Pakistan - iuj.ac.jp · Pakistan 1 Country Report November 2002 ' The Economist Intelligence Unit Limited 2002 Contents 3 Summary 4 Political structure 5 Economic structure 5 Annual

Country Report November 2002

Pakistan

November 2002

The Economist Intelligence Unit15 Regent St, London SW1Y 4LRUnited Kingdom

Pakistan at a glance: 2003-04

OVERVIEWThe president, General Pervez Musharraf, intends to remain in powerthroughout the outlook period. The parliament, elected on October 10th, hasnot thrown up a clear coalition and is unlikely to convene until GeneralMusharraf�s backers, the Pakistan Muslim League (Quaid-i-Azam), or PML (Q),can find enough allies to form a majority. Economic policy will remain drivenby the need to meet IMF conditionalities. The fiscal deficit will narrow slightlyand monetary policy will remain loose over the next couple of years. TheEconomist Intelligence Unit forecasts GDP growth of 4.2% at factor cost in2002/03, followed by 4.5% in the succeeding fiscal year. Expenditure-basedgrowth will be 4.8% and 5%, respectively. Consumer price inflation is forecastto increase to an average of 5.1% in 2003 and 5.5% in 2004. Sustained inwardremittance flows will support the currency and keep the current account insurplus in 2003 and 2004.

Key changes from last month

Political outlook• The decision to delay the convening of parliament indicates that General

Musharraf is highly unlikely to allow a coalition excluding his backers, thePML (Q), to form the next government.

Economic policy outlook• The relaxation of the reform process in the run-up to the October elections

is likely to have been temporary, and the IMF-led reform process will resumeonce the new government is installed.

Economic forecast• The Economist Intelligence Unit has revised its forecasts for 2002-04 in the

light of current-account data released by the IMF for 2001. We now forecastthat the current account will record a surplus of 3.9% of GDP in 2002 and anaverage surplus of almost 1% of GDP in 2003-04.

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Pakistan 1

Country Report November 2002 www.eiu.com © The Economist Intelligence Unit Limited 2002

Contents

3 Summary

4 Political structure

5 Economic structure5 Annual indicators6 Quarterly indicators

7 Outlook for 2003-047 Political outlook8 Economic policy outlook10 Economic forecast

13 The political scene

17 Economic policy

20 The domestic economy20 Economic trends21 Industry22 Agriculture23 Financial sector

26 Foreign trade and payments

List of tables10 International assumptions summary12 Forecast summary14 General and provincial election results14 The final distribution of seats in the National Assembly17 Tax collection, 200219 Karachi Stock Exchange: market indicators, 200220 Foreign direct investment by sector21 Foreign direct investment by country of origin21 Production of large-scale manufacturing items23 Lending rates23 Weighted average yield on six-month Treasury bills27 Trade in goods27 Remittances from overseas workers28 Balance of payments, 2001/0228 Foreign portfolio investment29 Foreign-exchange reserves, 2002

2 Pakistan


List of figures

12 Gross domestic product12 Pakistan rupee real exchange rates20 Karachi Stock Exchange22 Gross domestic product growth and some key components25 Inflation, money supply growth and depreciation29 Foreign-exchange reserves and import cover

Pakistan 3


Summary November 2002

The president, General Pervez Musharraf, intends to remain in powerthroughout the outlook period. The parliament, elected on October 10th, has notthrown up a clear coalition and is unlikely to convene until General Musharraf�sbackers, the Pakistan Muslim League (Quaid), or PML (Q), can find enough alliesto form a majority. Economic policy will remain driven by the need to meet IMFconditionalities. The fiscal deficit will narrow slightly and monetary policy willremain loose over the next couple of years. The Economist Intelligence Unitforecasts GDP growth of 4.2% at factor cost in 2002/03 and 4.5% in thesucceeding fiscal year. Expenditure-based growth will be 4.8% and 5%,respectively. Consumer price inflation is forecast to increase to an average of 5.1%in 2003 and 5.5% in 2004. Sustained inward remittance flows will support thecurrency and keep the current account in surplus in 2003 and 2004.

�Pre-election� vote-rigging took place. Delays in the count also raised suspicionsof further tampering. The PML (Q) won a plurality of seats in the nationalassembly. The Islamist parties performed strongly. General Musharraf�s policieshave been blamed for the Islamist parties� success. A coalition government wasnot immediately formed after the election. A spate of presidential decrees hashelped the PML (Q). Relations with India have been put on hold as India tries tofind an internal compromise with the new government in Jammu and Kashmir.

The election led to a relaxation in the reform drive. Tax collection has picked upand a British firm is preparing a plan to restructure the Central Board ofRevenue. Foreign direct investment is picking up. Portfolio investments continueto be withdrawn. Reform of the power sector is in progress. A bank privatisationhas not gone smoothly.

Domestic investment remains low. Foreign-exchange reserves have risen.Capital market reform has continued. The introduction of futures trading hasbeen delayed. Corporate earnings are strong. The manufacturing sector haspicked up slightly. The water crisis is subsiding. Interest rates have stabilised.The banking sector has been further reformed, but progress on tackling non-performing loans has slowed. The State Bank of Pakistan (SBP, the central bank)will be given full autonomy. Low interest rates have not deterred savers. TheSBP�s new swap desk will bring greater efficiencies. Credit demand has beenslow to pick up. New foreign-exchange companies will attempt to unify theformal and informal markets.

Both exports and imports may meet the government�s target of US$10.1bn andUS$11.3bn respectively in 2002/03. A new Pakistan-US Business Council couldboost trade. Remittances continue to drive the external account. Debt pressureshave eased. Aid flows will remain strong.

Editors: Gareth Price (editor); Graham Richardson (consulting editor)Editorial closing date: November 11th 2002

All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] report: Full schedule on www.eiu.com/schedule

Outlook for 2003-04

Economic policy

The domestic economy

Foreign trade and payments

The political scene

4 Pakistan


Pakistan

Political structure

Islamic Republic of Pakistan

Federal parliamentary system, suspended by military coup on October 12th 1999

After the October 1999 coup the chief of army staff and chairman of the joint chiefs ofstaff committee, General Pervez Musharraf, became chief executive of Pakistan. In June2001 General Musharraf was appointed president

Bicameral legislature: the lower house, the National Assembly, was suspended in October1999 and dismissed in June 2001. A general election was held on October 10th, butparliament has not yet convened

Pakistan has four provinces, which enjoyed considerable autonomy before the coup. Allprovincial governments were dismissed in October 1999 and the provincial assemblieswere suspended until June 2001, when they too were dismissed. Provincial electionswere also held on October 10th. Each province now has a military-appointed governor

Originally scheduled for February 2002 (National Assembly) and December 2002(presidential). The national and provincial elections were held on October 10th 2002 inaccordance with a Supreme Court ruling. In April 2002 a referendum�the constitutionalsignificance of which is unclear�supported General Musharraf�s bid to remain presidentfor five more years

The Pakistan Muslim League (Nawaz) government of the former prime minister, NawazSharif, formed in February 1997, was ousted in a military coup in October 1999

Pakistan Muslim League (Nawaz), or PML (N); PML (Quaid-i-Azam), or PML (Q); PakistanPeople�s Party (PPP); Jamaat-i-Islami (JI); Muttahida Qaumi Movement (MQM); AwamiNational Party (ANP); Jamiat-i-Ulema-i-Islami (JUI); Tehrik-i-Insaf (TI); Millat Party; JiyeSindh Qaumi Mahaz

President and chief executive General Pervez Musharraf

Chief of air staff Marshal Pervaiz Mehdi QureshiChief of navy staff Admiral Abdul Aziz MirzaCommerce minister Abdul Razzaq DaudFinance minister Shaukat AzizForeign affairs minister Abdul SattarInterior minister Moinuddin Haider

Ishrat Hussain

Official name

Form of state

The executive

National legislature

Provincial government

National elections

National government

Main political organisations

National Security Council

Central bank governor

Pakistan 5


Economic structure

Annual indicators1998 1999 2000 2001 a 2002 a

GDP at market prices (PRs bn) 2,677.7 2,938.4 3,182.8 3,472.1 b 3,789.6GDP (US$ bn) 62.0 62.8 61.5 59.7 b 62.3

Real GDP growth (%; expenditure basis) 1.2 3.7 4.3 2.7 b 4.5 b

Consumer price inflation (av; %) 6.2 4.1 4.4 3.1 b 3.9Population (m) 135.5 138.5 141.6 144.6 147.7

Exports of goods fob (US$ m) 7,850.0 7,673.0 8,739.0 9,131.0 b 9,703.0Imports of goods fob (US$ m) 9,834.0 9,520.0 9,896.0 9,739.0 b 11,104.0

