FINANCING
THE REAL ECONOMY
P A K I S T A N
DEVELOPMENT UPDATE
April 2022
PAKISTAN DEVELOPMENT UPDATE
Financing the Real Economy
April 2022
Preface
The World Bank Pakistan Development Update (PDU) provides an update on the Pakistani economy, its economic
outlook, together with the development challenges it faces and the structural reforms that should be considered.
This edition of the Pakistan Development Update (PDU) was prepared by the Macroeconomics, Trade, and
Investment Global Practice under the guidance of Najy Benhassine (Country Director, SACPK), Zoubida Allaoua
(Regional Director, ESADR), Shabih Ali Mohib (Practice Manager and Lead Country Economist, ESAMU) and
Gabi George Afram (Practice Manager, ESAF1). The core PDU team was led by Zehra Aslam (Task Team Leader
and Economist, ESAMU) and Namoos Zaheer (Co-Task Team Leader and Senior Financial Sector Specialist,
ESAF1), and includes Miquel Dijkman (Lead Financial Sector Specialist, ESAF1), Derek H. C. Chen (Senior
Economist, ESAMU), Gonzalo J. Varela, (Senior Economist, ESAMU), Adnan Ashraf Ghumman (Senior
Economist, ESAMU), Sayed Murtaza Muzaffari (Economist, ESAMU), Aroub Farooq (Research Analyst, ESAMU),
Franz Ulrich Ruch (Economist, EPGDR), Rafay Khan (Economist, ESAF1), Fahad Hasan (Financial Sector
Specialist, ESAF1), Noor Yasin (Extended Term Consultant, ESAF1) Arsianti (Consultant, ESAMU), and Ali
Shahid (Team Assistant, SACPK).
Sections 1 and 2 of the report were contributed by Zehra Aslam, Aroub Farooq, Sayed Murtaza Muzaffari, Franz
Ulrich Ruch, Fahad Hasan. Namoos Zaheer, Rafay Khan, Fahad Hasan, Noor Yasin contributed Section 3. The
report benefitted from comments provided by Mustapha K. Nabli. The report was edited by Janani Kandhadai.
The findings, interpretations, and conclusions expressed in this report do not necessarily reflect the views of the
Executive Directors of the World Bank or the governments they represent. The World Bank does not guarantee
the accuracy of the data included in this work. The data cut-off date for this report was March 31, 2022. The
boundaries, colors, denominations, and other information shown on any map in this work do not imply any
judgment on the part of the World Bank concerning the legal status of any territory or the endorsement or
acceptance of such boundaries.
The photograph for the front cover is by Abdullah Hussain/https://www.pexels.com/@abdullahbaloch.
To receive the PDU and related publications by email, please email ashahid2@worldbanko.org. For questions and
comments, please email [email protected], [email protected] and nzahee[email protected].
Table of Contents
PREFACE ............................................................................................................................... IV
LIST OF FIGURES, TABLES AND BOXES ........................................................................ VI
LISTS OF ABBREVIATIONS AND ACRONYMS ............................................................ VII
1. EXECUTIVE SUMMARY – FINANCING THE REAL ECONOMY .............................. 1
2. RECENT ECONOMIC DEVELOPMENTS ...................................................................... 3
a. Context .......................................................................................................................................... 3
b. Real Sector .................................................................................................................................... 3
Growth .......................................................................................................................................... 3
Inflation ........................................................................................................................................ 4
Poverty and Equity ....................................................................................................................... 5
c. Monetary and financial sector ....................................................................................................... 6
Monetary ....................................................................................................................................... 6
Financial Sector ............................................................................................................................ 7
d. External sector .............................................................................................................................. 7
e. Fiscal and Debt Sustainability ...................................................................................................... 9
f. Medium-Term Outlook ............................................................................................................... 12
g. Risks and Priorities ..................................................................................................................... 13
3. SPECIAL FOCUS – FINANCING THE REAL ECONOMY ................................... 15
a. Importance of Finance and the Financial Sector ........................................................................ 15
b. Structure of Pakistan’s Financial Sector ..................................................................................... 16
c. The Untapped Potential of the Financial Sector ......................................................................... 18
d. Structural Impediments to the Financial Sector’s Potential ....................................................... 22
e. Enhancing the Flow of Financing to the Real Economy............................................................ 27
REFERENCES ..................................................................................................................... 30
STATISTICAL ANNEX ....................................................................................................... 33
List of Figures, Tables and Boxes
FIGURES
Figure 2.1: Contribution to headline inflation in urban areas ........................................................... 5
Figure 2.2: Contribution to headline inflation in rural areas ............................................................ 5
Figure 2.3: H1 Current Account Balances (Jul–Dec) ........................................................................ 8
Figure 2.4: H1 Financial Account Inflows (Jul–Dec)........................................................................ 8
Figure 2.5: Import of goods and services (Jul–Dec) ......................................................................... 8
Figure 2.6: Export of goods and services (Jul–Dec) ......................................................................... 8
Figure 2.7: Consolidated Fiscal and Primary Balance (excluding grants) in H1 ........................... 10
Figure 2.8: Budgetary Financing: Net External and Domestic Inflows in H1 ............................... 10
Figure 2.9: Consumer price inflation .............................................................................................. 14
Figure 2.10: Sovereign spread.......................................................................................................... 14
Figure 3.1: Private investment, selected years................................................................................. 15
Figure 3.2: Distribution of financial sector assets, December 2020 ................................................ 16
Figure 3.3: Distribution of non-bank financial institutions assets, November 2020 ...................... 16
Figure 3.4: Deposit Money Banks’ Assets ...................................................................................... 18
Figure 3.5: Credit to Private Sector ................................................................................................. 18
Figure 3.6: Advances to Deposits ratios .......................................................................................... 18
Figure 3.7: Advances by sector, FY21 .............................................................................................. 19
Figure 3.8: SME finance .................................................................................................................. 20
Figure 3.9: Sectoral financing as a share of private sector financing .............................................. 20
Figure 3.10: Type of financing ........................................................................................................ 20
Figure 3.11: Evolution of the deposit structure ............................................................................... 20
Figure 3.12: Market capitalization ................................................................................................... 21
Figure 3.13: MFPs as a share of borrowers and financing portfolio ............................................... 22
Figure 3.14: Government Borrowing from Banks, FY11–21 ............................................................ 23
Figure 3.15: Credit to Government and state-owned enterprises, 2019 ........................................... 23
Figure 3.16: Gross Savings .............................................................................................................. 24
Figure 3.17: Account ownership at a financial institution or with a mobile-money-service provider
.................................................................................................................................................... 24
TABLES
Table 1: Projections of Key Economic Indicators............................................................................. 2
Table 2.1: Pakistan Macroeconomic Outlook (FY22-24) ................................................................ 13
Annex Table 1: Key Macroeconomic indicators (annual) ............................................................... 33
A
nnex Table 2: Balance of payments summary
1
............................................................................. 33
Annex Table 3: Summary of Pakistan’s Fiscal Operations ............................................................. 34
BOXES
Box 2.1: Strengthening the Autonomy of the SBP – State Bank of Pakistan Amendment Act 2021 . 6
Box 2.2: Finance (Supplementary) Act 2022 .................................................................................... 11
Box 2.3: Moderating global growth in a higher inflation, tighter financial conditions, and uncertain
environment ............................................................................................................................... 14
Box 3.1: SBP’s Banking on Equality Policy: Reducing the Gender Gap in Financial Inclusion ... 25
Lists of Abbreviations and Acronyms
ADR Average Advances to Deposit ratio
BISP Benazir Income Support
Programme
BPM6 Balance of Payments Manual 6
CAD Current Account Deficit
CAR Capital Adequacy Ratio
CDNS Central Directorate for National
Savings
CPI Consumer Price Index
CRR Cash Reserve Requirement
DFI Development Finance Institution
DSSI Debt Service Suspension Initiative
e-CIB Electronic Credit Information
Bureau
EFF Extended Fund Facility
EFS Export Financing Scheme
EMBI Emerging Market Bond Index
EMDE Emerging Market and
Development economy
EU European Union
FBR Federal Board of Revenue
FDI Foreign Direct Investment
FIFRDLA Fiscal Responsibility and Debt
Limitation Act
FY Fiscal Year
GDP Gross Domestic Product
GCC Gulf Cooperation Council
GFP Gross Loan Portfolio
GST goods and services tax
IFC International Finance Corporation
IFS International Financial Securities
IMF-EFF International Monetary Fund-
Extended Fund Facility
IPP Independent Power Producers
JFE Journal of Financial Economics
LSM Large Scale Manufacturing
LTFF Long-Term Financing Facility
MFB Microfinance banks
MFP Micro Finance Provider
MOC Ministry of Commerce
MOF Ministry of Finance
MPC Monetary Policy Committee
MSE Medium and small enterprises
MSME Micro, Small and Medium
Enterprises
NBFI Non-Bank Finance Institution
NCOC National Command and Operation
Center
NFLP National Financial Literacy
Program
NPL(s) Non-Performing Loan(s)
OECD Organization for Economic Co-
operation and Development
PBS Pakistan Bureau of Statistics
PCRCL Pakistan Credit Restructuring
Company
PD Primary Dealers
PDU Pakistan Development Update
PDL Petroleum development levy
PE Public Equity
PFI Public Financial Institute
PKR Pakistani Rupee
PPP Purchasing power parity
PSCB Public Sector Commercial Bank
PSX Pakistan Stock Exchange
REITS Real Estate Investment Trusts
REER Real Effective Exchange Rate
SBP State Bank of Pakistan
SCRR Special Cash Reserve Requirement
SECP Securities Exchange Commission
SME Small and Medium Enterprise
SOE State Owned Enterprises
STR Secured Transactions Registry
TERF Temporary Economic Refinance
Facility
UNCTAD United Nations Conference on
Trade and Development
VC Venture Capital
WDI World Development Index
WBG World Bank Group
y-o-y Year-on-year
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
1
1. Executive Summary – Financing the Real Economy
remained strong
1
Economic momentum continued over July–December 2021 (H1 FY22) as indicators
mostly signaled positive trends.
With sustained
improvement in community mobility and
still
-robust official remittance inflows, private consumption is estimated to
have
increased
. Similarly, public and private investment is expected to have grown
with the
strong growth of machinery imports and government development expenditure.
