Pakistan: Federal Budget FY26 Initial Reactions

The finance minister promised “strategic direction” and the FY26 Budget has a coherent thought process towards that aim. The formal economy - already overtaxed - appears to have been spared, and the overall thrust is towards expanding the tax net by targeting non tax filers and removing exemptions.

According to Intermarket Securities, there is relief - albeit minor - for the salaried class and small/ medium corporates, while non-tax filers will face severe impediments in purchasing property and 4-wheelers, as well as retaining bank accounts.

Retailers are being focused on too, with e-commerce/ online marketplaces being formally brought into the tax net, and there is a push for improving domestic productivity with the reduction of custom duties on multiple lines.

Discipline under the IMF program has continued to sustain. Instead of stepping the foot on the growth accelerator too quickly (the FY26 GDP growth target is a modest 4.2%), the Budget focuses on increasing tax to GDP and curtailing current expenditure.

The projected fiscal deficit of 3.9% of GDP may ultimately prove to be too ambitious (in part because of an optimistic non-tax revenue target), but Pakistan should still deliver its 3rd straight primary surplus - which should hold more importance for the IMF.

Moreover, despite risks to the headline fiscal deficit, the projected development expenditure for once does not appear to be completely out of reach.

The stock market is anticipated to react positively to the Budget. There has been no change to the tax rate on dividends and capital gains, which remains at 15%. This is now more favorable as compared to fixed income investments, WHT on profit on debt has been raised to 20%. Domestic liquidity is expected to continue to gravitate towards equities.

Stabilization achieved in FY25

The economy stabilized in FY25, evidenced by inflation coming off sharply, the current account swinging into surplus (a rarity in Pakistan), and the buildup in foreign exchange reserves.

GDP growth was modest in FY25, on weak agriculture dynamics and anemic industrial growth. A low base should help agriculture rebound in FY26 while manufacturing should benefit from lower interest rates.

The government aims moderate and more sustainable economic growth in Pakistan, backed by a modest current account deficit. This discipline is important to avoid the frequent balance of payment crises of the last 15 years.

Pakistan estimates a fiscal deficit of 3.9% of GDP in FY26 as against 5.6% in FY25. This improvement is premised on a broadening of the tax net and discipline on current expenditure.

While the headline fiscal deficit appears ambitious (SBP profits may fall due to lower interest rates), Pakistan should post its 3rd straight primary surplus in FY26. Importantly, the primary balance should remain in surplus.

CPI projections appear realistic, with inflation expected to converge towards the long-term mean. However, this likely dampens prospects for large cuts in the interest rates, which has already halved from an all-time high of 22% last year to 11% at present.

PSX remains under pressure

Pakistan Stock Exchange (PSX) experienced volatility early in the week but gained momentum with the benchmark index closing at 114,398 points on Friday, March 07, 2025, posting a gain of 1.01%WoW.

Inflation for February 2025, clocked in at 1.52%YoY, the lowest in 9 years, sparking investor optimism and fueling expectations of a potential rate cut in the upcoming Monetary Policy Committee (MPC) meeting scheduled for March 10, 2025.

Alongside reports about the government's efforts to eliminate circular debt in the power sector by borrowing PKR1.25 trillion from commercial banks at an interest rate of 10.8%.

The rally in Oil & Gas Exploration Companies, Cement and Oil & Gas Marketing Companies sectors was recorded.

Trade deficit for February clocked in at US$2.3 billion, up 33%YoY, due to 10%YoY increase in imports to US$4.7 billion.

OMC offtake was recorded at 1.136 million tons, up 2%YoY.

Market participation decreased due to Ramadan, with the average daily traded volume recorded at 290.33 million share as against 474.90 million shares in the earlier week, down 38.9%WoW.

PKR largely remained flat against the greenback throughout the week.

Other major news flows during the week included: 1) IMF may allow cut in FBR target below PkR12.5 trillion, 2) Cement dispatches post double-digit growth for second consecutive month, 3) FBR proposes reduction in tax rates for Beverages, tobacco and real estate sector, and 4) Public debt rose to PKR72.1 trillion.

