An Analysis of Fiscal Sustainability in Pakistan

Abstract

This study attempts to investigate the fiscal sustainability of Pakistan empirically. The relationship among fiscal policy factors like the Primary Balance, Government interest-free spending, Government Revenue, and macroeconomic variables such as Gross Public Debt and GDP growth rate is analyzed by estimating fiscal reaction functions, Government expenditure adjustments, and Government revenue adjustments to debt. The results indicate that the fiscal policy adopted by the government of Pakistan is sustainable because there is a strong correlation between the primary balance percentage of GDP and the lag Debt percentage of GDP if there is rise in debt, the primary balance rises too. There is an adverse impact of government expenditure on primary balance. Results obtained from the multiple regression analysis show that adjustments to debt come from the expenditure side as it is highly significant compared to Government revenue adjustments that are insignificant. In this study, I also employed Markov Switching Vector Autoregressive (VAR) Model using quarterly data for the period of 19 years from 2000-2019 just to observe the behavior of macroeconomic variables toward debt, but the results are unsatisfactory in most of the variables as it doesn’t indicate any relationship between the variables. It is concluded that the accumulation of Pakistan’s debt could be handled by rationalizing government expenditure. However, Pakistan needs to implement conventional taxation policy measures and ensure proper utilization of tax revenue to its optimum level to lessen the debt burden on the economy. Along with that, the government also needs to work on its investment and export areas which will ultimately increase the government revenue and help the economy to overcome the long-standing issue of budget deficit.