Government consumption
is also estimated to have grown
due to vaccine procurement.
On the production side, agricultural output, mainly rice and sugarcane increased,
reflecting better weather conditions.
Large-scale manufacturing (LSM)
growth rose to 7.5
percent y
-o-y in H1 FY22, higher than the 1.5 percent for H1 FY21. However, with higher
inflation
, increasing borrowing costs and political uncertainty,
business and consumer
confidence have been trending lower after reaching a pandemic high in June 2021.
Average headline
inflation increased
largely due to higher
energy prices
Headline inflation rose to an average of 9.8 percent y-o-y in H1 FY22 from 8.6 percent
in H1 FY21, driven by surging global commodity and energy prices and a weaker
exchange rate. Similarly, core inflation has been increasing since September 2021.
Accordingly, the State Bank of Pakistan (SBP) has been unwinding its expansionary
monetary stance since September 2021, rai
sing the policy rate by a cumulative 525
basis
points (bps) and banks’ cash reserve requirement by 100 bps.
widened
, heightening
reinforcing
pressures
The current account deficit (CAD) in H1 FY22 widened to US$9.0 billion, from a surplus
of US$1.2 billion in H1 FY21, as imports values surged by 54.4 percent, doubling the 27.3
percent growth in exports values.
The record-high trade deficit was partially financed by
remittances
that registered double-digit growth in H1 FY22
. The financial account
recorded net inflows of US$10.1 billion, supported by the new IMF SDR allocation,
short
-term government deposits from Saudi Arabia, and a
Eurobond issuance in July
2021.
In January-February 2022, the Government obtained US$2.1 billion from an
International Sukuk
issuance and the IMF Extended Fund Facility (EFF).
Despite these
inflows, foreign exchange reserves
fell to US$12.9 billion at end-March 2022,
the lowest
since June 2020, and
equivalent to 1.9 months of imports of goods and services.
1
Meanwhile, the Rupee depreciated
by 14.3 percent against the U.S. dollar
from July 2021
to end-March 2022, reaching multiple record lows over the period.
due to
Despite high tax revenue growth on the back of surging imports, the fiscal deficit widened
by 20.6 percent in H1 FY22 due to higher spending on vaccine procurement, settlement
of power sector arrears, and development projects. Public and publicly guaranteed debt
stood at PKR45.3 trillion at end
-December 2021,
an increase of PKR3.1 trillion since
end
-June 2021. As part of reforms to increase domestic revenues, the Government
also
approved a Supplementary Finance Bill in January 2022, withdr
awing two-thirds of
tax
exemptions on the General Sales Tax (GST).
in FY22–
On the back of high base effects, recent monetary tightening and stronger inflation, real
GDP growth is expected to
moderate
to 4.3 and 4.0 percent in FY22 and FY23,
respectively
before recovering to 4.2 percent in FY24 (Table 1). T
his recovery is
predicated on
continued macroeconomic stability and
a narrowing of the fiscal and
external deficits in the medium
-term. Inflation is estimated to rise to an average of
10.7
1
However, part of the decline in reserves is expected to be reversed in the coming weeks as official creditors rollover their loans.
With the economic recovery and improved labor market conditions, poverty measured at
the lower middle
-
income class poverty line of $3.20 PPP 2011 per day is estimated to
have declined
from 37.0 percent in FY20 to 34.0 percent in FY21. Rising food and energy
inflation is expected to diminish the real purchasing power of households,
disproportionally affecting poor and vulnerable households that spend a larger share of
their budget on th
ese items.
In response, the Government introduced a targeted food
subsidies program and announced a universal fuel price cut in February 2022.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
2
percent in FY22, reflecting higher oil and commodity prices, but is then expected
to decrease over the forecast horizon.
Table 1: Projections of Key Economic Indicators
FY19
FY20
FY21
FY22e
FY23f
FY24f
Real GDP growth, at constant factor prices
3.1
-1.0
5.6
4.3
4.0
4.2
Current Account Balance (% of GDP)
-4.2
-1.5
-0.6
-4.4
-3.1
-3.0
Fiscal Balance (% of GDP), excluding grants
-7.9
-7.1
-6.1
-6.3
-6.1
-5.3
Public Debt, including govt. guaranteed debt (% of GDP)
78.0
81.1
76.0
76.0
74.4
72.5
Sources: Pakistan Bureau of Statistics, State Bank of Pakistan, World Bank staff estimates.
Note: This macroeconomic outlook uses the re-based national accounts data at 2015-16 prices. It was prepared by World Bank staff and
differs from that of the Government.
The CAD is
expected to
increase
in FY22 before
narrowing over
FY23
–24
Due to faster import than export growth in H1 FY22, the CAD is expected to increase
to
4.4 percent of GDP in FY22. Moderating demand pressures due to m
onetary
tightening
, lower global commodity prices and the weaker currency are
expected to
dampen
imports in FY23.
With the implementation of reforms to reduce import tariffs
on relevant intermediates for the export sector and increased allocations for export
refinance schemes
, the CAD is expected to further
narrow to 3.0 percent of GDP in
FY24.
The fiscal deficit is
projected to widen in
FY22
The fiscal deficit (excluding grants) is projected to widen slightly to 6.3 percent of GDP
in FY22,
on the back of higher spending on COVID-
19 vaccine procurement, settlement
of energy sector arrears, development spending, and the recently announced food and
energy subsidies
. It is projected to
gradually narrow over the medium term as revenue
mobilization measures take hold, particularly
GST harmonization
and Personal Income
Tax (PIT) reform
.
Public debt as a share of GDP is projected to remain high, but gradually
decline over the medium term.
Ho
wever, in the absence of the implementation of these
critical reforms, fiscal sustainability risks can increase. The macroeconomic outlook is
predicated on the IMF-EFF program remaining on track.
Multiple external
and domestic factors
pose downside risks
to the outlook
Macroeconomic risks are strongly tilted to the downside. They include faster-than-
expected
tightening of global financing conditions, potential
further increases in world
energy prices, and
the possible risk of a return of stringent COVID-19-
related mobility
restrictions.
Moreover, domestic political uncertainty and policy reform
slippages can lead
to protracted macroeconomic imbalances.
Macroeconomic
adjustment measures
are urgently needed
to address external
imbalances
Strong aggregate demand pressures, in part due to accommodative fiscal and monetary
policies, paired with the continued anti
-export bias of the national trade tariff structure
,
have
contributed to a record-high trade deficit, weighing on the Ru
pee and the country’s
limited external buffers.
Given the severity of the
imbalances, macroeconomic adjustment
measures, specifically fiscal consolidation
to complement the ongoing monetary
tightening, are urgently needed.
A well-functioning financial sector that allocates capital to its most productive uses and
shifts risks to those who can best bear them,
is central
to unlocking private investment
and Pakistan’s
growth potential. However, the country’s
financial sector remains
underdeveloped. Credit to the private sector
is low compared to peers and has trended
down
ward since 2005. It is also concentrated in the corporate segment with most of the
financing being extended for working capital and trade,
rather than growth-
enhancing
fixed investments.
pediments
The underperformance of the financial sector is driven by structural impediments in not
only the supply but also in the demand for finance. Extensive government borrowing
from the financial sector has been the single
largest constraint
to the enhanced flow of
financing to the private sector
. Other important factors include low domestic saving
,
growing but still
limited financial inclusion, a
nd market failures in the form of inadequate
financial infrastructure.
Resolving these constraints in the medium- to long-
term requires
concerted efforts by the government, regulators, and other stakeholders. In addition, five
growth areas offer significant potential to unlock greater financing flows toward the real
economy in the short
- to medium-
term. These are: a) digital finance; b) risk capital; c)
microfinance; d) development finance; and e) capital markets.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
3
2. Recent Economic Developments
a. Context
long-
s to
The Government undertook timely policy measures to mitigate the adverse
socioeconomic impacts of the COVID
-19 pandemic. The State Bank of Pakistan (SBP)
lowered the policy rate
and
announced supportive measures for the financial sector to
help businesses
and the Government expanded the national cash
transfer program on an
emergency basis
.
2
These measures contributed to economi
c growth rebounding to 5.6
percent
in FY21.
3
However, long-
standing structural weaknesses of the economy,
particularly consumption
-
led growth, low private investment rates, and weak exports have
constrained productivity growth
and pose risks to a sustaine
d recovery. Aggregate
demand pressures have built up, in part due to
previously
accommodative fiscal and
monetary policies, contributing to double
-
digit inflation and a sharp rise in the import bill
with record
-high trade deficits in H1 FY22 (Jul–Dec 2021)
. These have diminished the
real purchasing power of households and weighed on the exchange rate and the country’s
limited external buffers.
b. Real Sector
Growth
, but
During H1 FY22, y-o-y growth in car production and sales, petroleum sales, and foreign
remittance inflows indicate continued momentum in economic activity and private
consumption.
Similarly, investment is also expected to have increased with a
strong
growth
in machinery imports and government development expenditure. G
overnment
consumption is also expected to have expanded given the 16.0 percent increase in
consolidated current expenditure in H1 FY22. Activity in the external sector was also
vibrant, with import and export values growing by 54.4 percent and 27.3 percent,
respectively. While the flow of bank loans to private businesses grew in this period, it was
led by an increase in working capital or
short-
term financing, particularly as businesses
faced higher input costs
, as opposed to long-
term or fixed investment financing. The
business confidence survey index also declined from
a pandemic high of 64.0
in June
2021 to 53
.4 in December 2021, indicat
ing lower optimism in the business sector
regarding the economic outlook.
4
In agriculture, estimates suggest that rice, sugarcane, and maize production will be higher
this year, reflecting better weather conditions.
5
With regards to agriculture inputs
,
agriculture credit disbursement gr
ew 3.9 percent, and farm tractor sales increased
by 21.2
percent
in H1 FY22.
6
Similarly, 97.7 percent of the sowing target for wheat has been met.
7
However, fertilizer and urea off
-take declined y-o-y over Oct-
Dec 2021, which is likely to
negatively impact wheat production.
Cotton production, though likely
higher than last
year, is also expected to be substantially lower than the government estimate of 10.5
million bales.
8
The LSM index, a key indicator for industrial activity, increased by 7.5 percent y-o-y
during H1 FY22 compared to a muted growth of 1.5 percent in H1 FY21
.