Current-account balance (US$ m) -2,248.0 -920.0 -85.0 1,880.0 b 2,442.1Foreign-exchange reserves excl gold (US$ m) 1,028.0 1,511.0 1,513.0 3,640.0 b 6,310.7

Total external debt (US$ bn) 32.3 33.9 32.1 30.3 32.3Debt-service ratio, paid (%) 21.2 a 28.7 25.6 20.8 17.4Exchange rate (av) PRs:US$ 44.94 49.16 53.65 61.93 b 59.67

November 8th 2002 PRs58.69:US$1

Origins of gross domestic product 2001c % of total Components of gross domestic product 2001c % of totalAgriculture 24.6 Private consumption 76.8Manufacturing 17.5 Government consumption 10.5

Electricity, gas & water supply 3.8 Fixed investment 13.0Construction 3.4 Exports of goods & services 17.4

Services 50.2 Imports of goods & services -19.4

Principal exports 1998d US$ m Principal imports 1998d US$ mCotton fabrics 1,189 Machinery 2,123Cotton yarn & thread 1,025 Chemicals 1,875

Knitwear 731 Minerals, fuels, etc 1,495Ready-made garments 690 Palm oil 727Rice 573 Wheat 358

Main destination of exports 2001 % of total Main origins of imports 2001 % of totalUS 24.0 UAE 13.1UAE 7.4 Saudi Arabia 11.3UK 6.6 Kuwait 6.7

Germany 5.2 US 5.8Hong Kong 5.1 Japan 5.3

a Economist Intelligence Unit estimates. b Actual. c Fiscal years ending June 30th of the year indicated. d Customs basis.

6 Pakistan


Quarterly indicators2000 2001 20024 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr

OutputManufacturing index (1995=100) 116.8 147.2 111.9 106.2 118.4 151.1 n/a n/aManufacturing index (% change, year on year) -2.2 -3.1 10.4 6.2 1.4 2.6 n/a n/aPricesConsumer prices (1995=100) 145.1 145.1 145.5 146.9 148.2 148.8 150.4 n/aConsumer prices (% change, year on year) 5.0 4.5 3.4 2.7 2.1 2.6 3.4 n/aWholesale general (1995=100) 146.6 146.5 146.4 149.8 147.2 147.1 149.4 n/aWholesale general (% change, year on year) 8.6 7.4 4.9 7.3 0.4 0.4 2.0 n/aFinancial indicatorsExchange rate PRs:US$ (av) 57.75 59.76 62.12 64.15 61.68 60.35 60.12 59.61Exchange rate PRs:US$ (end-period) 58.03 60.93 64.11 64.20 60.86 60.12 60.06 59.19Discount rate (end-period; %) 13.00 13.00 14.00 12.00 10.00 9.00 9.00 9.00Money market rate (av; %) 11.92 7.49 9.72 8.14 8.62 4.61 5.60 6.07Treasury bill rate (av; %) 10.96 11.16 12.01 10.85 8.83 6.39 6.39 6.39M1 (end-period; PRs bn) 876.0 843.7 876.5 879.6 964.9 957.7 990.8 n/aM1 (% change, year on year) 10.1 7.5 6.8 12.8 10.1 13.5 13.0 n/aM2 (end-period; PRs bn) 1,476.7 1,466.8 1,526.0 1,526.1 1,650.1 1,668.6 1,751.9 n/aM2 (% change, year on year) 12.1 11.0 9.0 9.2 11.7 13.8 14.8 n/aStockmarket KSE 100 index (end-period; Nov 1st

1991=1,000) 1,508 1,324 1,366 1,133 1,273 1,852 1,770 2,019

Sectoral trendsCotton yarn production ('000 tonnes) 428.8 426.5 449.4 447.3 451.6 449.4 n/a n/aCotton fabrics production (m sq metres) 117.6 116.6 135.4 136.6 139.0 135.4 n/a n/a

Foreign trade (PRs bn)Exports fob 131.01 135.03 155.38 146.27 135.80 126.09 157.09 n/aImports cif -153.80 -157.92 -167.06 -160.55 -145.47 -149.15 -179.45 n/aTrade balance -22.79 -22.89 -11.68 -14.29 -9.67 -23.06 -22.36 n/aForeign payments (US$ m)Merchandise trade balance -197 -411 -92 -209 104 -96 -159 n/aServices balance -225 -296 -231 -247 -97 167 -134 n/aIncome balance -513 -549 -444 -583 -503 -529 -699 n/aNet transfer payments 1,154 1,438 1,173 972 1,855 1,399 1,499 n/aCurrent-account balance 219 182 406 -67 1,359 941 507 n/aReserves excl gold (end-period) 1,513 1,456 1,328 2,149 3,640 3,965 4,831 6,408

Sources:State Bank of Pakistan, Statistical Bulletin; IMF, International Financial Statistics; Standard & Poor�s, Emerging Stock Market Review.

Pakistan 7


Outlook for 2003-04

Political outlook

The October 2002 election results have created a political deadlock even beforeparliament meets, auguring ill for the long-term stability of any government thatis eventually formed and for the survival of the political system as a whole. ThePakistan Muslim League (Quaid-i-Azam), or PML-Q, which backs the militarygovernment, won only 118 seats out of 342, whereas the main opposition partiesalmost reached the magic figure of 171 required to form a majority government.This means that a coalition government will have to be established with thehelp of one of the main opposition parties�probably the Pakistan People�s Party(PPP), which won 81 seats. However, Pakistan�s experience of coalitiongovernments is poor. Each has been torn apart by bitter squabbling and nonehas lasted more than two years.

The second problem faced by the president, General Pervez Musharraf, is thestunning success of the alliance of five religious parties, the Muttahida Majlis-i-Amal (MMA). In the 1993 election, the religious parties won only 7 seats in thenational assembly. In 2002 they won 60 and became the third largest groupingin the national parliament. The MMA is poised to form the provincialgovernment in the North-West Frontier Province (NWFP), which has been thehub of the US war against the al-Qaida terrorist network and the Taliban inAfghanistan. The MMA is strongly opposed to General Musharraf�s pro-USforeign policy and his support for the war against terrorism. Its success is boundto create hurdles for US forces operating in the region and this could become asource of acute embarrassment and frustration for General Musharraf. TheMMA�s Islamist agenda would also serve to reinforce the negative image ofPakistan abroad and harm its economic and political prospects.

General Musharraf�s first option is to nudge the PML (Q) and the PPP together.However, he would have to eat humble pie to achieve this objective. For threeyears he has hounded the leader of the PPP, Benazir Bhutto, and her party andtried his best to eliminate them from the political reckoning. Now he will haveto make a deal with her and rehabilitate her party. Once in power, the PPPwould not be a pushover like the PML (Q) and would constantly seek toempower and entrench itself at the cost of either the PML (Q) or GeneralMusharraf. The coalition government will therefore be constantly buffeted byinternal tensions.

The second option would be for General Musharraf to accept a coalitionbetween the PML (Q) and the MMA. This is also not without problems. GeneralMusharraf�s supporters in the West would frown on such a coalition,particularly given the widespread belief that the rise of the MMA is entirely theresult of General Musharraf�s mistake in creating a political vacuum by targetingand undermining the moderate mainstream parties.

General Musharraf�s third option is to use strong-arm tactics to try to triggerfurther defections from the PPP, enabling the PML (Q), along with the smallerpro-government parties, to form a government on its own. This could lead to a

Domestic politics

8 Pakistan


further breakdown in relations between General Musharraf and the politicalparties and would mean that the new government would have to spread itspatronage far and wide in order to keep everyone in line. This would diminishthe likelihood of good governance and would leave a strong opposition inparliament, rendering the government vulnerable to votes of no-confidence.

The final option would be for General Musharraf to try to cobble together acoalition of his liking and, if it failed, to dismiss parliament and order a freshelection. However, there is no guarantee that a new election would yield resultsmore amenable to him, unless they were so thoroughly rigged as to completelylack legitimacy.

General Musharraf�s difficulties are already becoming more apparent. Onemonth after the general election, parliament had still not met and a workablecoalition government had not been formed. The Economist Intelligence Unitbelieves that the most likely government is a grand coalition dominated by thePPP and the PML (Q). The PML (Q) will form the government in the Punjab andthe MMA will run the NWFP, with a coalition between the PPP and theMuttahida Qaumi Movement (MQM, which represents Urdu speakers) in Sindhand a coalition between the PML (Q) and the MMA in Baluchistan. Neither goodgovernance nor stability seems likely.

