- The debt-to-GDP ratio is expected to gradually decline.
- External factors, such as the exchange rate, impact debt sustainability.
- Contingent liabilities remain a significant risk to debt dynamics.
ISLAMABAD: The Ministry of Finance has conducted a Debt Sustainability Analysis (DSA) for 2025-2027, examining six scenarios, News the analysis recognizes the continuing uncertainties linked to high gross financing needs.
According to the DSA 2025-2027 report, the public and publicly guaranteed (PPG) debt-to-GDP ratio is expected to decrease from 68.6% in FY2025 to 66.6% in FY2027.
This reduction is attributed to fiscal consolidation and a favorable growth-interest rate differential, which contribute to a downward trajectory of the public debt-to-GDP ratio.
In the baseline scenario, the public debt-to-GDP ratio remains below the conservative benchmark, while the GFN-to-GDP ratio is expected to decline steadily from 25.4% in FY2025 to 19.5% in FY2025. of fiscal year 2027.
This indicates moderate risk to debt dynamics over the medium term.
The analysis notes that debt dynamics are influenced by both external and internal factors. “Despite improving medium-term debt dynamics, public debt risks remain elevated,” the report said.
A heat map highlights the risks, showing that the debt-to-GDP ratio slightly exceeds the baseline scenario thresholds (70.4% for FY 2024). The DSA sets a public debt/GDP ratio of 70% and a GFN/GDP ratio of 15% for emerging markets.
“However, the GFN/GDP ratio remains high in the baseline scenario, indicating risk to debt sustainability. Pakistan’s debt dynamics are further complicated by potential deviations in the federal primary balance, exchange rate depreciation, slowing economic growth and the emergence of contingent liabilities,” the report warns.
The main drivers of the increase in debt ratio and GFN include these risks, although improvements in quasi-fiscal operations, external financing requirements and market access over the assessment period provide some some relief.
The analysis highlights the limited capacity to absorb shocks of the primary balance. Although baseline fiscal projections show steady improvement in the primary balance thanks to fiscal consolidation and stable economic growth, limited fiscal space leaves room for unexpected changes.
For example, a 50% reduction in the projected primary balance would bring the debt-to-GDP ratio to 69.4% in FY 2027, while keeping it sustainable in the medium term.
Conversely, if the primary deficit returned to its historical average (-1.6% of GDP), the debt/GDP ratio would increase to 73.1%, jeopardizing sustainability.
Adverse events, such as a marked slowdown in economic growth, could also worsen debt dynamics. A stress test indicates that a 1% standard deviation shock to economic growth in FY 2025 would push the debt-to-GDP ratio to 70.7% by FY 2027, undermining the debt sustainability.
Real interest rate risks remain moderate. The high share of domestic debt at variable rates (74% in December 2023) makes it vulnerable to nominal interest rate shocks.
These shocks could increase interest payments in the short term. However, the negative gap between real interest rates and growth helps mitigate the impact of nominal interest rates on the debt-to-GDP ratio and the GFN. In this scenario, the debt-to-GDP ratio would reach 68.1% in fiscal 2027, compared to 66.6% in the baseline scenario.
The high proportion of external debt presents additional risks linked to exchange rate depreciation. Even if Pakistan’s capacity to repay its external debt obligations is considered adequate, risks arise from insufficient export earnings, increased imports and deterioration in the current account.
The stress analysis suggests that exchange rate depreciation could increase the debt-to-GDP ratio to 68.2% by FY 2027, from 66.6% in the baseline scenario.
In a combined macro-fiscal shock scenario, the PPG debt-to-GDP ratio would exceed the 70% threshold, reaching 75.2% in FY 2027. Weaker economic growth than expected, an increase in the primary deficit federal government, higher interest rates and exchange rate depreciation could significantly increase public debt and GFN as a percentage of GDP.
These simultaneous shocks highlight the interplay between macroeconomic and fiscal factors, posing significant risks to debt sustainability.
The analysis also highlights the vulnerability of public debt to increasing contingent liabilities. In this scenario, the debt-to-GDP ratio would increase from 68.6% in FY2025 to 72.8% in FY2027.
A reduction in the primary balance due to higher non-interest spending would further worsen public debt, with the GFN increasing by 2.1 percentage points of GDP in the medium term, the report concludes.