Growth was
broad
-based with 16 out of the 22 sectors recording higher production
. Only
pharmaceuticals, rubber products, electronics, fabricated metal, computers, electronics,
2
Through the Ehsaas Emergency Cash program, the Government delivered PKR179.2 billion as emergency cash assistance to 14.8 million
beneficiaries who were at risk of falling into extreme poverty. Ehsaas Dashboard, Government of Pakistan.
https://www.pass.gov.pk/ecs/uct_all.html
.
3
GDP at constant 2015-16 factor prices. The Government updated national accounts data in January 2022, changing the base year from
2005-06 to 2015-16. As part of this rebasing exercise, the coverage of economic activities included in GDP estimates was improved through
new and updated surveys. The re-basing of GDP led to a revision in real GDP growth rates since FY17.
4
A score above 50 indicates optimism. State Bank of Pakistan.
5
Monthly Economic Update & Outlook: October 2021. Ministry of Finance.
6
Ibid.
7
Monthly Economic Update & Outlook: January 2022. Ministry of Finance.
8
Monetary Policy Statement: March 08, 2022. State Bank of Pakistan.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
4
and optical products, and other transport equipment sectors witnessed a contraction.
Domestic cement d
i
spatches, an important indicator of construction sector activity,
increased by 2.0
percent during H1 FY22.
9
Financing for construction activities
also
picked up by 75.3 percent in H1 FY22.
10
, services
Services sector activity was the most impacted by intermittent disruptions due to COVID
-
19 related mobility restrictions. From early-August to end-September 2021, the
Government
placed restrictions on indoor gatherings and restaurants,
limited market
timings
, and constrained public transport, schools,
and workplaces to operate at only 50
percent occupancy.
11
Similar restrictions were re-imposed for various durations over mid-
January
to mid-March 2022, when infection rates surged with the Omicron wave.
12
However, despite these restrictions, Google mobility trends indicate that activity in retail
and recreation, parks, grocery and pharmacy, and transport
-
related services remained
strong in H1 FY22
with t
he average improving from 0.9 percent in H1 FY21 to 35.1
percent in H1 FY22.
13
Inflation
Average headline inflation during H1 FY22 reached 9.8 percent y-o-y compared to 8.6
percent
in H1 FY21 due to surging global commodity and energy
prices and a weaker
Rupee
. Most product categories saw higher y-o-y average inflation in H1 FY22
, and only
three categories recorded
lower inflation: (1) food and non-
alcoholic beverages; (2)
alcoholic beverages and tobacco;
and (3) miscellaneous goods and services. The broad-
based increase in inflationary pressures
also reflects the
buildup in domestic demand
pressures
during this period.
Headline inflation in Pakistan was the highest in South Asia,
where the regional average was 6.0 percent during H1 FY22.
14
Energy inflation reached 25.1 percent y-o-y in urban areas and 22.6 percent in rural areas
in
H1 FY22 compared to -
3.2 percent in urban areas and 1.4 percent in rural areas during
the same period last year
.
15
The
increase in global oil prices and depreciation of the Rupee
led to more expensive energy imports
. This led to domestic petrol prices rising by
25.0
percent
in H1 FY22, while kerosene and high-speed diesel prices
rose by 27.7 and 20.7
percent, respectively
.
16,17
Meanwhile, the Government also raised electricity tariffs
in
October and November as part of its energy sector reforms (Figure 2.1 and Figure 2.2).
18
remain
Average food inflation fell from 13.0 percent in urban areas and 15.7 percent in rural areas
during H1 FY21 to 10.6 percent in urban areas and 8.4 percent in rural areas in H1
FY22.
19
Higher domestic production of wheat, maize, rice, and sugarcane in FY21
contributed to lower
food price pressures in H1 FY22.
20
However, as Pakistan is a
net
importer
of edible oil, wheat, sugar, and pulses,
21
the
higher global food prices together
with the weaker exchange rate have added to domestic food inflationary pressures.
9
Monthly Economic Update & Outlook: January 2022. Ministry of Finance.
10
Loans classified by borrowers (by type of finance). State bank of Pakistan.
11
In August, educational institutes were allowed to remain open but for only three days a week and at 50 percent attendance. See: NCOC
expands stricter Covid restrictions to 27 cities citing pressure on healthcare system. Dawn. August 29, 2021.
12
See: 1) NCOC imposes fresh curbs on schools, other sectors in cities with over 10% positivity. The News. January 19, 2022; and 2)
Which Pakistani cities has NCOC lifted COVID-19 restrictions in? Geo News. February 22, 2022; 3) Govt lifts all Covid-related
restrictions as pandemic wanes. Dawn. March 16, 2022
13
Source: Our World in Data. Notes: the Google mobility data represents percentage change in number of visitors to categorized places,
relative to pre-Covid-19 baseline (median value for the five-week period between January 03, 2022, to February 06, 2022). It is based on a
rolling 7-day average.
14
World Bank staff calculations based on data from the CEIC, and the Afghanistan and Bhutan National Statistics Bureau.
15
Energy inflation consists of electricity charges, gas prices, liquified hydrocarbons, solid fuel, and motor fuel.
16
The Pakistani Rupee depreciated by 10.9 percent against the U.S. dollar in H1 FY22, as calculated using end-period exchange rates for
June 2021 and December 2021. Source: International Monetary Fund, International Financial Statistics.
17
Source: World Bank calculations using data from Ministry of Finance, press releases.
18
International Monetary Fund. 2021 Article IV Consultation, Sixth Review under the Extended Arrangement under the Extended Fund
Facility. Staff report. February 2022.
19
Food inflation consists of two product categories: 1) food and non-alcoholic beverages, and 2) alcoholic beverages and tobacco, and the
ready-made food products from the restaurants and hotels category in the CPI.
20
See Footnote 5.
21
Ministry of Finance. Press Release no 616. September 29, 2021.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
5
-
2022
Urban core inflation (non-food non-energy) rose to an average of 7.0 percent y-o-y in H1
FY22 from 5.5 percent during H1 FY21. Although rural core inflation fell to an average
of 7.2 percent in H1 FY22 from 7.7 percent in H1 FY21, it has been on an upward trend
since October 2021. Price increases were recorded across a range of goods and services
including garments, footwear, construction inputs, transport, education, and health
services. The increase in core inflation partly reflected the depreciation of the Rupee, and
higher domestic demand pressures.
More recently, headline inflation stood at 12.7 percent in March, after reaching 13.0
percent in January 2022 – the highest in two years. Energy inflation eased on a y-o-y basis
while food inflation climbed in Jan-Mar 2022. However, in March, rural core
inflation reached 10.3 percent whereas urban core inflation was 8.9 percent – the
highest in recent years and indicative of broad-based inflationary pressures.
Figure 2.1: Contribution to headline inflation in urban
areas
(Percentage points)
Figure 2.2: Contribution to headline inflation in rural
areas
(Percentage points)
Source: Pakistan Bureau of Statistics and World Bank staff
calculations
Source: Pakistan Bureau of Statistics and World Bank staff
calculations
Poverty and Equity
estimated
Supported by higher growth and the recovery in the manufacturing and services sectors,
the poverty headcount, measured at the lower
-middle-income class line of US
$3.20 PPP
2011 per day, is
estimated
to have declined from 37.0 percent in FY20 to 34.0 percent in
FY21.
Rising inflation has disproportionally affected poor and vulnerable households that spend
a relatively larger share of their budget on food and energy.
More specifically
, the poor
spend around 50 percent of their total consumption on food items, whereas this share is
only 43 percent among the non
-poor. In response, the Government inaugurated
a
targeted commodity subsidy program, Ehsaas Rashan Riayat, in February 2022 to
compensate eligible households for higher prices.
22
22
Under this initiative, 20 million eligible families identified through the Ehsaas Socioeconomic Registry Survey will receive PKR1,000 per
month to purchase flour, pulses, and cooking oil at a 30 percent subsidized rate. Poverty Alleviation and Social Safety Division.
Government of Pakistan. November 3, 2021.
-2
0
2
4
6
8
10
12
14
Food Energy Core inflation Headline inflation
-2
0
2
4
6
8
10
12
14
Food Energy Core inflation Headline inflation
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
6
c. Monetary and financial sector
Monetary
In response to
rising domestic
demand
pressures, the
SBP
raised the
policy rate
and
took measures to
normalize
monetary
conditions
To manage increasing domestic demand pressures, the SBP has been unwinding its
accommodative monetary policy stance
– raising the policy rate by a cumulative 275
basis
points
between September and December 2021 to 9.75 percent.
23
However, w
ith headline
inflation
averaging 9.8 percent in H1 FY22, real interest rates has remained negative.
In a move
aimed at normalizing monetary conditions, the SBP also raised
banks’ cash reserve
requirement
by 100 bps
in November 2021.
24
Moreover, to enhance
the predictability of monetary policy
conditions and to reduce uncertainty, the SBP increased the number of Monetary Policy
Committee (MPC) meetings from six to eight a year in November 2021.
25
In January 2022, the
National Assembly approved the State Bank of Pakistan Amendment Act 2021, which
prohibits Government borrowing from the central bank, strengthens the functional and
administrative autonomy of the SBP, and sets price stability as its primary objective (
Box 2.1).
Moreover, w
ith higher-than-expected inflation in March, growing
pressures on the Rupee and
tighter global conditions, the SBP
further
raised the policy rate by another 250 basis points in
April 2022 to 12.25 percent.
26
Box 2.1: Strengthening the Autonomy of the SBP – State Bank of Pakistan Amendment Act 2021
The role of the State Bank of Pakistan (SBP) is defined in the State Bank of Pakistan Act 1956. Further, the Act has been
amended several times over the years to bring its operational and administrative function in line with international best
practices and to allow it to deal with evolving economic conditions more effectively. Most recently in January 2022, the
Parliament approved the SBP Amendment Act 2021, which strengthens the SBP’s functional and administrative autonomy,
defines its objectives clearly, and improves transparency in SBP’s operations. The key changes introduced in this Act are as
follows:
(i) Objectives: The primary objective of the SBP shall be to achieve and maintain domestic price stability,
followed by financial stability and support for the general economic policies of the Government for fostering
development and fuller utilization of Pakistan’s productive resources (Preamble, Section 4B). Here price stability
is defined as the maintenance of low and stable inflation guided by the government’s medium-term inflation target.
