection remains low, necessitating increased borrowing. As of June 2025, public debt exceeds 65% of GDP, and debt servicing has become the single largest line item in the federal budget, crowding out essential spending. The cost of inefficiency is ultimately borne by citizens, who face poor service delivery, energy shortfalls, and stagnant incomes.
While the budget speech alluded to privatisation, export-led growth, and regulatory reform, these remain largely rhetorical. The sharp cut in PSDP allocations undermines much-needed investments in transport, energy, and digital infrastructure. State-owned enterprises (SOEs) continue to operate with large deficits, particularly in the energy sector, where circular debt has surpassed PKR 2.3 trillion. Without credible reform roadmaps, including transparent divestiture processes and performance-based restructuring, these liabilities will continue to accumulate.
Signals of Progress, But Insufficient for Transformation
To its credit, the FY26 budget incorporates a few positive elements. The government’s explicit commitment to reducing overall expenditures – though rare in Pakistan’s fiscal history – signals seriousness about stabilisation and may strengthen engagement with international financial institutions and markets. The budget also introduces exemptions on agricultural inputs such as seed and fertiliser, which could reduce production costs and improve food security. There are modest increases in social protection outlays, including higher allocations for the Benazir Income Support Programme (BISP), and some expansion of concessional credit lines for SMEs – an encouraging, if limited, step towards inclusive growth.
Further, the gradual rationalisation of import tariffs could improve Pakistan’s integration into global value chains by reducing input costs and curbing the anti-export bias. But these are incremental gains in a context that demands systemic reform. Real reform means tackling entrenched interests, taxing powerful lobbies, and investing in the public good.
This budget might help Pakistan stay on course with the IMF, and it may help keep inflation in check for now. But it is not a roadmap for prosperity. It does not address why Pakistan keeps returning to financial crises. It does not explain how the country will generate jobs, build resilience, or unlock opportunity for its youth.
To break the cycle, Pakistan needs a new fiscal vision, one that prioritises equity over expediency, long-term growth over short-term fixes, and development over delay. This means broadening the tax base, investing in human capital, modernising infrastructure, and embedding climate adaptation into the core of public finance. It also means creating a business environment where private investment can thrive and where public institutions can deliver. Until then, the budget will remain what it is today: a balancing act, not a breakthrough.