A marked improvement in Pakistan�s relations with India is unlikely. Althoughboth countries have stood down troops from the international border, thedispute over Kashmir remains unresolved. India is not likely to initiate an earlyresumption of talks, although some confidence-building measures such as arestoration of trade and communication links may be implemented. The Indianprime minister, Atal Behari Vajpayee, is scheduled to attend the summit of theSouth Asian Association for Regional Co-operation (SAARC) in Lahore inJanuary 2003, but has said that the occasion will not be used to start a bilateraldialogue process unless Pakistan proves that it has stopped militants fromcrossing the border into Indian Kashmir. Since Pakistan is unlikely to give up thisform of low-intensity war�its major form of leverage over India�until Indiaagrees jointly to resolve the dispute, relations may deteriorate in the next fewmonths as India tries to stabilise the newly elected coalition government in thestate of Jammu and Kashmir and Pakistani-backed militants try to undermine it.

Pakistan�s relations with the US will remain good despite the success of theMMA. Both General Musharraf and the mainstream parties (that are still likelyto dominate the next government) are strongly pro-American. The FederalBureau of Investigation (FBI, the US law-enforcement agency) will retain arelatively free hand in investigating and hunting down al-Qaida and Talibanextremists in Karachi and in the tribal areas, although it may be compelled toseek a lower public profile than in the past because of rising anti-US sentiment.

Economic policy outlook

No significant changes in economic policy are expected after the newgovernment takes office. Policy will remain driven by the need to meet theconditions imposed by the IMF under the US$1.3bn poverty reduction and

Policy trends

International relations

Pakistan 9


growth facility (PRGF) in 2001. An IMF review team completed its fourth reviewin September and expressed satisfaction with the government�s economicperformance. The fourth instalment of US$114m was then approved by the IMFboard at the beginning of November. The IMF has asked the government topursue reform of the Central Board of Revenue (CBR) and of the power sector,as well as to improve the performance of public-sector corporations, hastenpoverty alleviation and boost investment levels.

The IMF has so far released three tranches of aid under the PRGF, totallingUS$340m. The government has said that it will not look for further IMFassistance after the current arrangement ends in 2004. Pakistan graduated to thePRGF after successfully completing a ten-month US$596m standby arrangementin September 2001. The economy has gained significant breathing space fromthe debt-rescheduling arrangement covering US$12.5bn of external debt reachedwith the Paris Club of official creditors in 2001. Repayments still need to bemade on the more expensive commercial debts that have not been restructured.The government has finalised bilateral debt-rescheduling arrangements worthUS$5bn since July 2002, including US$3bn owed to the US. The US Congress isalso currently considering writing off debt worth US$1bn. In the run-up to theOctober 1oth election, there was some evidence of an easing of policyenforcement�for example, domestic petroleum prices were held steady inSeptember, despite rising international prices. However, once the newgovernment is in place, the reform process is expected to be resumed.

The government�s efforts to reduce the fiscal deficit are unlikely to have asignificant impact in the outlook period. Any efforts to curb expenditure orincrease revenue would face severe constraints. We expect a fiscal deficit of 4.8%of GDP in 2002/03, followed by 4.6% in 2003/04. In 2002/03 the governmentexpects defence spending to remain high�at PRs146bn, or US$2.4bn�owing totensions with India, and this level of spending could be overshot shouldtensions increase. A total of PRs290bn has been earmarked for debt servicing(another category that is difficult to reduce), leaving PRs306bn for all otherspending. The only item that the government could cut would be capitalexpenditure, but this would run counter to its own economic strategy.

The first quarter of 2002/03 (July-June) witnessed a significant improvement inrevenue collection. Revenue collection surpassed its quarterly target, with totalcollection coming in at PRs90.2bn. All categories of direct and indirect taxation,apart from excise duty, improved. The government�s full-year revenue target for2002/03 is PRs460.6bn, an 11% year-on-year increase. Rates of economic activityare likely to slow owing to the delayed transition to the new government afterthe October election, and revenue growth is unlikely to meet its full-year target.

After several consecutive quarters of falling interest rates, the State Bank ofPakistan (SBP, the central bank) kept the discount rate at 9% in the first quarter of2002/03 and kept the return on six-month Treasury bills close to 6.9%. Lendingrates fell by about one percentage point to just over 12% in 2001/02 and thefinance minister, Shaukat Aziz, has said that he expects them to decline by afurther 2% in 2002/03. However, credit demand has not picked up. Thegovernment tried to boost bank lending by cutting the interest rates offered on

Fiscal policy

Monetary policy

10 Pakistan


the traditionally high-yielding national savings schemes (NSS) by 2.5% in July.The interest rate for the ten-year NSS fell from 14.1% to 11.6% (down from 18%two years ago). The NSS holds deposits in excess of PRs800bn and high rateshave long deterred banks from cutting lending rates. Interest rates are likely toremain around these levels, although further cuts could be seen early in 2003 ifcredit demand does not pick up.

Economic forecast

International assumptions summary(% unless otherwise indicated)

2001c 2002c 2003 2004Real GDP growthWorld 2.0 2.7 3.6 4.0US 0.3 2.5 2.6 3.3EU 1.5 0.9 1.7 2.2

Exchange rates¥:US$ 121.5 125.8 128.8 130.5US$:� 0.9 0.9 1.1 1.1SDR:US$ 0.79 0.77 0.74 0.74Financial indicators¥ 2-month private bill rate 0.17 0.10 0.10 0.35US$ 3-month commercial paper rate 3.61 1.70 1.38 3.88Commodity pricesOil (Brent; US$/b) 24.5 25.3 24.7 19.7Cotton (US cents/lb) 48.0 46.2 57.0 64.8Food, feedstuffs & beverages (% change in US$

terms) -1.9 14.6 13.6 0.4Industrial raw materials (% change in US$ terms) -9.8 0.2 6.1 9.7

Note. Regional GDP growth rates weighted using purchasing power parity exchange rates.

We forecast world GDP growth (at purchasing power parity exchange rates) of3.6% in 2003 and 4% in 2004. World trade growth is expected to remain mutedin 2002, but to average almost 6.4% in 2003-04. Pakistan may be able to increaseexports in 2003 as world demand rises, but is unlikely to meet the US$10.4bntarget set for exports in 2002/03 in the government�s current trade policyannounced in July. Rising international cotton prices in 2003-04 will benefit thecountry�over 60% of exports are derived from cotton and textiles products.However, a lack of incentives in the trade policy for exports to Afghanistanmeans that Pakistani companies are unlikely to receive a major boost in thisarea, despite earlier expectations that the cement and consumer goods sectorswould benefit greatly from opportunities in Afghanistan.

The government has set a target for GDP growth at factor cost of 4.5% in 2002/03and the Asian Development Bank has said that it expects GDP growth of 5%. Weforecast real GDP growth in 2002/03 of 4.2% (at factor cost). After three years ofwater scarcity, which has led to frequent disputes between the four provincesover the sharing of water resources, the two main reservoirs, Mangla andTarbela, are currently full to capacity. This should boost agricultural growth, butit is unlikely to exceed 3%. Industrial growth has shown signs of a recovery aftera slump following the September 11th 2001 terrorist attacks on the US, andoutput should rise in 2002/03, but low levels of domestic investment in almost

International assumptions

InflationEconomic growth

Pakistan 11


all sectors of the economy, with the exception of the textiles industry, willprevent a greater rebound. On an expenditure basis, however, we forecast realGDP growth of 4.8% (the difference stems from increased sales taxes and lowersubsidies). Government expenditure growth, which was more than 18% in2001/02, is forecast to remain strong as aid inflows continue. Investment isexpected to return to growth after contracting in 2001/02, and net exports areexpected to make a positive contribution to growth.

GDP growth is expected to improve in 2003/04, with growth on an expenditurebasis of 5%. Government consumption is expected to grow only slowly, butprivate consumption and investment will grow more rapidly. However, thisforecast will remain highly vulnerable to political developments�shouldpolitical instability worsen, the expected improvements in economic confidencewill not materialise.

We estimate average consumer price inflation of 3.9% in 2002 (calendar year)and forecast inflation of 5.1% in 2003. Year-on-year inflation averaged less than3% in the first 5 months of 2002, but in June year-on-year inflation rose to 4.4%.In the latter part of 2002 electricity and gas tariffs are likely to increase, as oilprices increase, subsidies on power and gas are removed and utility companiesare privatised, giving rise to further inflationary pressures. The industrialrecovery that we forecast for 2002/03 will also increase inflationary pressuresand we expect inflation to rise to 5.5% in 2004. The low official rates of inflationreported do not correspond with widespread anecdotal evidence of muchhigher price rises, especially for food products and medicines. Producer priceinflation remains low, averaging just 1.2% in the first six months of 2002.

We expect the currency to stand at PRs58.7:US$1 at the end of 2002 given stronginward remittances, continued aid flows and strong export growth. Debtrescheduling and inflows of foreign direct investment (FDI) will prevent thefrom rupee depreciating as rapidly as has historically been the case. We estimatethat the average exchange rate for 2002 will be PRs59.7:US$1 and that thecurrency will decline to an average of PRs61.5:US$1 in 2003 and to PRs63.7:US$1in 2004 as remittances are increasingly made through unofficial channels andofficial transfers slow.