As per the previous preamble, the SBP’s mandate was to secure monetary stability and fuller utilization of the
country’s productive resources whereas Section 4 is a new addition to the SBP Act.
(ii) Prohibition on Government borrowing: The SBP shall not extend any direct credits to or guarantee any
obligations of the Government, or any government-owned entity or any other public entity, barring government
or publicly owned bank and other regulated entities (Section 9C). In practice, since July 2019, the Government has
not borrowed directly from the SBP.
(iii) Discontinuation of quasi-fiscal operations: The SBP shall not undertake any quasi-
fiscal operations
(Section 20, clause 5A), defined as monetary actions taken on behalf of the government. However, it can continue
to extend refinance facilities to financial institutions with appropriate checks and balances and as the lender of last
resort, provide temporary liquidity facilities to banks against appropriate collateral (Section 18, Clause 1A and
Section 20, clause 17G).
(iv) Financial resources: To facilitate smooth functioning and the achievement of its objectives, the SBP’s authorized
and paid-up capital has been increased from a total of PKR100 million to PKR500 billion (authorized capital) and
PKR100 billion (paid-up capital) (Section 4).
(v) Coordination between the SBP and the Government: The Monetary and Fiscal Policies Coordination Board
has been abolished as its terms of reference overlap with the MPC’s mandate. Instead, the Finance Minister and
SBP Governor will establish a close liaison and keep each other informed of matters that jointly concern the
Ministry of Finance and the SBP (Section 9G).
(vi) Protection of SBP officials: In line with international best practices, the amendments provide protection to SBP
employees and officers from any legal proceeding for actions taken in good faith (Section 52A).
(vii) Executive committee, consisting of the Governor and the Deputy Governors, Executive Directors and other
officers will be responsible for formulating policies related to the SBP’s core functions as well as those related to
23
The SBP had maintained the policy rate at 7.0 since June 2020 to mitigate the pandemic-associated economic downturn.
24
Average CRR to be maintained by scheduled banks for a period of two weeks, was increased from 5 percent to 6 percent and the
minimum CRR to be maintained each day was raised from 3 percent to 4 percent. State Bank of Pakistan, Press Release November 13,
2021.
25
State Bank of Pakistan. Press Release, November 19, 2021.
26
State Bank of Pakistan. Monetary Policy Statement, April 07, 2022.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
7
administration and management matters, excluding those matters falling in the purview of the MPC or the Board
of Directors (Section 9F).
(viii) Accountability to Parliament: The Governor shall submit an annual report before the Parliament regarding the
achievement of the SBP’s objectives, conduct of monetary policy, state of the economy, and financial system
(Section 39).
Other amendments approved pertain to conflict of interest, the appointment of a Chief Internal Auditor and establishment
of an Audit Committee; the appointment of external auditors; and the appointment, terms of office and removal of non-
executive directors of the board, external members of the MPC, and the Governor and Deputy Governors of the SBP.
Source: (a) State Bank of Pakistan Act, 1956 (https://www.sbp.org.pk/about/act/SBP-Act.pdf), (b) Ministry of Finance, Brief on SBP
Amendment Act 2021 (https://www.finance.gov.pk/SBP_Act_2021.pdf and http://www.finance.gov.pk/SBP_Amendment_Act_2021.pdf).
Financial Sector
Financial sector
buffers remain strong
but emerging risks
may
accentuate
vulnerabilities
The banking sector, which accounts for 74.1 percent of the overall financial sector assets,
has remained profitable throughout the
pandemic, and displayed strong sol
vency, with a
capital adequacy ratio (CAR) of 16.7 percent in December 2021
— above
the SBP’s
minimum requirement of 11.5 percent. However, it should be noted that the CAR is at its
lowest since June 2019, which may be attributed to the strong private sector credit growth
witnessed since the start of the pandemic. Unlike lending to the Government, increases in
the private sector lending portfolio may increase the total amount of risk
-
weighted assets,
thereby lowering the CAR.
Additionally, increasing exposure to the sovereign
in a
deteriorating macroeconomic environment means that the health of the banking sector is
deeply intertwined with the Government’s fiscal strength.
-provisioned
Banking sector asset quality has improved with gross non-performing loans (NPLs) down
from 8.9 percent at end
-June 2021 to 7.9 percent in December 2021.
Along with lower
NPLs, the bank NPL provision coverage ratio has risen to 91.2 percent
—
the highest in
r
ecent history, warding off any immediate stability concerns.
The gains realized in recent
months, however, may
unwind with the increase in the
key policy rate and its associated
cascading impact on floating rate loans.
contributed
expansion in
Outstanding loans to private sector businesses grew by 15.4 percent in H1 FY22, up from
a growth of 4.5 percent in the same period last year. Credit to the corporate sector
in
creased by 16.7 percent,
whereas that to the SME sector grew 18.3 percent.
Disbursements under the
SBP’s Temporary Economic Refinance Facility
(TERF) and
Long-Term Finance Facility (LTTF) grew 32.7 percent during the same period.
to
to the
Credit to the public sector was 66.8 percent of all bank credit extended at end-December
2021.
27
Although this appetite for government paper does not pose an
immediate credit
risk to the system, if the sovereign starts to face stress, the
n
credit risks can escalate very
rapidly. At present, the greatest risk of this dependency on lending to the sovereign
remains the continu
ed crowding out of the private sector.
For a more detailed discussion
of the issues faced by the financial sector and opportunities for growth, see Chapter 4.
d. External sector
The current account registered a deficit of US$9.0 billion in H1 FY22, the largest since
H2 FY18, from a surplus of US$1.2 billion in H1 FY21 (
Figure 2.3
). The expansion of
the CAD was led by a record
-high trade deficit due to the
elevated import bill.
Remittances registered a robust growth of 11.3 percent y
-o-
y in H1 FY22, partially
financing the trade deficit.
27
Includes direct lending to government, lending to state-owned enterprises (SOEs), and investments in government securities
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
8
Figure 2.3: H1 Current Account Balances (Jul–Dec)
(US$ billion)
Figure 2.4: H1 Financial Account Inflows (Jul–Dec)
(US$ billion)
Source: State Bank of Pakistan, World Bank staff calculations
Source: State Bank of Pakistan, World Bank staff calculations
Note: A positive financial account balance represents inflows
Figure 2.5: Import of goods and services (Jul–Dec)
(US$ million)
Figure 2.6: Export of goods and services (Jul–Dec)
(US$ million)
Source: State Bank of Pakistan, World Bank staff calculations
Source: State Bank of Pakistan, World Bank staff calculations
…as goods and
services imports
surged, amid higher
domestic demand
and global prices
The overall trade deficit increased from US$12.3 billion in H1 FY21 to US$23.0 billion
in H1 FY22. The increase in the trade deficit reflected sharp increases in both the goods
and services trade accounts. The goods trade deficit widened to US$21.2 billion in H1
FY22 up from US$11.4 in H1 FY21 as goods imports surged by 57.0 percent,
reflecting
growing domestic demand and higher global commodity prices (
Figure 2.5).
Goods
i
mports grew strongly across most categories, particularly petroleum produc
ts, machinery,
transport vehicles, metals, food products, and fertilizers. Using Pakistan Bureau of
Statistics data on goods import quantum and values, around 53 percent of the increase in
total goods imports in H1 FY22 can be attributed to an increase in prices, while the
remaining 47 percent was due to an increase in the quantity imported. For primary goods,
namely soybean oil, palm oil, cotton, crude oil, and petroleum products
–
around 84
percent of the growth in import values was due to the increase in
global prices.
Meanwhile, goods exports grew 28.9 percent on the back of a jump in textile exports,
mainly attributable to increased international orders and recent investments to expand
and modernize the sector (
Figure 2.6).
28,29
Likewise, with services imports growing faster
than services exports, the services trade deficit grew to US$1.8 billion in H1 FY22. This
was mainly driven by a
sharp increase in trade-relate
d transport services imports, due to
higher shipping costs.
30
28
Textile machinery imports grew by 121.6 percent in H1 FY22, compared to a growth of 1.4 percent in H1 FY22.
29
(i) Dawn: https://www.dawn.com/news/1662021/textile-exports-projected-to-cross-20bn-target, and (ii) Bloomberg:
https://www.bloomberg.com/news/articles/2022-01-30/pakistan-s-textile-exports-to-surge-as-orders-move-from-rivals.
30
Review of Maritime Transport 2021, UNCTAD
-4.7
-7.5
-8.7
-10.5
-8.3
-5.1
-3.4
-1.0
1.2
-3.2
-9.0
-30
-20
-10
0
10
20
H1-FY17
H2-FY17
H1-FY18
H2-FY18
H1-FY19
H2-FY19
H1-FY20
H2-FY20
H1-FY21
H2-FY21
H1-FY22
Secondary Income Balance
Primary Income Balance
Services Trade Balance
Goods Trade Balance
Current Account Balance
4.8
5.1
7.0
6.6
6.0
5.8
7.1
2.2
0.3
7.9
10.1
0
5
10
H1-FY17
H2-FY17
H1-FY18
H2-FY18
H1-FY19
H2-FY19
H1-FY20
H2-FY20
H1-FY21
H2-FY21
H1-FY22
Net incurrence of financial liabilities
Net acquisition of financial assets
Portfolio investment
Direct investment
Financial Account Balance
23.2
36.4
3.8
5.3
0
5
10
15
20
25
30
35
40
45
H1 FY21 H1 FY22
US$ Billion
Imports of goods FOB Imports of services
54.4
percent
11.8
15.2
2.8
3.4
0
5
10
15
20
25
30
35
40
45
H1 FY21 H1 FY22
US$ Billion
Exports of goods FOB Exports of services
27.3
percent
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
9
The overall income account surplus increased by 3.0 percent y-o-y to US$14.0 billion in
H1 FY22. Within the income account,
the primary income account deficit decreased by
7.2 percent in H1 FY22, supported by debt service relief under the G20 Debt Service
Suspension Initiative (DSSI), which was extended till December 2021. The secondary
income account surplus increased marginally by 1.3 percent as well, as remittances, the
largest contributor to this account, increased to US$15.8 billion in H1 FY22 up from
US$14.2 billion in H1 FY21.
