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Pakistan
Monetary Process
The State Bank of Pakistan was established in 1948 and remains
the country's central bank and financial adviser to the government.
It is the sole bank of issue, holder of gold and currency reserves,
banker to the government, lender of last resort to other banks,
supervisor of other banks, and overseer of national credit policy.
In October 1993, legislation reduced government control of the
bank, but without giving it complete autonomy.
From 1974, when all Pakistani banks were nationalized, until
1991, all local banks were in the state sector. In 1991, as part
of the government's general program of economic liberalization
and the privatization of state enterprises, two small banks--the
Muslim Commercial Bank and the Allied Bank--were privatized. In
1991 the government also instructed the State Bank of Pakistan
to approve proposals for new private commercial banks. In early
1994, there were twenty-four commercial banks, including ten private
banks that had opened since 1991, two privatized banks, and twelve
banks that remained in the state sector. One of the new private
banks, Mehran Bank, was closed down in early 1994 amidst allegations
of massive fraud. The number of new private banks was expected
to increase in 1994. In March 1993, the total assets of all Pakistani
banks amounted to Rs1,090 billion. Pakistani banks had 119 foreign
branches and operated joint banking ventures in Malaysia, Oman,
Saudi Arabia, and the United Arab Emirates.
Twenty-one foreign banks operated in Pakistan in 1994. They had
sixty-one branches, most of which were located in Karachi. United
States banks with branches in Pakistan included Citibank, Chase
Manhattan Bank, American Express Bank, and Bank of America.
In the 1970s and 1980s, the Bank of Credit and Commerce International
(BCCI) was an important foreign bank in Pakistan. The bank had
many close links with the Pakistani political and commercial elite.
It was founded in 1972 by Agha Hasan Abedi, a leading Pakistani
banker. Prime Minister Nawaz Sharif's family company, Ittefaq
Industries, was a major borrower. BCCI's international operations
were run from London, but there were three important branches
in Pakistan. Abedi resigned as president of BCCI in 1990, when
the ruling Al Nuhayyan family of Abu Dhabi obtained a majority
share in the company. BCCI collapsed in July 1991 when the Bank
of England closed BCCI's operations amid allegations of massive
losses, fraud, racketeering, and laundering of drug money. The
Pakistani branches continued to operate for some time after BCCI
had been closed elsewhere, and there were many allegations that
Pakistani businessmen and politicians had profited from the bank's
illegal activities. Abedi was later indicted in the United States
for fraud and racketeering. In 1992 Pakistani operations of BCCI
were amalgamated with Habib Bank.
In 1991 four Punjab-based financial cooperatives, together known
as the Pakistan Cooperative Societies, failed amidst allegations
of misappropriation of public funds. Estimates of money lost by
depositors ranged from Rs10 billion to Rs23 billion, with up to
2.6 million accounts affected. Two of the four cooperatives were
owned by relatives of then Prime Minister Nawaz Sharif, but an
official inquiry cleared him and his family of any wrongdoing.
From independence until the mid-1970s, the commercial banks were
poor providers of long-term capital because the interest rate
structure favored short-term over long-term financing and long-term
deposits over long-term loans. As a result, the government encouraged
the growth of nonbanking financial institutions to act as sources
of long-term credit and equity finance. These institutions continued
to play an important role in the early 1990s.
The Industrial Development Bank, established in 1961, provides
medium- and long-term credit primarily to smalland medium-sized
firms in the private sector, while the Pakistan Industrial Credit
and Investment Corporation provides long-term assistance in local
or foreign currency to private companies in the industrial sector,
arranging foreign loans for large projects. The National Development
Finance Corporation, founded in 1973, provides similar services
for the public sector and in the early 1990s also began to provide
financing for the private sector. The Agricultural Development
Bank gives credit to agriculture and to cottage industries, while
the House Building Finance Corporation provides interest-free
housing finance, taking a percentage of the property's rental
income. Other specialized financial institutions include the Investment
Corporation of Pakistan, the Small Business Finance Corporation,
the National Investment Trust, and Bankers Equity. All these organizations,
with the exception of the Pakistan Industrial Credit Corporation,
which is 35 percent foreign owned, are government owned, although
they often act as channels for foreign aid.
In the 1980s, three new financing corporations-- Pakistan-Libya
Holding, Pakistan-Kuwait Investment, and Saudi-Pak Industrial
and Agricultural Investment--were established. These three institutions
are jointly owned by the Pakistan government and the respective
foreign governments; most of their funding comes from the foreign
governments.
The adoption of Zia's policy of Islamization led to changes in
the practices of financial institutions because of the Islamic
prohibition against usury. In July 1979, the Investment Corporation
of Pakistan, the National Investment Trust, and the House Building
Finance Corporation opened interest-free accounts that operate
on a profit-and-loss-sharing basis. In 1981 the commercial banks
followed suit. Under this system, profits and losses on projects
financed with deposit sums are shared in an agreed-on proportion
between lender and borrower. In 1985 regulations prohibited new
interest-bearing loans and interest-bearing rupee deposits. These
regulations cover rupee deposits in foreign banks but not deposits
made in foreign currencies. In 1990 more than 63 percent of funds
on deposit were held in profit-and-loss-sharing schemes.
In addition to the profit-and-loss-sharing system, lending takes
two other forms: interest-free loans on which banks make service
charges at rates determined by the State Bank of Pakistan, and
approving finance for purchasing goods or real estate under which
the bank purchases the item and agrees to resell it to the client
at an increased price. All these modes of finance are subject
to criticism by some advocates of Islamization on the grounds
that they contain a provision for a guaranteed rate of return
that can be construed as the equivalent of interest.
In November 1991, the Federal Shariat Court declared all laws
pertaining to the payment or receipt of interest and markup contrary
to Islam. It also ruled against the indexation of financial assets
for inflation. The federal and provincial governments were ordered
to amend all relevant laws by June 30, 1992, but appeals by banks
and the central government rendered the deadline inoperative.
As of early 1994, no higher court decision had been announced
(see Politicized Islam , ch. 2).
The National Credit Consultative Council formulates annual credit
plans. The council includes members from government, financial
institutions, and the private sector. The credit plan sets a limit
on the expansion of the money supply, taking into account the
targets of the development plan and the government's fiscal objectives,
as well as prevailing rates of growth and projections for GDP.
In the late 1980s and early 1990s, money growth tended to run
well ahead of plan targets. (OTR; EIU 1992-93, 41)
Rapid expansion of the money supply, coupled with the impact
of the 1991 Persian Gulf War on domestic energy prices, pushed
up the consumer price index by 13 percent during FY 1991. Although
energy prices fell in FY 1992, heavy government borrowing from
the central bank kept inflation relatively high in FY 1992 and
FY 1993, at around 9 percent. Some independent observers, including
the World Bank, believed that the official inflation statistics
understated the real rate in FY 1993, which they put at about
13 percent.
The principal stock market is the Karachi Stock Exchange, although
there are also small stock markets in Lahore and Islamabad. The
stock market expanded greatly during the 1980s. In 1991 there
were almost 550 companies listed, with a market capitalization
of US$4.3 billion. The turnover ratio was 12.6 percent, which
represented a traded value of US$542 million. In 1991, as part
of the government's deregulation policies, restrictions on foreign
investment in shares of listed Pakistani companies were lifted,
as were constraints on the repatriation of investment proceeds,
gains, and dividends. Initially, most foreign investment was carried
out by portfolio managers and institutional investors based in
Hong Kong and Singapore.
Data as of April 1994
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