Inward remittance flows almost doubled in 2001/02, according to governmentdata, and this has supported the local currency. In the open market, the rupeerose to a two-year high against the US dollar on September 30th, trading ataround PRs58:US$1, but continued intervention by the SBP capped the rise ofthe rupee to protect exporters. On November 8th the currency stood atPRs58.69:US$1 on the interbank market. The SBP is likely to continue tointervene in the foreign-exchange markets. The rupee will appreciate if the SBPtemporarily eases its support for the US dollar.

On the back of soaring remittances and official transfer inflows, we forecast thatPakistan will record a current-account surplus of 3.9% of GDP in 2002. Althoughwe believe that current transfer inflows will remain strong in 2003-04, they arelikely to peak this year�as the currency stops appreciating, some remittanceswill be made using the unofficial hawala system of money transfer, and official

Inflation

External sector

Exchange rates

12 Pakistan


transfers are likely to fall off as international attention shifts away fromAfghanistan towards Iraq. The income deficit will be steady in 2003-04, but theservices deficit will widen slightly compared with 2002 owing to increasedshipping and insurance costs. The trade deficit will widen to an average ofUS$1.8bn in 2003-04 owing to the role of higher levels of private consumptionand investment in sucking in imports. As a result, the current-account surpluswill narrow to 0.8% of GDP in 2003, rising slightly to 1.1% of GDP in 2004. WereSaudi Arabia to end the Saudi oil facility�a grant to Pakistan�the currentaccount would slip into deficit.

Forecast summary(% unless otherwise indicated)

2001a 2002 b 2003c 2004c

Real GDP growth 2.7 4.5 a 4.8 5.0

Industrial production growth 9.4 2.4 4.6 5.8Gross agricultural production growth -2.5 1.2 a 3.0 4.0Unemployment rate (av) 7.8 7.8 7.3 8.4

Consumer price inflation (av) 3.1 3.9 5.1 5.5Consumer price inflation (year-end) 1.8 4.6 5.3 5.7

Short-term interbank rate 8.5 5.5 6.0 6.0Consolidated central government balance (% of

GDP) -4.1 -5.0 -4.8 -4.6Exports of goods fob (US$ bn) 9.1 9.7 10.2 10.8

Imports of goods fob (US$ bn) -9.7 -11.1 -12.0 -12.5Current-account balance (US$ bn) 1.9 2.4 0.6 0.9

Current-account balance (% of GDP) 3.1 3.9 0.8 1.1External debt (year-end; US$ bn) 30.3b 32.3 34.0 34.9Exchange rate PRs:US$ (av) 61.9 59.7 61.5 63.7

Exchange rate PRs:¥100 (av) 51.0 47.5 47.8 48.8Exchange rate PRs:� (av) 55.5 56.5 65.8 67.0

Exchange rate PRs:SDR (av) 78.8 77.3 83.5 85.5

a Actual. b Economist Intelligence Unit estimates. c Economist Intelligence Unit forecasts.

Pakistan 13


The political scene

In April the president, General Pervez Musharraf, held a highly dubiousreferendum in which he claimed to have obtained an unprecedented turnout of71% voters, of whom 99% were supposed to have said �yes� to his remainingpresident of Pakistan for another five years. Later he admitted that he lostpopularity as a result of this overkill. However, far from deterring him, thisspurred him on to make comprehensive plans for �pre-poll rigging� in theOctober 10th 2002 general election to ensure that the election returned a hungparliament. General Musharraf wanted to ensure that all the opposition partiestogether could not muster a two-thirds majority and threaten to undo hisunilateral constitutional amendments, which give him sweeping powers to fireprime ministers, provincial chief ministers and national and provincialparliaments. The EU observers� mission to Pakistan noted that �serious pre-pollrigging� had occurred in the run-up to the election, highlighting the following.

• The disqualification of the former prime ministers, Benazir Bhutto andNawaz Sharif, from contesting the election seemed to have no legal basis, eitherin domestic legislation or in internationally accepted practice.

• There was a question mark on the impartiality of the chief electioncommissioner, Irshad Hasan Khan, because of his unqualified endorsement ofthe controversial referendum in April.

• The requirement that those running for parliament had degrees preventedan estimated 98% of the electorate from running for office.

• The constitutional amendments introduced by General Musharraf,especially the stipulation that these did not require any validation byparliament, were aimed at making the next parliament subservient to him. �Thecreation of a National Security Council as a constitutional body is seen as yetanother tool in the hands of the president which furthermore institutionalisesthe presence of the military in the Government of Pakistan�, said the EU�sinterim report.

• The National Accountability Bureau was used to arrest, convict anddisqualify many opposition parties� leaders. The intelligence agencies were usedto bribe, cajole, browbeat and wean away about 200 �winnable� politiciansfrom the opposition parties into the pro-Musharraf Pakistan Muslim League(Quaid-i-Azam), or PML (Q), in order to weaken them and strengthen GeneralMusharraf�s own support base. The government-controlled organs of the mediawere freely used to condemn �corrupt� politicians and exhort the people to votefor �new faces�, a euphemism for pro-government forces.

• A clutch of specifically promulgated laws, including the forced exile ofpopular leaders like Ms Bhutto and Mr Sharif, prohibited the opposition partiesfrom whipping up enthusiasm for the polls.

Generally, there were few untoward incidents on polling day, but many resultswere inordinately delayed, sometimes by as long as a day. Since this wasunprecedented�in all past elections, the results have been announced within

Delays in the count raisesuspicions of more rigging

The polls are rigged in theOctober election

14 Pakistan


twelve hours of the end of polling�allegations of last-minute ballot boxswitching or stuffing after the end of the day were shrill, especially since in mostof these cases pro-Musharraf candidates seemed to have scraped through afterrecounts the following day. At least twenty results were controversial. In theevent, out of a total of 272 elected seats the pro-Musharraf PML (Q) obtained 77seats, whereas the anti-Musharraf Pakistan People�s Party Parliamentarians(PPPP) and the PML (Nawaz), or PML (N), together mustered only 77 seats. Thusno party had a majority and the opposition parties together could not gettogether a sufficient number of seats to form a government, let alone the two-thirds majority needed to defeat General Musharraf�s constitutional changes.

General and provincial election results(seats won)

Party Punjab Sindh NWFPa Baluchistan NationalPakistan Muslim League (Quaid-i-Azam) 129 11 6 10 77Pakistan People's Party Parliamentarians 63 51 8 2 63

Muttahida Majlis-i-Amal Pakistan 9 8 48 13 45Pakistan Muslim League (Nawaz) 39 - 4 - 14Muttahida Qaumi Movement - 32 - - 13

National Alliance 12 12 - 5 13Pakistan Muslim League (F) - 10 - - 4

Pakistan People's Party (Sherpao) - - 9 - 2Pakistan Muslim League (J) 4 - - - 2

Jamhoori Wattan Party - - - 3 1Baluchistan National Party - - - 2 1Pakistan Muslim League (Z) 1 - - - 1

Mohajir Qaumi Movement Pakistan - 1 - - 1Pakistan Tehrik-i-Insaf - - 1 - 1

Pakistan Shia Political Party - - - - 1Pakistan Awami Tehrik - - - - 1Awami National Party - - 7 - -

Baluchistan National Movement - - - 3 -Pakistan Pakhtoonkhawa Milli Awami Party - - - 2 -

Baluchistan National Democratic Party - - - 1 -Pakistan Muslim League (Jinnah) 1 - - - -

Independents 38 5 14 7 29Repoll/recount 1 - 2 3 3Total 297 130 99 51 272

a North-West Frontier Province.

Source: Election Commission of Pakistan.

After the inclusion of the non-elected reserved seats for women, minorities andother professional groups (proportionate to the number of elected seats obtainedby each party), the PML (Q) was the largest party with 118 seats, followed by thePPPP and the Muttahida Majlis-i-Awal Pakistan (MMA, an alliance of fiveIslamist parties).

The final distribution of seats in the National AssemblyParty SeatsPakistan Muslim League (Quaid-i-Azam) 118Pakistan People's Party Parliamentarians 81

Muttahida Majlis-i-Amal Pakistan 60

The PML (Q) wins the mostseats in the national assembly

Pakistan 15


Pakistan Muslim League (Nawaz) 19

Muttahida Qaumi Movement 17National Alliance 16Pakistan Muslim League (F) 5

Pakistan Muslim League (J) 3Pakistan People's Party (Sherpao) 2

Baluchistan National Party 1Jamhoori Wattan Party 1Pakistan Awami Tehrik 1

Pakistan Muslim League (Z) 1Pakistan Tehrik-i-Insaf 1

Mohajir Qaumi Movement 1Independents (including 12 from the Federally Administered

Tribal Areas) 14Pending 1

Total 342

Source: Election Commission of Pakistan.