31
significant inflow
The financial account saw net inflows of US$10.1 billion in H1 FY22, compared to
US$0.3 billion in H1
FY21 (Figure 2.4). The increase was driven by inflows
from the IMF
as per the revised SDR allocation, a Eurobond issuance
in July 2021, and short-
term
government deposits from Saudi Arabia. Pakistan also made a repayment
of
US$1.0
billion against a previous Sukuk issuance in October 2021, which led to overall portfolio
outflows of US$0.4 billion in H1 FY22. Meanwhile, at US$1.0 billion, FDI inflows
remained significantly below pre
-pandemic levels, partly reflecting protracted uncert
ainty
in international markets
regarding the global economic outlook.
The surplus in the overall
balance of payments
declined from US$1.3 billion in H1 FY21 to US$0.8 billion in H1
FY22, due to the wider CAD.
further in
months,
The CAD in January 2022 reached a monthly high of US$2.5 billion – as imports
continued to increase sharply but narrowed to US$0.5 billion in February as measures
taken by the Government to curtail non
-essential imports
, higher prices and the weaker
Rupee
began to take effect. Cumulatively, the CAD in Jul–
Feb FY22 was recorded at
US$12.1 billion, compared to a surplus of US$1.0 billion in the same period in FY21. In
January
-February 2022, Pakistan received
inflows of US$1.0 billion against an
International Sukuk issuance
and US$1.1 billion from the IMF
, taking net financial
inflows
in Jul–Feb FY22 to US$12.1 billion. Despite these inflows,
foreign exchange
reserves
fell to US$12.9 billion at end-March 2022,
the lowest since June 2020, and
equivalent to 1.9 months of imports of goods and services.
32,33
After appreciating by 6.9 percent in FY21, the Rupee depreciated by 14.3 percent against
the
U.S. dollar from July to end-March 2022,
34
in part due to pressures from the rising
import bill
, policy normalization among advanced economies, safe-
haven effects
associated with the Ukraine war, and domestic political uncertainty
. Meanwhile, Pakistan’s
Real Effective Exchange Rate (REER)
depreciated by 3.0 percent between Jul-
Feb
FY22.
35
e. Fiscal and Debt Sustainability
The consolidated fiscal deficit reached PKR1,372 billion in H1 FY22 from PKR1,138
billion in H1 FY21
– an increase of 20.6 percent y-o-
y. Higher taxes on imported items
and sales tax on goods led to an 18.0
-percent growth in revenue
s, but this was outweighed
by higher government
spending, which grew 18.7 percent (Figure 2.7).
With most of the
increase in spending coming from non
-interest expenditures,
the primary surplus shrank
to PKR81 billion.
In H1 FY22, all provinces except for Khyber Pakhtunkhwa (KP)
recorded a surplus leading to a consolidated
provincial surplus of PKR481 billion, a
lmost
double of that a year ago.
However, a sharp increase in federal current expenditure
led to
a 33.0
-percent increase in the federal fiscal deficit –
leading to the wider consolidated
fiscal deficit.
31
Remittances from E.U. countries increased by 37.8 percent, the United States by 24.0 percent, the United Kingdom by 14.4 percent, the
UAE by 1.8 percent), and other GCC countries by 11.7 percent in H1 FY22.
32
However, part of the decline in reserves is expected to be reversed in the coming weeks as official creditors rollover their loans.
33
Based on the next 12 months’ projected imports of goods and services.
34
Calculated using end period exchange rates (for June 2021 and March 2022). International Financial Statistics, International Monetary
Fund.
35
Real Effective Exchange Rate based on Consumer Price Index. Ibid.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
10
Figure 2.7: Consolidated Fiscal and Primary Balance
(excluding grants) in H1
(PKR billion)
Figure 2.8: Budgetary Financing: Net External and
Domestic Inflows in H1
(PKR billion)
Source: Ministry of Finance, World Bank Staff Calculations
Note: Other federal current expenditure includes subsidies.
in H1 FY22
In H1 FY22, tax revenues grew 19.2 percent y-o-y, up from a growth of 12.0 percent in
H1 FY21.
The higher
taxes collected on imported items were due to a combination of
higher global
prices, and a larger volume of imports.
36
The three largest contributors to
growth in revenues in H1 FY22 were sales tax on goods, direct taxes, and taxes on
international trade/c
ustoms duties.
Of the revenues collected by the Federal Board of
Revenue (FBR), 52.1 percent are related to imports. More specifically, 70 percent of the
sales tax on goods, 13.7 percent of direct taxes and 8.5 percent of the federal excise duty
collected were based on imports.
37,38
After declining by 23.2 percent in H1 FY21, non-tax revenues increased by 12.6 percent
in H1 FY22, largely due to higher inflows from the Pakistan Telecommunication
Authority at the federal level, and higher hydropower profits of KP at the provincial level.
Barring mark
-up payments from Public Sector Enterprises, all other sources of non-
tax
revenues also recorded an increase in H1 FY22.
spending
, in part due to
In H1 FY22, current expenditures increased by 16.0 percent y-o-y, up from the 8.3-
percent growth in H1 FY21. Development expenditures and net lending also rose by 24.8
percent, after declining by 3.3 percent in H1 FY21. The highest contribution to growth
in current expenditure came from grants and subsidies. This was in part due to
procurement of COVID
-19 vaccines by the Federal Government –
an expense recorded
under grants
–
and settlement of outstanding power sector arrears, recorded under
subsidies.
39
As part of reforms to increase domestic revenues
, the Government approved
a Supplementary Finance Bill in January 2022,
withdrawing two-thirds of tax exemptions
on GST (Box 2.2).
36
With the rise in global prices, taxes collected on imported items such as petroleum products, vehicles, edible oils, and machinery grew
significantly, whereas, for cotton and fertilizer, higher demand bolstered tax revenues as the quantum of imported items increased in H1
FY22. Bi-Annual Review. Jul-Dec 2021-22. Federal Board of Revenue
37
The revenue generated by the FBR is 88.6 percent of the total tax revenue and includes direct taxes, sales tax on goods, federal excise
duty, and customs duty on imports. Historically, the share of taxes generated through imports has been lower than domestically sourced
taxes (44.3 percent at end-FY21). Ibid
38
Revenue from direct taxes rose by 22.7 percent in H1 FY22 – the highest half-year growth since FY12 – as revenue from withholding
taxes on imports grew 45.5 percent. Ibid.
39
In H1 FY22, the Federal Government settled PKR135 billion in debt owed to Independent Power Producers (IPPs) and spent PKR196.3
billion on COVID-19-related spending under grants. See: Ministry of Finance: Monthly Economic Update & Outlook: February 2022.
-799
-796
-1030
-995
-1138
-1372
-152
-45
-153
286
337
81
-1400
-1200
-1000
-800
-600
-400
-200
0
200
400
FY17 FY18 FY19 FY20 FY21 FY22
Fiscal Balance Primary Balance
0
200
400
600
800
1000
1200
1400
FY17 FY18 FY19 FY20 FY21 FY22
Net domestic inflows (non-bank financing)
Net domestic inflows (bank financing)
Net external inflows
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
11
Box 2.2: Finance (Supplementary) Act 2022
The Finance (Supplementary) Act 2022, passed by the National Assembly on January 13, 2022, was introduced to
enhance revenue mobilization, and streamline expenditure in line with the fiscal framework agreed upon in the Sixth Review
of the IMF-Extended Fund Facility (EFF). As per the IMF, the supplementary bill targeted an underlying primary balance
(excluding grants) of 0 percent of GDP in FY22 and a provincial consolidated surplus at 0.5 percent of GDP in FY22.
Expenditure:
The Supplementary Bill aimed to reduce non-priority current spending and poorly targeted subsidies, while
making provisions for higher spending on the procurement of COVID-19 vaccines and clearance of power sector arrears. It
also budgeted for an increase in development expenditure and social spending, mainly through 1) expansion of the Benazir
Income Support Program by 50 percent (excluding COVID-19 related one-off spending); 2) increase in health and education
spending by 27 percent; and 3) spending on the Kamyab Pakistan Program and food subsidy program (estimated at 0.2 percent
of GDP).
Revenue: The revised fiscal program focused on eliminating two-thirds of tax expenditures on GST while broadening the tax
base and improving tax administration. The Supplementary Bill also budgeted for a gradual increase in the PDL until it reached
a maximum of PKR30/liter. However, with the fuel price reduction package announced in February, past increases in the PDL
were most likely partially or wholly reversed and further increases were temporarily paused.
40
The table below summarizes the
main legislative amendments made as part of the supplementary bill.
General Sales Tax: Amendments to Sales Tax Act 1990
Streamlining of
tax rates
Fifth schedule: Zero-rating withdrawn on several items including duty-free shops; local supply of
plant and machinery to export processing zones and exports, covered under the Export Facilitation
Scheme; and the supply, repair, or maintenance of ships and related equipment and machinery. In
contrast, zero-rating was introduced on drugs at the import stage and reinstated for crude oil.
Eighth schedule: Several goods with reduced rates of tax have been brought under the standard GST
regime, including branded food items; agricultural machinery and other inputs, such as poultry and
cattle feed; plant and machinery not manufactured locally and having no compatible local substitutes;
internet and TV broadcast equipment; and silver, gold, and precious metal jewelry.
Eliminating
exemptions
Sixth schedule: Exemptions were withdrawn on the following imported and branded items (Table 1
of Sixth Schedule): 1) live animals and poultry, 2) meat and uncooked poultry, 3) eggs, 4) cereals and
milling industry products except for rice, wheat, and wheat and meslin flour, 5) sugar cane, 6) food for
infants, 7) seeds and various types of agriculture equipment, and 8) plant and machinery of greenfield
industries. However, exemptions were retained on imported fruits and vegetables from Afghanistan;
exemptions were withdrawn for local supplies of raw cotton, whey, sausages (sold without retail
packaging), bread and related items sold in tier-1 retailers, and matchboxes, among other items (Table
2 of the sixth schedule).
Increasing tax
rates
Ninth schedule: 17 percent ad valorem tax was introduced on imported mobile devices exceeding
US$200 in value.
Lowering of
threshold
The sales tax threshold for the cottage industry was reduced from PKR10 million in annual turnover
to PKR8 million, to broaden the tax base.
