The federal government has warned that rising global oil prices, slower economic growth, weaker revenue collection, higher debt servicing costs, and climate-related shocks could undermine its fiscal targets in the coming year, highlighting the fragility of public finances despite signs of macroeconomic stabilization.

In a fiscal risk statement submitted to parliament alongside the federal budget, Finance Minister Muhammad Aurangzeb and Finance Secretary Imdad Ullah Bosal identified seven major sources of risk that could widen the budget deficit in fiscal year 2026-27. The assessment, required under the Public Finance Management Act 2019, outlines potential threats stemming from macroeconomic conditions, revenue performance, debt obligations, state-owned enterprises, climate change, natural disasters, and commodity financing guarantees.

The government said a sharp increase in global oil prices represented one of the most significant risks, particularly amid escalating tensions in the Middle East. Higher crude prices could reduce petroleum levy collections if authorities choose not to fully pass on fuel cost increases to consumers, while simultaneously increasing subsidy requirements to shield households from inflationary pressures.

According to the finance ministry, a $40-per-barrel increase in international oil prices could widen the fiscal deficit by 0.8% of gross domestic product in FY27. Aurangzeb said a substantial portion of the more than Rs1.035 trillion in special grants secured from provinces had been earmarked to address potential second- and third-order economic effects arising from regional conflict.

The ministry also warned that weaker-than-expected economic growth could strain public finances. A one-percentage-point decline in real GDP growth would likely reduce tax revenues and increase spending demands, particularly on social protection programs, widening the fiscal deficit by an estimated 0.2% of GDP.

Revenue generation remains vulnerable to slower economic activity, lower tax elasticity, and weaker non-tax receipts. The government estimates that if tax revenue growth falls 10% short of budget projections, the fiscal deficit could expand by 0.7% of GDP.

Additional risks stem from lower profit transfers from the State Bank of Pakistan and weaker petroleum levy collections. A 30% decline in central bank surplus profits could increase the deficit by 0.3% of GDP, while a 20% shortfall in petroleum levy revenues could add another 0.2% of GDP. The ministry also identified tax exemptions and concessions as a structural vulnerability, estimating that expanded tax expenditures could widen the deficit by as much as 1.3% of GDP.

Debt servicing costs were highlighted as another major fiscal challenge. The government said a 200-basis-point increase in domestic interest rates combined with a 100-basis-point rise in external borrowing costs could raise the deficit by 0.4% of GDP. Under a more adverse scenario involving elevated refinancing pressures and greater reliance on short-term borrowing, the fiscal impact could reach 0.8% of GDP.

State-owned enterprises remain a persistent source of fiscal risk. A 6% shortfall in dividend payments from government-owned companies would have a relatively modest impact, increasing the deficit by 0.02% of GDP. However, if financial support to loss-making entities rises to 1.5% of GDP, the deficit could expand by 0.4% of GDP.

The report also underscored growing climate-related fiscal pressures. Spending associated with a low-emissions adaptation pathway aligned with the RCP 2.6 climate scenario could increase the deficit by 0.2% of GDP as the government invests in resilience and green infrastructure. Under the more severe RCP 8.5 scenario, the near-term fiscal impact is estimated at 0.01% of GDP, although risks are expected to intensify over time as climate shocks become more frequent.

Natural disasters were identified as one of the largest threats to fiscal stability. The ministry said that in the absence of dedicated disaster-risk financing mechanisms, an average disaster event could increase the fiscal deficit by up to 1.5% of GDP.

The government also flagged contingent liabilities arising from guarantees issued for commodity financing operations. Assuming a 25% probability that such guarantees are called, the fiscal deficit could increase by 0.1% of GDP.

The risk assessment accompanies Pakistan’s Rs. 18.77 trillion budget for FY27, which targets economic growth of 4% and a fiscal deficit of 3.6% of GDP as the government seeks to balance fiscal consolidation commitments under its International Monetary Fund program with efforts to revive growth and protect vulnerable households.

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