Although independent pre-election polls by the BBC and the polling company,Gallup Pakistan, had predicted that the PPPP would emerge as the single largestparty, no one seriously believed that General Musharraf would �allow� anysuch result. The sting in the tail was the stunning sweep of the MMA in theNorth-West Frontier Province (NWFP) and Baluchistan, and their strong showingin Karachi. By winning 45 seats in the national assembly, the MMA became thethird largest party in the country. It put up its leader, Maulana Fazlur Rahman, asa candidate for the post of prime minister and bid to form the government intwo of Pakistan�s four provinces.

The MMA mustered a maximum of 11% (3.4m) of the 29.5m votes cast for theNational Assembly, up from about 7% (1.4m for all religious party candidates) ofthe 20.3m votes cast in the 1993 election. (In 1997 the leading religious party, theJamaat-i-Islami, had boycotted the polls.) This suggests that although the totalvote bank of the religious parties has more than doubled since 1993, at least 40%of this is the result of a natural increase in the number of voters owing topopulation growth and the reduction in the voting age from 21 to 18 years. Theremaining 60% is explained by a shift of voter preferences from the mainstreamparties to the religious parties. This, coupled with the merger of the mainIslamist parties, allowed the parties to increase their tally of National Assemblyseats from nine out of 207 in 1993 (4.3%) to 45 out of 272 (16.5%) in October.

In general, the voter turnout was lower in the provinces won by the MMA�theaverage turnout in the NWFP, Baluchistan and the Federally Administered TribalAreas (FATA) was 29.5%�than in those in which the mainstream moderateparties won. Thus, the average turnout in the Punjab and Sindh was 42.3%.

The pro-Musharraf PML (Q) initially tried to persuade the MMA andindependents to form an alliance with it. However, it could not meet the MMA�simpossible demands: the MMA wanted its leader, Maulana Fazlur Rahman, tobe the prime minister and it wanted its own chief ministers and governments torun Baluchistan and the NWFP. The PML (Q) then turned to its arch-foe, thePPPP. However, General Musharraf refused to accept Ms Bhutto�s demands,

A coalition government is notimmediately formed

The Islamic parties performstrongly

16 Pakistan


which included the appointment of her nominee as prime minister, theunconditional release from prison of her husband, Asif Ali Zardari, and thewithdrawal of all corruption cases against her and members of her party.General Musharraf then decided to help the PML (Q) to woo independents andencourage desertions from the PPPP, the PML (N) and the MMA.

General Musharraf issued the Legal Framework (Amendment) Order 2002 inthe early hours of October 10th, the day of the election, to allow independentcandidates to join any political party within three days of winning the election.The move was aimed at bolstering the position of the PML (Q). Accordingly, inthe fortnight after the general election, 18 of the 21 independents announcedthat they had joined the PML (Q), bringing its effective tally up to 95. Within thePML (Q) there were several strong contenders for the position of prime minister.Accordingly, a new law was promulgated giving the government�s preferrednominee, Mir Zafrullah Jamali, a boost. Mr Jamali had twice before served asthe chief minister of Baluchistan, but an earlier law designed to prevent eitherMs Bhutto or Mr Sharif from becoming prime minister seemed to stand in hisway. (Those who have twice before held the posts of chief ministers or primeminister cannot fill either of these posts again.) General Musharraf promptlyamended the law to make Mr Jamali eligible, while leaving Ms Bhutto andMr Sharif ineligible. Another new law followed shortly after, banning thosewho lost in the general election from standing for the Senate (the upper houseof parliament). This was intended to prevent many troublesome politiciansfrom across the divide, not least a gang of Sharif and Bhutto loyalists as well assome relatively independent politicians in the PML (Q), from standing. Finally,fear of the MMA led to yet another new decree banning the 10 members ofparliament from the FATA from joining the MMA.

When India announced a demobilisation of troops along the internationalborder with Pakistan in October following the Pakistani election, Pakistanquickly followed suit, raising hopes of a thaw in relations. However, these hopeswere short-lived. India has subsequently spurned Pakistani pleas for a dialogueto resolve the Kashmir dispute, insisting that crossborder infiltration of Islamistmilitants to stir up trouble in Indian-held Kashmir must stop first. Meanwhile,India has successfully completed a new election in Kashmir, where the turnoutwas over 40%, suggesting that the militants� call for a boycott of the electionwent largely unheeded. Following the formation of a coalition government inKashmir comprising the People�s Democratic Party and Congress, ousting theprevious ruling party, the National Conference (which was allied with India�sruling Bharatiya Janata Party), it appears that India is moving towards an internalcompromise with the Kashmiris. Pakistan may try to undermine the newarrangement by encouraging the militants. The Indian prime minister, AtalBehari Vajpayee, is scheduled to go to Islamabad for the summit of the SouthAsian Association for Regional Co-operation (SAARC) in January, but the Indiansare sending out mixed signals about their intentions. The US is keen to get bothsides to the negotiating table so that the chances of a conflict between them donot impinge on its coming war with Iraq.

Relations with India have beenput on hold

A spate of presidential decreeshelps the PML (Q)

Pakistan 17


Economic policy

Economic policy continues to be driven by conditions agreed with the IMFunder the US$1.3bn poverty reduction and growth facility (PRGF). The federalbudget announced in June closely reflected the conditionalities imposed by thisagreement. However, the government relaxed its adherence to theseconditionalities by introducing some populist measures in the run-up to theOctober 10th general and provincial elections: domestic oil prices were keptsteady in September, despite the rise in international oil prices, and somegroups, including pensioners and widows, received higher rates of return onnational savings schemes. The rates of return on these schemes had beenreduced by 2.5 percentage points in July to rationalise deposit rates and allow thebanking sector to cut lending rates, but this cut was relaxed for the above-mentioned groups. This relaxation of the reform drive is expected to be reversedonce the new government is in place. Nevertheless, the pace of reform across allsectors of the economy remains uncertain and will depend on the economicteam appointed by the next government. In the meantime, negotiations formore assistance from the US made progress during the visit by the president,General Pervez Musharraf, to the US in September and October. Pakistan isexpected to receive an additional US$1bn of economic assistance; the OverseasPrivate Investment Corporation and the US Export-Import Bank have approvedloans for Pakistan worth US$300m and US$125m respectively.

After an exceedingly poor performance in 2001/02 (July-June), revenue collectionimproved strongly in July-September, the first quarter of 2002/03. Against atarget of PRs90bn (US$1.5bn), total revenue collection was recorded atPRs90.2bn, and an additional PRs1bn could be added to the figure when datafrom remote areas finally come in. This represents a 16.5% year-on-year increasein revenue: the contribution of direct taxes rose by 6.6%, that of sales tax by26.3% and that of customs duty by 23%. Customs duty collection has improveddespite the reduction in the maximum tariff to 25% in the June federal budget.Excise duty collection fell by 3%�some duties were recategorised as sales tax,there was an excess supply of cigarettes before the budget announcement andthe duty on cement was lowered. In 2001/02 the government revised its taxcollection target downwards six times and actual collection came in atPRs403bn. The government�s target for 2002/03 is PRs460.6bn.

Tax collection, 2002(PRs bn)

Apr May Jun Jul AugDirect taxes 12.3 10.3 20.0 4.8 7.0Sales tax 15.1 16.9 21.0 12.3 14.5

Excise duty 4.7 4.9 6.0 2.6 3.5Customs receipts 4.2 5.3 9.5 3.9 4.6Total 36.3 37.4 56.5 23.6 29.6

Source: Central Board of Revenue.

Reform of the Central Board of Revenue (CBR), primarily aimed at revampingthe collection process and introducing a simplified self-assessment system, hasbeen slow. A UK consulting firm, Maxwell Stamp, has prepared a detailed

Tax collection has picked up

The elections bring somerelaxation in the reform drive

18 Pakistan


reform programme to improve the CBR�s structural and operational efficiency,but full implementation is expected to take more than six years. In the interim,the CBR will publish a quarterly review of revenue collection, and proceduresfor recruitment and promotion within the CBR are being prepared. The CBRhas set up a large taxpayers� unit in Karachi where all taxes can be deposited inone place.