Federal Excise Duty: Amendments to Federal Excise Act 2005
Increasing tax
rates
FED was increased on imported and locally manufactured vehicles.
Previous FED
Current FED
Imported motor cars
Range (2.5–30
percent)
Range (2.5–40
percent)
Locally manufactured or assembled cards
Range (0–5 percent)
Range (2.5–10
percent)
Imported double-cabin pick-up vehicles
25 percent
30 percent
Locally manufactured double-cabin pick-up
vehicles
7.5 percent
10 percent
Customs Duty: Amendments to Customs Act 1969
Administrative
reforms
Under the Finance Supplementary Act 2022, the role of Collector of Customs in determining the
customs value of imported or exported goods was eliminated, and the power to determine customs
value now rests solely with the Director of Customs Valuation. Previously, both the Collector of
Customs and the Director Valuation were authorized to determine the customs value of imported or
exported goods. (Section 25A of the Customs Act).
Income Tax: Amendments to Income Tax Ordinance, 2001
40
In February 2022, the Government announced an energy price reduction package to be implemented from March through June 2022 that
included a reduction of PKR10/liter on end-consumer petrol and diesel prices, a temporary price cap on fuel prices, and a PKR5/unit
subsidy on the base electricity rate for almost 85 percent of domestic consumers and 40 percent of commercial consumers.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
12
Introducing
advance taxes
Advance tax rate was introduced on foreign TV serials and advertisements. Dividends received by the
Real Estate Investment Trust (REIT) from a special purpose vehicle will be taxed at the rate of zero
percent, and dividends paid to non-REIT investors will be taxed at 35 percent.
Source: (i) The primary balance target is excluding grants, one-off transactions, COVID-19 spending, and IPPs related arrears clearance in
FY22. IMF Country Report No. 22/27, (ii) Finance (Supplementary) Act 2022, (iii) The Sales Tax Act, 1990: As amended up to 15
th
January
2022, (iv) FBR Circular No. 01 of 2022, (v) FBR Circular No. 06 of 2022, (vi) FBR Circular No. 12 of 2022.
External financing inflows more than doubled in H1 FY22, whereas domestic financing
inflows contracted by
around half
. The growth in net external inflows largely stemmed
from other loans and project aid. Overall, external financing flows constituted 74.8
p
ercent of total budgetary financing in H1 FY22, increasing exchange rate risks
on
external debt (Figure 2.8).
Public and publicly guaranteed debt stood at PKR45.3 trillion at end-December 2021, an
increase of PKR3.1 trillion since end
-June 2021. Of the total public debt at end-
H1 FY22,
the share of external debt was 37.5 percent, whereas short
-
term debt was 13.0 percent.
Pakistan’s total debt level is in breach of the Fiscal Responsibility and Debt Limitation
Act (FRDLA) 2005 (amended in 2017) that stipulated a reduction of total public debt to
60 percent of GDP by end
-FY18. Moreover, the
growing arrears of the power sector and
liabilities emanating from commodity operations pose further risks to debt sustainability.
f. Medium-Term Outlook
–FY23 before
On the back of recent monetary tightening, high base effects, and stronger inflation, real
GDP growth
is expected to moderate to 4.3 percent in FY22
and then further to 4.0
percent in FY23 as the Government undertake
s fiscal tightening measures to
manage
growing demand pressures and
contain external and fiscal imbalances.
Economic growth
is then projected to recover
slightly to 4.2 percent in FY24 (Table 2.1), supported by
the
implementation of
structural reforms to support macroeconomic stability
and fiscal
sustainability.
the near-
Growth in private consumption and private investment is projected to decline in FY22-
F23,
partly due to higher borrowing costs and erosion in real incomes due to elevated
inflation
before strengthening thereafter. Total i
nvestment growth is also expected to pick
up
then as the business environment improves. After being relatively muted in FY21
due
to fiscal restraint and rollback of pandemic
-related
mitigation measures, government
consumption growth is expected to
increase in FY22 and remain high in FY23 on pre-
election spending before moderating in the medium term.
verage in the
-digits in
Consumer price inflation is estimated to rise to an average of 10.7 percent in FY22 on
strong domestic demand, higher global commodity prices and a weaker exchange rate.
Price pressures are then expected to gradually ease over the forecast horizon as energy
prices moderate from recent highs and world inflation pressures dissipate.
,
external
Largely reflecting the surge in imports, the CAD is expected to widen to 4.4 percent of
GDP
in FY22. With monetary tightening
to curtail macroeconomic risks emanating from
the large external imbalance, imports are projected to decline next year before recovering
again in FY24.
As export competitiveness reforms gain traction,
particularly those aimed
at reducing
import tariffs on relevant
intermediates for the export sector, and increased
allocations for export refinance schemes
,
exports are projected to begin recovering in
FY24, the CAD is
consequently expected to narrow to 3.0 percent of GDP.
In addition,
the growth of official remittance inflows is expected to moderate after benefiting from a
COVID-19-induced transition to formal channels in FY21.
The fiscal deficit (excluding grants) is projected to increase to 6.3 percent of GDP in
FY22,
on the back of higher spending on COVID-
19 vaccine procurement, settlement of
energy sector arrears, developmen
t spending, and the recently announced food and
fuel
price
reduction
packages. As the Government rolls back the relief measures and resumes
fiscal consolidation efforts, the fiscal deficit is projected to narrow slightly to 6.1 percent
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
13
of GDP in FY23. With the implementation of structural reforms to increase domestic
revenue mobilization, particularly harmonization of the
GST regime
and Personal Income
Tax
(PIT) reform,
the fiscal deficit is projected to improve further to 5.3 percent of GDP
in FY24.
Public debt as a share of GDP is projected to remain high, but g
radually decline
over the medium term, supported by higher GDP growth and declining primary deficits.
However, Pakistan’s v
ulnerability to debt-related shocks will remain elevated
as will the
country’s external financing requirements. To meet these, Pakistan will need the
continued support of its multilateral and bilateral partners and access to international
capital markets. The macroeconomic outlook is predicated on the IMF
–
EFF program
remaining on track.
Table 2.1: Pakistan Macroeconomic Outlook (FY22-24)
1
(Annual percent change unless indicated otherwise)
2018/19
2019/20
2020/21
2021/22e
2022/23f
2023/24f
Real GDP Growth, at constant factor
prices
3.1 -1.0 5.6 4.3 4.0 4.2
Agriculture
0.9
3.9
3.5
3.6
3.2
3.3
Industry
0.2
-5.8
7.8
4.0
3.3
3.8
Services
5.0
-1.3
5.7
4.7
4.5
4.7
Real GDP Growth, at constant market
prices
2
2.5 -1.3 6.0 4.3 4.0 4.2
Private Consumption
5.6
-3.1
6.3
5.5
3.0
3.9
Government Consumption
-1.6
8.4
3.1
6.9
6.0
3.8
Gross Fixed Capital Formation
-11.1
-5.5
6.8
4.4
2.5
4.4
Exports, Goods, and Services
13.2
1.5
4.8
7.1
1.8
2.8
Imports, Goods, and Services
7.6
-5.1
5.5
12.1
-0.7
2.1
Inflation (Consumer Price Index)
6.8
10.7
8.9
10.7
9.0
7.5
Current Account Balance
-4.2
-1.5
-0.6
-4.4
-3.1
-3.0
Financial and Capital Account Balance,
(% of GDP)
3.7 3.2 2.4 5.7 2.9 3.1
Fiscal Balance (excluding grants, % of
GDP)
-7.9 -7.1 -6.1 -6.3 -6.1 -5.3
Debt (% of GDP)
78.0
81.1
76.0
76.0
74.4
72.5
Primary Balance (excluding grants, % of
GDP)
-3.1 -1.6 -1.2 -1.5 -1.1 -0.4
Sources: Pakistan Bureau of Statistics, State Bank of Pakistan, World Bank staff estimates.
Note:
1
This macroeconomic outlook uses the re-based national accounts data at 2015-16 prices. It was prepared by World Bank staff and
differs from that of the Government.
2
World Bank estimates for FY21. The Pakistan Bureau of Statistics has not published
expenditure/demand-side data on the re-based national accounts for FY21.
g. Risks and Priorities
Tighter global financing conditions, potential further increases in world energy and food
prices due to the Ukrain
e–Russia conflict, and slower global growth due to rising inflation,
pose substantial risks for Pakistan
’s economic outlook.
A conducive external environment
is particularly pert
inent for narrowing the large current account deficit and
meeting
elevated
external financing requirements, which requires continued
access to international
capital markets with manageable yields (Box 2.3).
uncertainty
s in
Given the current significant imbalances in the external sector and low external buffers,
macroeconomic adjustment
, specifically fiscal consolidation to complement
ongoing
monetary tightening,
is urgently needed. Heightened domestic political
uncertainty over
the past few
months has slowed the implementation of key reforms to improve overall
fiscal and debt sustainability
. Going forward, further policy reform slippages and delays
in adjustment measures
are likely to exacerbate the already widening
macroeconomic
imbalances.
Historically low levels of capital accumulation and productivity growth limit Pakistan’s
growth prospects
and lead to frequent macroeconomic crises. As such, the current record-
high trade deficit
due to elevated aggregate demand pressures is symptomatic of the long-
standing structural issues associated with low potential growth. To achieve higher and
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
14
sustained growth, critical reforms needed include those aimed at sustaining
macroeconomic stability, increasing domestic revenue mobilization, supporting private
sector investment, raising export competitiveness, and improving the financial viability of
the energy sector
. In the absence of these measures, the fiscal deficit
and external accounts
could come under further pressure,
exacerbating current imbalances
. With low fiscal and
external buffers, it is also important that Pakistan successfully complete the ongoing
IMF–EFF program.
