Public Gazette
The outgoing fiscal year was generally marked by economic stability, but the Gulf conflict toward the end of the year led to renewed concerns about rising inflation.
The rupee remained largely stable throughout the year, while continued engagement with the IMF brought more certainty and discipline to the government’s fiscal management. Much of this stability was supported by the documented sector, particularly salaried individuals and registered businesses, who contributed through advance tax deductions, higher tax burdens, and stricter compliance requirements.
For the upcoming fiscal year, the government has introduced targeted relief measures for those already within the formal economy. Salaried employees will benefit from lower tax rates, exporters will face reduced tax collection on export earnings, and the IT sector will continue to enjoy its preferential tax treatment. Manufacturers will receive tariff relief on industrial inputs to help lower production costs. In contrast, less-documented sectors, such as retail businesses, will be subject to stricter reporting requirements and additional tax collection measures. The real estate sector has also been offered incentives through lower transaction taxes and the removal of Section 7E in an effort to encourage formal transactions and revive construction activity.
Among these measures, tax relief for salaried workers appears the fairest, as their taxes are deducted transparently and opportunities for avoidance are limited. Support for exporters and the IT industry can also be justified because of their contribution to foreign exchange earnings and their documented nature. Relief on industrial inputs may benefit the broader economy if businesses pass those savings on to consumers. However, incentives for the real estate sector are harder to defend unless they are accompanied by updated property valuations, stronger disclosure of beneficial ownership, and more effective provincial property taxation to ensure they promote documentation rather than simply benefiting asset holders.
The key question is where the government found the financial space to offer these relief measures. In reality, there is very little flexibility in federal spending. I often describe this using my “Four Ds” framework: debt servicing, defence, the day-to-day functioning of the government, and development spending. The first three are mostly unavoidable expenses, although they can still be managed more efficiently. Development spending, however, is usually the first area to face cuts whenever pressure increases elsewhere.
On the revenue side, the government has set an ambitious target for the FBR to collect Rs15.264 trillion. It also expects to generate Rs1.676 trillion through the petroleum levy, while the Finance Bill introduces stricter documentation measures to broaden the tax base. In addition, federal accounts include a new Rs1.035 trillion contribution from the provinces under Article 164 of the Constitution. This provision allows both the federal and provincial governments to provide grants to one another for any purpose, even beyond their usual responsibilities.
According to the finance minister, this provincial contribution is intended to help meet defence needs and cushion the economic impact of the Gulf conflict. He has also indicated that there is a three-year understanding with the provinces. In other words, the provinces are not directly paying for tax relief measures; rather, they are sharing part of the burden created by defence requirements and external shocks. This gives the federal government the fiscal room to provide concessions in other areas.
Defence spending has been allocated Rs3 trillion in the budget, and the amount expected from the provinces under Article 164 is roughly one-third of that total. Compared with last year’s budget, defence spending has increased significantly. The federal budget also sets aside Rs430 billion to deal with emergencies, natural disasters, and other unexpected challenges. The provincial contribution can help absorb much of these additional costs, making it easier for the government to offer relief while still meeting its obligations for debt payments, defence, and routine administration.
However, this approach also raises important institutional questions. While Article 160 governs the NFC Award and the distribution of shared revenues, Article 164 allows governments to provide grants to one another. Although the NFC formula technically remains unchanged, this arrangement alters the movement of funds during the year. If the proposed three-year understanding continues, it could evolve into a long-term fiscal practice operating outside the formal NFC framework.
There is a reasonable argument for provincial contributions when they are linked to national security and protection against external economic shocks. Defence concerns and the risks arising from the Gulf conflict affect the entire country. Provinces have also enjoyed greater fiscal space since the 7th NFC Award. Yet many failed to pass these benefits down effectively. Provincial Finance Commission awards were often delayed or weakly implemented, leaving local governments dependent on provincial discretion rather than transparent and predictable transfers.
Although provinces received a larger share of resources after the 7th NFC Award, this did not necessarily strengthen local governments. However, shifting funds to the federal level will only be justified if Article 164 transfers are used transparently and tied to measurable outcomes.
As the federal government balances debt, defence, administration, and development spending, provincial development budgets are likely to face pressure. While the federal PSDP remains at Rs1 trillion, the overall development programme may shrink due to reduced provincial allocations.
Importantly, the Article 164 grant is conditional. Provinces will contribute the full Rs1.035 trillion only if FBR revenues exceed the protected Rs13.350 trillion threshold and approach the Rs15.264 trillion target. Therefore, the fiscal cushion depends not only on provincial support but also on stronger tax collection and improved documentation.