In line with IMF directives, the oil sector has been almost completelyderegulated. This means that rising international oil prices have been passed onto consumers and that the balance sheets of the two major oil-marketingcompanies, Pakistan State Oil and Shell Pakistan, will improve as they reportsubstantial inventory gains. The World Bank energy review mission visitedPakistan in September and concluded that power sector reform was on track.The government has also agreed with the World Bank to deregulate the dieselmarket, which accounts for 45% of the petroleum products market, in the nearfuture. Oil imports account for more than 25% of Pakistan�s total imports. In Julyone of the two main state-owned power companies, the Water and PowerDevelopment Authority (WAPDA), was authorised to raise its power tariffs by12% for domestic consumers in a bid to improve its balance sheet, and inSeptember the other power company, the Karachi Electricity Supply Company(KESC), was allowed to raise its tariffs by between 12% and 27% for the samereason. Both companies suffer massive line losses and regularly request tariffrevisions to sustain their financial positions. There has been little progress onreducing these losses or improving the financial state of the two power sectorutilities, making their planned privatisation a tough task.

The privatisation of KESC is likely to be substantially delayed. One of the twocompanies interested in investing in KESC, Asea Brown Boveri (ABB), a Germancompany, has failed to submit the statement of qualification (SoQ) within thestipulated time, reportedly owing to a German government travel advisoryabout Pakistan. The other company, Allied Energy System (AES), has submittedits SoQ. The government has extended the date for submission of SoQs untilDecember 31st, but it is likely the privatisation will be indefinitely delayed as thegovernment forges ahead with higher-priority transactions such as theprivatisations of Pakistan State Oil (PSO), Habib Bank and the Oil and GasDevelopment Corporation (OGDC).

The first major privatisation since October 1999 has not gone smoothly and hassent negative signals to both foreign and local investors. A 51% stake in Paksitan�sfourth largest bank, United Bank (UBL), was sold in September for PRs12.35bn toa consortium that included the Al-Nahyan Group of the UAE and the UK-basedBestway Group. This was the second bidding for the bank; the first bidding inJune was cancelled. In June a Pakistani bank, the Muslim Commercial Bank(MCB), submitted the highest bid�PRs8.5bn�but the Privatisation Commissionlater asked bidders to improve their bidding prices to raise them above thereference price of PRs11.8bn. The MCB then resubmitted a bid of PRs12bn, butthe cabinet committee on privatisation decided to hold a fresh round of bidding.The MCB did not participate in the new bidding process. The UBL has 1,101

A bank privatisation has notgone smoothly

The reform of the powersector is in progress

Pakistan 19


branches across Pakistan, plus a valuable franchise of 16 international branchesin the US and the Middle East.

A Pakistani fund-management company, ABAMCO, offered the highest bid ofPRs175m (US$2.9m) for the Investment Corporation of Pakistan (ICP) �A� lot ofmutual funds. Dividends declared by the ICP on its 22 funds for 2002 rangedbetween 7.5% to 165%. Bids were also approved in September for Thatta Cementand Bank Al-Falah. Thatta Cement was sold for PRs718m to a consortium led byIqbal Ali Mohammed that is also expected to pick up PRs383m of the company�sdebt. The Abu Dhabi Group bought a 28% stake in Bank Al-Falah for PRs620.1m.

The public issue of an additional 5% of shares in the National Bank of Pakistan isto take place in late November. The issue will take place at a price of PRs21 (35 UScents) per share. The first public offer, in November 2001, at PRs10 per share, wasoversubscribed six times and this second issue is also expected to be receivedpositively. The government expects to receive PRs400m through the offer.

In October the bidding for Associated Cement (Rohri) was cancelled after a poorresponse. Both bidders, National Transport and Afzal Motors, described the floorprice of PRs300m as excessive. A few companies have submitted expressions ofinterest in Habib Bank, the PSO, the Pakistan Telecommunications Company(PTCL) and the OGDC, but these transactions are unlikely to be completed thisyear as scheduled. The privatisation programme is unlikely to pick up pacesignificantly owing to the poor law and order situation and political instability,which will keep foreign investors away. The process of reform of public-sectorutilities like KESC, WAPDA and Pakistan International Airlines (PIA) has alsobeen slow and attracting buyers for these troubled entities will be a tough task.

The process of capital market reform has continued since July. After a disputebetween the Securities and Exchange Commission of Pakistan (SECP) and theKarachi Stock Exchange (KSE), it was decided that the size of the KSE boardwould be reduced to make administrative issues more manageable. A newmanaging director, Moin Fudda was also appointed. A centralised share-clearingsystem is expected to be in place through the National Clearing Company byDecember. A new trading system began in September, whereby brokers are notallowed to see the names of those who have executed transactions. This isexpected to reduce speculation. The KSE has also permitted 100% foreign-ownedcompanies to open brokerage houses in Pakistan to promote foreign investment.The next major reform planned is the demutualisation of the stock exchanges,but this faces opposition from members of the KSE.

Karachi Stock Exchange: market indicators, 2002Turnover of shares Market capitalisation

Period KSE-100 index (m) (PRs bn)Apr 1,899.0 2,984.8 433.6May 1,663.3 2,618.7 383.3

Jun 1,770.1 1,986.4 407.6Jul 1,783.1 n/a 412.5Aug 1,974.6 n/a 450.8

Sep 2,018.8 n/a 458.3

Source: Karachi Stock Exchange.

Capital market reform iscontinuing

20 Pakistan


The domestic economy

Economic trends

Anecdotal evidence suggests that local industrialists and businesses have beenwary of investing owing to fears of a deterioration in law and order and apossible resurgence of violence after the October election. The only industrywhere investment has remained strong is textiles, where, in preparation for aphasing out of quotas in 2005, companies have invested heavily. The industryhas imported machinery worth US$1bn. Machinery imports rose by 27% year onyear in the first two months of 2002/03, indicating a pick-up in investment. Lowinvestment has kept a cap on industrial growth in recent years.

During the first two months of 2002/03 (July-June) foreign direct investment (FDI)rose by 43% year on year to reach US$72.8m. However, this remains well belowthe levels seen in the mid-1990s. Whether the government meets its full-yeartarget of US$1bn will depend on the law and order situation and politicalstability. Were the target to be met, FDI flows would be underpinned byinvestment in the oil and gas sector. During 2001/02 total FDI rose by 3% toUS$484.7m, just short of the IMF target of US$500m. Most foreign investmentwas made in early 2002 before the outbreak of violence against foreigners�thekilling of the US journalist Daniel Pearl; an explosion that killed French engineersin a Karachi hotel; and a bomb explosion outside the US consulate in Karachi.During the first two months of 2002/03 the US, the UK and Saudi Arabia werethe main sources of FDI. The oil and gas sector attracted the most FDI.

Foreign direct investment by sector(US$ m; July-Aug)

2001/02 2002/03Oil & gas 28.9 39.7

Transport 14.0 19.0Finance 5.1 7.0Trade 4.5 6.2

Source: State Bank of Pakistan.

Domestic investment remainslow

Foreign direct investment ispicking up

Pakistan 21


Foreign direct investment by country of origin(US$ m; July-Aug)

2001/02 2002/03US 31.0 33.2UK 3.8 9.2

Saudi Arabia 0.4 7.1UAE 0.5 4.6

France 0.0 1.7


The commencement of operations of the National Commodity Exchange, whichreceived a licence earlier this year to carry out futures trade in variouscommodities, has been delayed from September until December, as the KSE(which owns the new commodity exchange) has been unable to appoint amanagement team. Hedge trading in cotton has also been delayed since theMinistry of Commerce has not allowed the Karachi Cotton Association tocommence trading.

A number of major listed companies have posted strong half-yearly and annualresults. The most heavily traded stock on the KSE, the Pakistan Tele-communications Company (PTCL), announced a 28% dividend in September.The country�s largest company (by revenue), Pakistan State Oil (PSO) hasannounced an 80% cash dividend and its profits rose by 41% to PRs3.18bn(US$53m). The country�s biggest bank, the National Bank of Pakistan, which isissuing an additional 5% of shares for public listing in October, recorded profits ofPRs1.1bn in the six months to end-June 2002 after several years in the red. Thegovernment-owned bank�s first public issue of shares in 2001 was heavilyoversubscribed. The profits of the Muslim Commercial Bank (MCB) rose by 87%to PRs837m (US$14m) in the six months to end-June 2002. The banking sector isexpected to suffer owing to falling interest rates, but to record higher profits owingto the 4% reduction in the tax rate on banking companies announced in the Junefederal budget.

Industry

The large-scale manufacturing sector grew by 4% in 2001/02 and is expected togrow by 5% in 2002/03, boosted by stronger growth in construction resultingfrom a number of new infrastructure projects initiated by the government. Theenergy and telecommunications sectors are expected to lead growth. In view ofincreases in the EU and Turkish quotas for textiles imports from Pakistan andhopes for greater market access in the US, the textiles industry is expected toperform strongly over the outlook period.