Box 2.3: Moderating global growth in a higher inflation, tighter financial conditions, and uncertain environment
Global growth rebounded to 5.5 percent in calendar year 2021—its strongest post-recession pace in 80 years—
following the pandemic-induced collapse of 2020. Global growth expanded through much of 2021 as policy stimulus
and relaxation of pandemic-related lockdown measures boosted demand. The global purchasing managers’ index (PMI)
peaked in May 2021 at 58.5 (a reading over 50 indicates expansion) but slowed in the second half of the year and reached an
18-month low of 51.1 in January 2022. Global inflation also rose rapidly during the year – from 3 percent at the start of 2021
to 7.8 percent at the end of the year, levels not seen in decades (Figure 2.9). In Emerging Markets and Development
Economies (EMDEs), increases in inflation have been broad-based across countries and components: four-fifths of EMDEs
experienced an uptick in inflation in 2021, with increases in food, energy, and core components. Global trade rebounded in
tandem with global activity but has been uneven across goods and services. Although goods trade recovered swiftly and was
6 percent above its pre-pandemic-high in December 2021, services trade is still lagging and was 4 percent below its pre-
pandemic-high in November 2021.
The global economy is expected to slow sharply in 2022, on the back of rising inflation, strong base-effects,
ongoing supply bottlenecks, waning policy support, and the war in Ukraine. Global growth momentum was already
slowing at the start of 2022. In global trade, the global PMI manufacturing new export orders index in January 2022 signaled
its first contraction in goods trade since mid-2020. The pace of the slowdown is expected to hasten with the war in Ukraine.
Disruptions to sea and air logistics due to the conflict may further worsen supply bottlenecks, adding to prolonged delivery
times and high production costs. Commodity prices have already spiked in response to the war, with Brent crude oil price
peaking at $130/bbl. in early March 2022. Agricultural prices have also increased by 21 percent in the first three months of
2022, the increase was particularly acute for wheat, of which Russia and Ukraine are major producers. Moreover, the war in
Ukraine has led to a rapid deterioration in investor sentiment and increased financial market volatility.
Risks to global growth remain to the downside and have magnified on recent developments. Expectations of
stronger U.S. policy tightening have increased rapidly. Risk assets have also deteriorated with the EMBI global diversified
sovereign spread rising by 155 basis points in mid-March, compared to a year ago, and emerging market exchange rates have
depreciated by 10 percent (Figure 2.10). The impact of heightened geopolitical and financial risks in an environment of high
debt and inflation may force EMDE central banks to rapidly withdraw monetary stimulus and undermine recoveries. Further
inflation pressures may de-anchor inflation expectations and erode real incomes. The COVID-19 pandemic can still damage
economic activity going forward, overwhelming health systems and requiring new mobility restrictions.
Figure 2.9: Consumer price inflation
(Percent, year-on-year)
Figure 2.10: Sovereign spread
(Percent)
Sources: Haver Analytics; J.P. Morgan.
Notes: Figure 2.14: GDP-weighted average, Figure 2.15: EMBI global diversified sovereign spread and JP Morgan EM Currency Index (as
of March 08, 2022).
0
2
4
6
8
10
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
World
Advanced economies
Emerging markets
44
46
48
50
52
54
56
58
60
3.0
3.5
4.0
4.5
5.0
5.5
Mar-21
Apr-21
May-21
Jun-21
Jul-21
Aug-21
Sep-21
Oct-21
Nov-21
Dec-21
Jan-22
Feb-22
Mar-22
Sovereign Spread (LHS)
EM Currency Index (RHS)
Percent
Index
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
15
3. Special Focus – Financing the Real Economy
Pakistan’s financial sector remains underdeveloped and is failing to effectively deliver on its role as an intermediary of capital. Credit to
the private sector as a percent of GDP is low in comparison to peers and has also trended downward over the past decade and a half.
Credit is also concentrated in the corporate segment, leaving other critical segments and sectors such as SMEs underserved. While there
are bright spots, such as the microfinance sector, these sub-sectors remain smaller than the dominant banking sector, despite significant
potential for growth and financing the real economy in the immediate term. There are several structural impediments preventing the greater
flow of financing to the real economy, in particular to the underserved segments. These include: 1) extensive government borrowing from
the financial sector; 2) growing but still limited financial inclusion and low domestic saving that limits the resources available to be
intermediated to the private sector; 3) market failures in the form of inadequate financial infrastructure leading to informational
asymmetries; 4) a weak insolvency and creditor-rights regime; 5) underdeveloped capital markets; 6) high informality and low financial
literacy; and 7) high cost of finance and an emphasis on traditional forms of collateral. Enhancing the flow of financing to the real
economy requires both the resolution of structural problems and leveraging emerging growth areas, which comprise: a) microfinance; b)
digital finance; c) risk capital; d) development finance; and e) capital markets.
a. Importance of Finance and the Financial Sector
investment to
,
Pakistan has been unable to
achieve sustained
economic
growth and has repeatedly
faced macroeconomic crises
in recent decades
. This is
partly because g
rowth cycles
have tended to be
consumption
-driven, with
investment and exports not
contributing substantively to
growt
h.
41
There is a need to
pivot growth away from
consumption towards
investment and exports.
The
importance of investment
for growth is highlighted by
the fact that
the current
levels of private investment and productivity limit Pakistan
’s growth potential to 2.5–
3
percent per year.
42
Despite the importance of investment for growth, both public and
private investment remain low in Pakistan.
P
rivate investment stood at 11.3 percent of
GDP in 2020,
half of the South Asian average of 21.2 percent, and
lower than all peer
comparators except Egypt (Figure 3.1).
43
Figure 3.1: Private investment, selected years
Percent of GDP
Source: World Development Indicators (WDI)
growth
Although investment levels are dependent on several factors, a critical one is a well-
functioning financial sector that
can allocate
capital to its most productive use, shift risks
to those who can best bear
them and exert corporate governance.
44
The financial sector
facilitates investment by intermediating capital between savers and borrowers. In this
process, not only does it stimulate capital formation, but as research has shown, a deep
and inclusive financial sector also supports productivity growth, formalization of the
economy, and greater export orientation.
45
T
he financial sector also facilitates economic
growth by catalyzing the process of structural transformation by enabling greater flow of
41
World Bank. 2020. Islamic Republic of Pakistan: Leveling the Playing Field. Systematic Country Diagnostic; World Bank, Washington,
DC. © World Bank.
42
Ibid.
43
For the purposes of this note, regional peer(s) refers to India and Bangladesh, structural peer to Egypt, and aspirational peer to Malaysia.
44
International Finance Corporation. 2021. Country Private Sector Diagnostic – Creating Markets in Pakistan: Bolstering the Private Sector.
45
See for instance: Butler, Alexander W. and Cornaggia, Jess, Does Access to External Finance Improve Productivity? Evidence from a
Natural Experiment (March 4, 2009). Journal of Financial Economics (JFE), Vol. 99, No. 1, 2011.
11.3
22.1
15.7
5.3
0
5
10
15
20
25
30
Pakistan India Bangladesh Malaysia Egypt,
Arab Rep.
2000 2005 2010 2015 2020
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
16
credit to finance-constrained segments, markets, and sectors. Enhanced credit to sectors
such as agriculture also has the potential to reinvigorate poverty reduction initiatives.
46
financial sector
has
t with the
-19 pandemic
In response to the COVID-19 pandemic, countries launched comprehensive stimulus
packages consisting of monetary, fiscal, and regulatory measures to mitigate the
deleterious economic effects of the crisis. Central banks put in place payment holiday
programs and refinance facilities, eased their monetary policy, and through the financial
sector, provided direct support to firms to help them “keep the lights on” and to prevent
liquidity issues from evolving into solvency challenges. However, the impact of this
package of support was shaped to a significant extent by the respective country’s level of
financial development and firms’ access to credit.
Smaller firms, informal businesses,
and
those w
ith more limited access to the formal credit market were harder hit
by income
losses stemming from the pandemic
.
47
The same trends were witnessed in Pakistan.
Larger firms with greater access to finance were able to escape the crisis relatively
unscathed unlike smaller, more informal, and financially excluded firms.
48
b. Structure of Pakistan’s Financial Sector
bank-centric,
The financial sector is heterogeneous and comprises distinct entities that are interlinked.
The sector can be bifurcated into financial institutions and financial (capital) markets. The
financial institutions landscape, in turn, comprises commercial banks, development
finance institutions (DFIs), microfinance banks (MFBs), insurance companies, non
-
bank
financial institutions (NBFIs
),
and the Central Directorate for National Savings (CDNS).
The NBFI sector consists mostly of mutual funds, leasing companies, micro
-
finance
companies, and pension funds
(Figure 3.3). Overall, the sector is dominated
by banks,
which account for 74.1 percent of the financial sector’s total assets (
Figure 3.2).
49
This is
even though non
-
bank subsectors within the broader financial sector (e.g. capital markets)
offer significant growth potential and can potentially account for a greater percentage of
the financial sector’s asset base.
Figure 3.2: Distribution of financial sector assets,
December 2020
Percentage share
Figure 3.3: Distribution of non-bank financial
institutions assets, November 2020
Percentage share
Source: State Bank of Pakistan (SBP) and Securities and Exchange
Commission of Pakistan (SECP)
Source: Securities and Exchange Commission of Pakistan (SECP)
46
Levine and Zervos (1998) suggest that a developed financial sector, indicated by a high proportion of credit to the private sector (as
percent of GDP), is a robust predictor of long-run economic growth
47
World Bank. 2022. World Development Report 2022: Finance for an Equitable Recovery. Washington, DC: World Bank. © World Bank.
48
World Bank. 2020. Quantifying the Impact of COVID-19 on the Private Sector in Pakistan. World Bank, Washington, DC. © World
Bank.
49
As of June 2021, public sector commercial banks, local private banks, and foreign banks account respectively for 19.6 percent, 76.6
percent, and 2.6 percent of the total assets of commercial banks in Pakistan, while specialized banks account for 0.96 percent of the total
assets..
Banks
74%
MFBs
1%
DFIs
1%
NBFIs
5%
Insurance
6%
CDNS
13%
Mutual Funds
59%
Asset
Management
Companies
3%
Discretionary & Non-
Discretionary
Portfolios
17%
Pension Funds
2%
REIT Management
Companies
0%
Real Estate
Investment
Trust
3%
Non Bank
Microfinance
Companies
8%
Other
8%
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
17
with digital
starting to
The combination of a more conducive regulatory environment, increased mobile and
internet penetration, and changing consumer behavior due to CO
VID-
19 has created a
scenario where
digital finance has started playing an ever-greater role in
the financial
sector
. The State Bank of Pakistan (SBP) has led the charge by
supporting branchless
banking,
Asaan (easy) mobile wallets, payment systems reform, and e-
commerce. These
reforms
have supported the supply side of the digital finance ecosystem. Mushrooming
cellular use has
also driven the growth of mobile phone and internet
bank transactions to
14
percent of e-banking value and 27 percent of e-banking transactions.
