IMF urges Pakistan to phase out fuel subsidies and widen tax base

ISLAMABAD: The International Monetary Fund (IMF) has projected Pakistan’s fiscal deficit at around 3.2 per cent of gross domestic product (GDP) for the current fiscal year and the next, while advising the country to gradually withdraw costly fuel subsidies, tackle contingent liabilities and expand the tax base to ensure medium-term fiscal sustainability.

In its twice-yearly Fiscal Monitor 2026, the Fund said Pakistan’s revenue appeared to have already reached its high point, with a stable but slightly weaker outlook through 2031. It indicated that this trend would help reduce public debt, although debt levels would still remain well above the threshold envisaged under the Fiscal Responsibility and Debt Limitation Act (FRDLA) 2005, as government spending was expected to remain persistent.

The IMF estimated that Pakistan’s fiscal deficit would fall from 5.4pc in FY2025 to 3.2pc in both the current fiscal year and FY2027. It then projected the deficit to narrow further to 3pc in FY2028 and 2.8pc in FY2029, before rising again to 3.6pc in FY2030 and 4.6pc in FY2031.

The Fund also forecast Pakistan’s primary balance — which excludes interest payments — at 2.5pc of GDP in the current year, compared with 2.4pc last year. The primary surplus would ease to 2pc next year and remain at that level for the following two fiscal years, before dropping to 1pc in FY2030 and 0.1pc in FY2031.

Government revenue is expected to stay at 15.8pc of GDP this year before slipping to 15.3pc next year. Over the following four fiscal years, general government revenues are projected to remain steady at 15.5pc of GDP.

The IMF said lower debt servicing costs, following a decline in interest rates from a record 22pc to less than half that level, would help bring general government expenditure down by more than two percentage points to 19pc in the current fiscal year. It projected spending to ease further to 18.5pc over the next two fiscal years, before climbing to 20pc of GDP by 2031.

Debt projections

The Fund placed Pakistan’s gross government debt at 70.1pc of GDP in the current fiscal year, down from 72.8pc a year earlier. It projected a continued decline to 67.1pc in FY2027, 64pc in FY2028, 60.8pc in FY2029, 59pc in FY2030 and 58.2pc by FY2031.

Net government debt was estimated at 64.4pc this year, compared with 66.5pc last year. The IMF said this measure was also expected to continue falling, from 62.1pc in FY2027 to 55pc by FY2031.

Global risks and fiscal pressures

On global financial stability, the IMF said risks remained elevated as the financial system faced the effects of the ongoing war in the Middle East, possible inflationary pressures, tighter financial conditions and multiple channels through which market stress could turn into broader instability.

Markets had adjusted in an orderly way so far, but warned that risks were uneven. "The longer the conflict continues, the greater the risk that global financial conditions — which had been very accommodative before the war — could tighten further and more abruptly," it added.

Global equity prices had fallen by 8pc since February after earlier gains driven by strong corporate earnings. The conflict in the Middle East could worsen financial and commodity market pressures through higher global interest rates, a stronger dollar and rising energy prices, increasing macroeconomic strain on emerging market and developing economies.

The IMF said the fiscal outlook had worsened further since the April 2025 Fiscal Monitor. "Global debt-at-risk three years ahead now stands near 117pc of GDP, with a gap of roughly 20 percentage points between the median projection and the right tail, underscoring heightened downside risks. Several reinforcing forces could weigh on the fiscal outlook," it said.

According to the Fund, the Middle East conflict could put additional pressure on public finances through higher food and fuel prices, tighter financial conditions, weaker economic activity and increased defence spending. In a prolonged conflict scenario, global debt-at-risk could rise by another 4 percentage points. It also said that a correction in artificial intelligence-related asset values, with US stocks dropping by 20pc and spillovers to global financial conditions, could add a further 2.4 percentage points to global debt-at-risk.

The IMF said protectionist trends and geoeconomic fragmentation were continuing to push governments towards industrial subsidies and trade support measures with uncertain productivity gains, raising the possibility that primary balances may not be sufficient to stabilise debt if growth disappoints. Domestic instability was also increasing fiscal strain, noting that social unrest had risen across income groups and that such episodes were linked to lower growth and wider primary deficits.

The Fund further warned that pressure on central bank independence, whether direct or indirect, could raise inflation expectations and risk premiums even in highly rated economies, weakening the credibility that helps keep borrowing costs under control.

The room for orderly fiscal adjustment was shrinking and that heavily indebted advanced economies needed concrete and properly sequenced consolidation measures rather than aspirational medium-term targets. "For the United States, the arithmetic is inescapable: Stabilising the country’s debt path will require action on both revenue and expenditure, including spending on the major entitlement programmes," the IMF said.

Advice on energy pricing

Overall, the IMF said that with fiscal buffers already depleted, any response to higher energy costs should be carefully designed, aimed at vulnerable households and viable firms, and aligned with monetary policy efforts to contain inflation.

"Broad-based price subsidies should be avoided where they carry large fiscal costs, are difficult to unwind, or suppress domestic price signals in ways that spill over to global commodity markets, "the IMF advised, adding that "domestic fuel and gas prices should continue to reflect international price movements and support demand adjustment, even when temporary targeted support is in place."

The Fund said fiscal policy across all country groups needed to become more forward-looking and structurally anchored as governments dealt with the effects of the energy price shock. Protecting the independence of central banks and preserving the integrity of fiscal frameworks remained essential for both advanced and emerging market economies, while clear communication of fiscal realities and greater transparency could help anchor expectations and build support for necessary adjustment.