Glass & Ceramics, Oil & Gas Marketing Companies, Oil & Gas Exploration Companies, Chemical and Mutual Funds were amongst the top performing sectors, while Leasing Companies, Inv. Banks/ Inv. Cos/ Securities Cos, Transport, Sugar & Allied Products and Automobile Assembler were amongst the worst performers.

Major selling was recorded by Individuals with a net sell of US$6.18 million. Companies absorbed most of the selling with a net buy of US$4.22 million.

Top performing scrips of the week were: GHGL, TGL, FCCL, SNGP, and PSO, while laggards included: MEHT, PGLC, ENGROH, JDWS, and MUREB.

According to AKD Securities, market is expected to maintain its positive trajectory, driven by an anticipated shift of funds from fixed income to equities amid falling fixed income yields.

With easing inflation, the upcoming MPC meeting will remain a key focus. Over the medium term, the benchmark index is anticipated to sustain its upward momentum through CY25, primarily driven by the strong profitability of Fertilizer companies, higher sustainable ROEs of Banks and improving cash flows of E&Ps and OMCs, benefitting from falling interest rates.

 

Pakistan must address structural issues on top priority

Historically Pakistan and International Monetary Fund (IMF) has lived with each other, at times with comfort and at tome with some unease. While the IMF role as ‘lender of last resort’ has helped Pakistan in overcoming economic malice, the loan covenants are often seen by Pakistani’s rather stringent.

Ideally the ruling regime in Pakistan should be more careful in formulation of policies and implementing these in letter and spirit but the overall impression is that the successive governments sooner or later suffer from complacency. It may also be said that political agenda pushes economic agenda in the back ground. Many analysts strongly believe that condoning deviation may not be difficult had appropriate efforts were made. In other words these deviations are the result of not following the ‘IMF Recipe’.

A team of AKD Securities, Pakistan’s leading brokerage house, recently met the IMF Regional Representative for a discussion on Pakistan’s progress on the macro front in the context of the ongoing EFF program. After the meeting it has also released a report that has many takeaways.

While progress on reform agenda so far remains commendable, continued reform implementation post completion of the program was stressed, where energy crisis and low revenue collection continue to rank as high priority issue areas.

The IMF, though cognizant of likely delays, sees room for steady structural changes even post completion of the program based on higher GoP resolve. Benefits of low oil prices and earlier reforms have placed Pakistan in a macro sweet spot with economic indicators marking record levels.

Agreeing with the IMF, AKD team believes this opens room for addressing deeper structural issues that can help Pakistan sustain recent economic gains where key reform areas highlighted were: 1) exports sector revival, 2) tax base expansion and 3) efficient expenditure and resource allocation between federal and provincial governments.      

Key takeaways

Priority on energy and revenue: Key issue areas for reforms that retain the highest priority were Energy and Revenues expansion – both resonated by all participants. Resolution to the country’s energy problems was highlighted, particularly in the context of its impact on industrial growth. Also, revenue collection remains equally crucial where considerable focus should be directed towards structural changes both through a) regulatory/legislative action and b) operational changes in FBR/tax collection mechanisms.

Privatization to slowdown: The privatization program remains on agenda, however it is likely to stretch beyond the current program as political opposition in PIA’s strategic divestment and labor union concerns in case of DISCOs continue to be major hurdles. That said, recent road shows for DISCOs’ sell-off were regarded as a key positive. Analysts expect revision of current timeline in the upcoming IMF review report for December 2015. Moreover, with the current government resorting to populist decisions in the run up to next general elections (expected 2018), the brokerage house highlight heightened risks to PSE sell-offs.

Another program unlikely: With the current program effectively concluding in June 2016, rollover to another program remains unlikely on account of Pakistan’s stable Balance of Position position. However the Fund is likely to remain engaged in a consultative process with the GoP to monitor current program objectives, though without imposition of conditions/targets.

CPEC – lack of clarity lingers: The Fund views the landmark China Pakistan Economic Corridor (CPEC) agreement as largely positive, though details on nature of agreements remain sketchy and are yet to be factored in fiscal expectations/targets. Alongside, infrastructure projects need for investment in export oriented sectors was also noted.