Production of large-scale manufacturing items(% change year on year; Jul-Jun)

2000/01 2001/02Textiles 2.8 4.1Food, beverage & tobacco 18.2 8.2Petroleum products 19.2 14.1

Fertilisers 10.0 -1.3

The manufacturing sector ispicking up slightly

Corporate earnings are strong

Futures trading is delayed

22 Pakistan


Pharmaceuticals -2.0 2.0

Metal goods 5.5 -2.7Leather products 15.7 -7.9Chemicals 13.0 2.3

Electronic goods 5.7 11.0Passenger cars 12.5 -2.1

Minerals 3.4 2.0Paper & board 22.2 3.1Engineering items 9.8 -0.7

Tyres & tubes 3.5 4.9

Source: Federal Bureau of Statistics.

Agriculture

The agricultural sector, which provides nearly 25% of Pakistan�s GDP, hassuffered from three years of severe droughts. In 2001/02 GDP growth wasdragged down by agricultural growth of just 1.2%. The water situation has nowimproved with the two major dams�Tarbela and Mangla�currently full tocapacity. As a result, the agricultural sector is expected to grow by around 3% in2002/03. The output of the four major crops�cotton, wheat, rice and sugarcane�contracted by 0.3% in 2001/02 after falling by 6.9% in 2000/01. As a result ofincreased access to water, cotton, rice and sugarcane output are expected toshow improved growth, whereas wheat production is likely to stabilise.

The minister for food, agriculture and livestock, Khair Mohammed Junejo, saidin October that the government would achieve its production target of 10.07mbales of cotton in 2002/03 owing to a reduction in pest attacks, better wateravailability and good climatic conditions. Following the implementation of theCotton Standardisation Ordinance, the government expects to earn US$350m ayear from cotton exports. For 2002/03 the government has set a wheatproduction target of 19.8m tonnes, 1.4m tonnes more than the 2001/02 target. Inthe first two months of 2002/03 3m tonnes of wheat were exported. Wheatexports are expected to pick up as Pakistan explores new markets in Indonesia,Africa and the Middle East.

The water crisis is subsiding

Pakistan 23


Financial sector

After falling consistently during 2001/02, interest rates stabilised in the firstquarter of 2002/03. The State Bank of Pakistan (SBP, the central bank) cut thediscount rate from 12% to 9% in 2001/02, but it has since remained at 9%. Thereturn on six-month Treasury bills was cut from 12% in July 2001 to about 6.3%by July 2002 and has been maintained around this level. Lending rates havebeen slower to fall. Mr Aziz has said on several public occasions that he wouldlike to see single-digit interest rates, but since July the SBP has preferred stableinterest rates. Average lending rates fell from 13.12% in July 2001 to 12.08% in July2002, whereas deposit rates fell from 4.73% to 4.02% in the same period. Foreignbanks have instituted the greatest decreases in interest rates and currently offerthe lowest average lending and deposit rates.

Lending rates(%)

PeriodNationalised

banksPrivatised

banks Private banks Foreign banks1998/99 15.53 17.27 15.58 14.53

1999/2000 14.53 14.76 14.48 12.832000/01 13.91 14.54 13.97 13.15

2001/02 13.59 14.43 13.58 11.65Jul 1st 2002 12.67 13.01 12.24 10.76


Weighted average yield on six-month Treasury bills(%)

Period YieldJun 13th 2002 6.42Jul 25th 2002 6.27

Aug 8th 2002 6.40Sep 5th 2002 6.39


Reform of the banking sector has continued. Additional internal reorganisationhas taken place at the improving nationalised commercial banks, which arecompeting aggressively with the foreign banks that have traditionally dominatedthe high-end corporate finance market. In October the state-owned AgriculturalDevelopment Bank of Pakistan was made a public limited company through thepromulgation of an ordinance.

In September the SBP approved the takeover by United Bank (UBL, Pakistan�sfourth largest bank) of the 10-branch network in Pakistan of the UAE-basedEmirates Bank International. This acquisition, priced at US$18m, is likely to bethe first of a series of mergers within the banking sector since the SBP doubledthe minimum capital requirement of all banks to PRs1bn (US$16.7m) in January2002. A consolidation is also taking place within the wider financial sector.Banks have moved more aggressively into consumer financing and new bankingproducts are expected to be launched in the next few months.

Interest rates have stabilised

Banking sector reform iscontinuing

24 Pakistan


Little has been done to deal with the problem of non-performing loans in thebanking system, which are now worth around PRs278bn. The SBP in Augustworked out new guidelines for banks to write off and settle these loans and hassaid that bank managers should obtain a resolution from the board of directorsto authorise the write-off of outstanding loans of up to PRs500,000 (US$8,700)on a case-by-case basis without going into litigation. For outstanding amountsbetween PRs500,000 and PRs2.5m (US$42,000), the SBP has instructed banks torecover 75% or more in cash. If the forced sale value of the security is said to beless than the outstanding loan, banks are advised to recover at least the forcedsale value. If the outstanding amount exceeds PRs2.5m, banks have been advisedto collect 75% in cash and, if the forced sale value is less than this, then a sumequal to this value must be recovered from the debtor.

In August the Securities and Exchange Commission of Pakistan (SECP, the centralregulatory authority) approved 14 merger schemes involving leasing companies,modarabas (Islamic financial institutions) and mutual funds. The followingmonth, a Pakistani fund management company, ABAMCO, successfullylaunched its third mutual fund, a fixed income fund, and it plans to launch thecountry�s first ever Islamic mutual fund within the next few months. Pakistan�sfirst securitisation transaction was completed in September when the private-sector Trust Investment Bank completed the PRs100m securitisation of leasereceivables pertaining to the Pakistan Industrial Leasing Corporation, with whichit was merged.

The SECP has also allowed modarabas to issue term-finance certificates; furtherissues are expected in coming months. Permission has also been granted for thesetting up of a modaraba to finance small and medium-sized enterprises (SMEs)in remote areas. The Modaraba Association of Pakistan is planning to developIslamic term-finance certificates and to set up an Islamic fund as well. The SBP isalso encouraging the development of the mortgage financing market for housing,which is underdeveloped in Pakistan. The SBP governor, Ishrat Hussain, said inSeptember that the mortgage finance regulations would be rewritten and taxincentives offered.

On September 25th the cabinet approved the State Bank of Pakistan(Amendment) Ordinance 2002, which bolsters the security of tenure of thegovernor of the SBP and other members of its central board. The ordinance alsocompletes the reform process initiated in 1997, under which the issue of centralbank autonomy was first introduced. The new ordinance gives full autonomy tothe SBP in the formulation of monetary, credit and exchange-rate policies, theexpansion of liquidity, the holding and management of reserves and thedetermination of the extent of government borrowings from commercial banks.

Despite the 2.5 percentage point rate cut in the return offered on NationalSavings Schemes, new investments in these schemes almost doubled fromPRs2.46bn in July 2001 to PRs4.8bn in July 2002. In 2001/02 total investments inthese government schemes were worth PRs70.9bn. Despite the rate cut, theseschemes still offer returns between 10.7% and 11.6%, outperforming most otherpotential investments�returns on bank accounts currently average around 4%.

The central bank will be givenfull autonomy

Lower interest rates are notdeterring savings

Progress on tackling non-performing loans has slowed

The broader financial sector isalso developing

Pakistan 25


The strength of the rupee has deterred savers from investing in US dollars,traditionally a safe haven for small investors. The SBP is currently working out abank deposit insurance scheme to provide protection for small depositors. Themove has become essential in the face of bank privatisations, which, it is feared,could cause concern among depositors.

A swap desk was set up at the SBP in September, aiming to ensure stability inthe foreign-exchange market and to reduce the differential in rupee exchangerates. The spreads between the money market and the foreign-exchange markethad provided an opportunity to borrow funds at cheaper rates in the foreign-exchange market and invest them at higher rates in the money market. The swapdesk also aims to provide short-term US dollar financing to exporters andimporters at cheaper rates of 4% compared with commercial bank rates of 8% forexporters and 9-17% for importers. The swap desk will also allow the SBP tomeet debt obligations without drawing on the government�s reserves.

In July the government announced an ambitious credit expansion plan, setting atarget for private-sector credit expansion of PRs90bn�the expansion of private-sector credit demand in 2000/01 was just PRs32bn. Credit demand may pick upslightly in the cotton financing season (from September to November), but localindustry is unlikely to plan greater production or expansion until the newgovernment is well established. The booming corporate debt market and strongequities market will also prevent stronger expansion of credit demand.

In July the SBP invited applications to set up foreign-exchange companies in abid to unify the formal and informal foreign-exchange markets. Thesecompanies are required to have a minimum paid-up capital of PRs100m andcan be foreign-owned. The aim of these new companies is to documentremittance transactions fully and thereby help to curb the activities of thousandsof unauthorised money changers. The exchange companies will have a muchwider scope of business than money changers, being authorised to deal inforeign currency, postal notes, money orders, bank drafts, travellers� cheques andmoney transfers. So far eight companies have received �foreign-exchangecompany� licences.

The SBP�s new swap desk willbring greater efficiencies

Credit demand is slow topick up

Foreign-exchange markets areevolving

26 Pakistan


Foreign trade and payments

Exports increased by 14% year on year to US$2.58bn in the first quarter of2002/03 (July-June). Both exports and imports could come close to hitting thegovernment�s targets of US$10.1bn for exports and US$11.3bn for imports. Allcategories of textiles exports grew strongly, as did exports of commodities,carpets, footwear, chemicals, engineering goods and furniture. The biggestimprovements have been seen in textiles exports, which increased by 60% inJuly and August year on year. Exports under textiles quotas to the US, the EU,Canada and Turkey increased by 6.7% year on year in the first quarter of thefiscal year. Textiles exports could improve further if the US grants greater marketaccess as expected. The textiles sector is one of the few industries in whichinvestment has not slowed. The textiles industry has imported US$1bn ofmachinery since July 2001 in preparation for World Trade Organisation (WTO)directives that come into force in 2005. At that time, Pakistan�s textiles industrywill no longer be protected by quotas and will have to compete on price andquality alone.

Imports rose by 11.1% in July-September to US$2.78bn. As a result, the tradedeficit fell by 16% to US$201m. Machinery imports rose by 27.7% to US$422.4m,indicating some pick-up in domestic investment. Oil imports fell, but imports ofchemicals increased by 5% to US$353m. The decline in industrial oil con-sumption was largely the result of the switchover of several cement plants fromfurnace oil to coal and the use of natural gas instead of oil by power producers.As international oil prices rise, however, the oil import bill is likely to rise in thenext few months.

If exports and imports continue to grow at this pace, the government willsurpass �the more ambitious targets� set out in its trade policy announced inJuly, which set export and import targets of US$10.4bn and US$11.1bnrespectively in 2002/03. The export finance rate has also been maintained by thecentral bank at 6.5% to provide exporters with affordable financing. Exportershave been helped by the setting up of a swap desk at the State Bank of Pakistan(SBP, the central bank). The government also issued new sales tax refund rules inSeptember, making it easier for exporters to get access to their blocked workingcapital. The establishment of an Export-Import Bank has also been approved tooffer state credit for the export of capital goods.

On September 30th the Pakistan-US Business Council was set up in the US in abid to boost trade and economic co-operation between the two countries. Thecouncil is intended to work to provide Pakistani exporters with greater marketaccess and help to bolster US investment in Pakistan. The finance minister,Shaukat Aziz, is also looking to pursue a free-trade agreement with the US,which may come to fruition in the longer term. The government�s new focus onnon-traditional products and markets will be slow to show results. Thepresident, General Pervez Musharraf, has urged exporters to explore markets inthe East Asia and exports of high-technology products. The target for softwareexports has been set at US$1bn, but this is unlikely to be met in 2002/03.

The new business councilcould boost trade

Exports and imports may meettheir targets

Pakistan 27


Trade in goods(US$ m)

Exports Imports Trade balance2001/02 (full year) 9,134 10,339 -1,205Jul 2002 816.7 927.2 -110.5

Aug 2002 896.9 973.6 -76.7Sep 2002 867.6 881.5 -13.9

Source: Federal Bureau of Statistics.

The growth in inward remittances was exceptionally strong in 2001/02, morethan doubling to US$2.39bn. During July and August remittances grew evenmore strongly, rising by 285% year on year to reach US$699.9m. Strongremittances and continued aid flows helped Pakistan to record a current-accountsurplus of US$2.7bn (government data) in 2001/02 compared with a surplus ofaround US$300m in 2000/01.

Remittances from overseas workers(US$ m)

Jul-Aug 2001 Jul-Aug 2002US 32.7 206.3UAE 34.7 184.5

Saudi Arabia 48.1 101.9UK 13.3 37.6

Kuwait 7.6 30.5Oman 7.3 13.5Qatar 2.2 10.5

Bahrain 4.1 10.0Germany 1.5 2.9

Canada 1.4 1.8Norway 0.9 1.5Japan 0.7 0.9

Other countries 17.3 92.9Foreign-exchange & foreign-

currency bearer certificates 9.9 5.1

Total 181.6 699.9


Foreign debt-servicing pressures have eased considerably. Total (domestic andexternal) debt servicing has declined from 63% of total government revenue in1999/2000 to 47% in 2001/02. The government aims to cut this to 30%. Foreigndebt fell by US$2bn to US$38bn (government measure) over the course of2001/02, and the government�s domestic debt fell by 2.5% to PRs1.69trn(US$28bn) over the same period after rising by 16% in 2000/01. Mr Aziz has saidthat the Fiscal Responsibility and Debt Limitation Ordinance of 2002 will helpto cut total debt to 60% of GDP by 2012. The government intends to achieve thisby cutting the fiscal deficit to zero by 2012; eliminating the revenue deficit by2007 and maintaining a surplus thereafter; reducing total public debt by not lessthan 2.5% of GDP every year, provided that social and poverty-relatedexpenditure is not reduced below 4% of GDP; and not issuing any newguarantees on borrowing exceeding 2% of GDP.

Debt pressures have eased

Remittances continue to drivethe external account

28 Pakistan


During 2001/02 Pakistan received total external assistance of PRs264.76bn(US$4.3bn), whereas debt-servicing repayments amounted to PRs158.2bn, leavinga net inflow of PRs106.6bn. Aid flows will remain strong during the currentfiscal year as the US is likely to offer an additional US$1bn in economicassistance. The Asian Development Bank (ADB) signed a US$2.4bn povertyreduction and partnership agreement with Pakistan in September, aiming toreduce the incidence of poverty to 25% of the population by 2006 and raiseannual GDP growth above 5%. By 2011 the agreement foresees that poverty willfall below 15% and GDP growth will rise to 6%. Between 2002 and 2006 theADB will assist Pakistan in the improvement of governance and the reform ofhealth and education, water supply, urban development, agriculture and ruraldevelopment, energy, transport, finance and industry. Japan will also provideUS$200m in 2002/03 as the second part of the US$300m pledged in 2001/02.The World Bank has said that it will raise its assistance to Pakistan fromUS$600m to US$900m in 2002/03 to support various development initiatives.

Balance of payments, 2001/02(US$ m)

Trade balance -360

Services (net) -2,620Current transfers 5,724 Private transfers 4,255 Official transfers 1,469Current-account balance 2,744Capital account -1,050Memorandum itemCurrent-account balance excl official transfers 1,275


Despite the rise in the stockmarket, foreign portfolio investment suffered a netoutflow of US$10m in 2001/02 (after an outflow of US$140m in 2000/01). TheKarachi Stock Exchange (KSE) rose by 86.5% in 2001/02 and reached a 29-monthhigh of 2,019 points in September. Strong corporate earnings and positiveexpectations before the October 10th election drove a rally on the KSE. In Julyand August the net outflow stood at US$3m�a major improvement comparedwith the outflow of US$45m recorded in July and August 2001. However,anecdotal evidence suggests that foreign investors are shunning the Pakistanistockmarkets owing to security-related concerns.

Foreign portfolio investment(US$ m; July-Aug)

2001/02 2002/03US 1.6 3.3

Singapore 0.0 4.4Switzerland -0.3 2.8

UAE -0.6 2.1Saudi Arabia 0.0 -0.5

Hong Kong -1.0 -2.6UK -41.1 -10.0


Aid flows will remain strong

Portfolio investments continueto be withdrawn

Pakistan 29


Foreign-exchange reserves continued to climb in August and September owing tosustained growth in remittances from overseas workers. Reserves reached a recordhigh of US$8.19bn on September 28th, higher than the Ministry of Finance�s targetof US$8bn for June 2003. The finance minister, Shaukat Aziz, has said that reserveswill touch US$10bn by the end of 2002/03; the IMF had set a target of onlyUS$4bn. Before reserves started climbing in 2001, they often dipped below US$1bnand provided just a few weeks of import cover, placing the currency underfrequent pressure. The government plans to outsource the management of foreign-exchange reserves to an international fund-management group later in 2002/03.

Foreign-exchange reserves, 2002(US$ bn)

State Bank of Pakistan Other banks Total reservesMar 2nd 3.49 1.74 5.23Apr 2nd 3.51 1.78 5.29May 2nd 3.66 1.90 5.56

Jun 2nd 4.33 1.93 6.26Jul 6th 4.31 2.10 6.41

Aug 10th 5.03 2.16 7.19Sep 7th 5.40 2.19 7.59

Sep 28th 5.93 2.26 8.19


Foreign-exchange reserves arestill rising

Documents

Pakistan - iuj.ac.jp · Pakistan 1 Country Report November 2002 ' The Economist Intelligence Unit Limited 2002 Contents 3 Summary 4 Political structure 5 Economic structure 5 Annual