50
Furthermore,
the number of active mobile wallets has doubled
over the period 2019–21
to 41 million,
leading to a 91
percent growth in branchless banking transactions and a 98 percent
growth
in the value of transactions over the same period.
, both
has coincided
, supported by
In 2021, over 80 VC funds/institutional/corporate investors invested more than US$300
million
in Pakistani startups. Over the last three years, the VC market has tripled
in
volume
, while the value of deals increased by eight-fold.
The growth of risk capital has
been enabled
by the key sectoral regulators, the SECP—
primarily involved with fund
establishment and governance
—and SBP—
the regulator for foreign repatriation of
funds. In 2008, the SECP approved the regulatory framework for registration and
regulation of both PE and VC Funds. In 2015, the SECP promulgated the first Private
Fund Regulations. Recently, the SECP has made amendments to the Companies Act,
2017 to enable companies to raise capital through services and immovable property and
issue shares for non
-cash considerations, empowering funds,
and entrepreneurs to
structure deals in non
-
traditional ways that are more suited for risk capital. SBP has also
strengthened the Foreign Exchange Manual to enhance investments into Pakistani
startups by foreign PE and VCs and enable easier repatriation of funds.
it
Pakistan’s financial sector has undergone considerable structural shifts since the
privatization of
several large nationalized commercial banks in the 1990s.
The
p
rivatization of these banks was complemented by a
wave of deregulation. The NBFI
sector
in particular has seen significant innovation in the past decade
with the advent of
real estate investment trusts (REITs), private equity companies, venture capital funds,
and, more recently, FinTechs. Digital finance is also disrupting the status quo. Although
this evolution is helping to improve access to finance to those traditionally excluded, the
sector remains concentrated
. The 5 biggest banks out of the 32 operati
ng in the country
account for close to 50 percent of the total assets and deposits in the banking system.
This trend permeates across the sector. A single pension fund accounts for 34.4 percent
of the total assets of the pension funds sector.
51
The three l
argest microfinance providers,
all microfinance banks, account for 43.4 percent of the gross loan portfolio in the
microfinance sector.
52
50
This is a marked increase over the last two years—in 2019, mobile phone and internet bank transactions constituted 5% of e-banking
value and 3% of e-banking transactions. State Bank of Pakistan. Statistical Bulletin, January 2022.
51
A total of 21 pension funds were operational in Pakistan as of December 2021. State Bank of Pakistan. Financial Stability Review (2020).
52
Pakistan Microfinance Network: a total 47 Microfinance Providers were operational in Pakistan as of December 2021.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
18
c. The Untapped Potential of the Financial Sector
is relatively
is not
Pakistan’s domestic credit to
GDP ratio,
an indicator of the
development and depth of the
financial sector and
consequently
it’
s potential to finance growth,
stood at 58 percent in 2018,
lower than regional comparators
such as India (72 percent) and
aspirational comparator
economies such as Malaysia (142
percent).
53
This relatively small
size is also reflected in the assets
of deposit
-taking financial
institutions, which include
commercial banks. Assets of
deposit
-taking institutions, while
having grown from 30 percent to
50 percent of GDP over the period 2000
–
20, are relatively low compared to regional
peers such as India (78 percent) and Bangladesh (68 percent) (Figure 3.4).
54
Figure 3.4: Deposit Money Banks’ Assets
Percentage of GDP
Source: International Financial Statistics (IFS)
-mid 2000s on
Credit to the private sector surged as banks ventured into new segments in the early 2000s,
diversified their portfolios, and started offering new products. Growth in the financing
of nontraditional sectors, however, was
not strategically an
chored in sound risk
management, loan origination, and underwriting practices. With ample liquidity, an
accommodating monetary policy stance, and limited government appetite for borrowing
due to sizable foreign inflows and aid, banks significantly expanded
their loan books. This
trend, however, did not last and reversed course with the onset of the political, security,
and energy crisis in 2008. Non
-performing loans (NPLs) surged,
and the sector
underwent a significant de
-
risking process, moving away from private sector financing
and channeling resources to financing the government. This trend is yet to change almost
a decade and a half later: The financial sector is currently predominantly in the business
of financing the government rather than financing the private sector.
Figure 3.5: Credit to Private Sector
Percentage of GDP
Figure 3.6: Advances to Deposits ratios
Percentage share
Source: World Development Indicators (WDI)
Source: World Development Indicators (WDI)
53
Domestic credit to GDP includes credit to both the public and private sectors.
54
Assets include cash, government securities, and interest-earning loans (e.g., mortgages, letters of credit, and inter-bank loans).
0
20
40
60
80
100
120
140
160
2000 2005 2010 2015 2020
20
30
40
50
60
70
80
90
100
110
2010 2011 201220132014 2015 2016 20172018 2019 2020
Pakistan India Bangladesh
Malaysia Egypt
20
40
60
80
100
120
140
160
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
2020
Pakistan India
Banglades
Malaysia Egypt
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
19
Credit to the private sector increased by 20 percent over calendar year 2021, a significant
feat
amid the pandemic.
55
However, as a share of GDP, private sector credit has dropped
from a high of 29 percent in 2008 to 17 percent in 2020 (
Figure 3.5). The trends w
itnessed
in recent years are also reflected in the average advances
-to-
deposit ratio (ADR) of banks.
Despite fiscal incentives put in place by the government, at 46.6 percent, the banking
ADR in Pakistan is the second lowest among peer comparators (Figure 3.6).
56
Ongoing consultations with firms in the private sector have revealed that access to finance
remains low.
The last enterprise survey, administered to a representative sample of
private
firms
in 2013, showed that only 6.7 percent of the firms surveyed had an
outstanding
loan/line of credit with a bank
.
This is lower than Pakistan’s peer comparators and the
regional average as 34.1 percent, 31.9 percent, and 34.8 percent of firms in Bangladesh,
Malaysia, and Turkey, respectively, had an outstanding loan/line of credit. At a more
aggregate regional level, 27 percent of the firms surveyed in South Asia had an outstanding
loan/line of credit. Firms that managed to secure a loan in Pakistan also needed
substantial collateral. The average value of collateral needed for a loan amounted to 153
percent of the value of the loan.
As a result
, most firms in Pakistan resort to internal
finance for working capital and
capital expenditure
needs, with banks catering to the
financing needs of just a small percentage of firms.
are primarily
,
The corporate segment
accounts for close to 7
0
percent
of the loan book of
banks
and this share has
been trending upwards in
recent years (
Figure 3.7).
The sector’s lending is also
significantly concentrated in
a few large business
conglomerates.
Only 20
business groups in the
country accounted for 30
percent of the banking
sector’s private
sector
lending portfolio in 2017
.
57
Large corporates often have
Figure 3.7: Advances by sector, FY21
Percentage of total
direct ownership linkages
Source: Authors calculations based on SBP data
with banks; therefore, a
considerable portion of the loan book of banks is comprised of related party loans, rather
than conventional private sector lending. Credit is also concentrated within major sectors.
The textiles sector, for instance, accounts for 14.7 percent of the loan book of banks.
Credit to the SME sector accounted for approximately 6.3 percent of total private
sector financing in June 2021, catering to the financing needs of only 172,893 SMEs,
slightly lower than a decade earlier. According to the SME finance forum, the current
quantum of financing amounts to less than 10 percent of the financing requirements of
the SME sector. At less than 1 percent of GDP, SME financing also pales in comparison
to Pakistan’s peer comparators (Figure 3.8). Infrastructure financing is concentrated, with
the power sector accounting for 63 percent of the total infrastructure financing portfolio
as of 2016.
58
Agriculture financing, while having grown remarkably in recent years and
achieving a major milestone of PKR1 trillion in disbursements in 2019, is currently
catering to less than 25 percent of the agricultural households in the country. Outstanding
agriculture finance also only accounts for approximately 4 percent of the banking sector’s
outstanding loan book (Figure 3.9). Housing finance, however, represents the silver lining.
55
This number only reflects lending by commercial banks.
56
The advances-to-deposit (ADR) ratio is a ratio between the banks total loans and total deposits. Banks may not be earning an optimal
return or intermediating savings/deposits effectively if the ratio is too low. ADR is also commonly used as a measure of liquidity.
57
State Bank of Pakistan – Bank Credit to Private Sector: A Critical Review in the Context of Financial Sector Reforms (2017)
58
State Bank of Pakistan. Infrastructure Finance Review (2016).
69.23
4.58
4.02
7.50
10.70
1.85
2.11
Corporate Sector SMEs Sector
Agriculture Sector Consumer sector
Commodity financing Staff Loans
Others
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
20
The stock of housing finance which grew by 40 percent over the 10-year period 2010-19
has over the last two years increased
by 146 percent. The stock
has increased from PKR70
billion in 2010 to PKR366 billion as of December 2021, on
the back of sweeping fiscal
and regulatory measures, including mandatory lending targets for housing and
construction set forth by the SBP and the roll
-out of a low-
cost income housing program
by the Government – Mera Pakistan Mera Ghar.
Figure 3.8: SME finance
Percent of GDP
Figure 3.9: Sectoral financing as a share of private
sector financing
Percentage share
Source: IMF Financial Access Survey
Source: Authors’ calculations based on SBP data.
goes
working
Long-term financing for investment is essential for the sustainable long-term growth of
any economy
. However, financing for longer-
term fixed investment only accounts for
33.6 percent of the total financing extended by the banking sector in Pakistan
(Figure
3.10)
. The dominance of working capital and trade financing that is inherently short
er
tenor
in the financin
g portfolio of banks is partly an outcome of their deposit structure,
the majority of which is of shorter maturity (i.e., current and savings
accounts
), as
opposed to longer maturity (i.e., fixed deposits). Seventy
-
three percent of the deposit base
can be
classified as current or savings, whereas fixed-
term deposits only account for 18
percent of the total deposit base of banks in Pakistan
(Figure 3.11)
. Leveraging shorter
tenor
-more variable deposits, such as current and savings deposits, for longer-term f
ixed
investment financing can expose banks to asset
-
liability mismatches, which can lead to
serious stability risks if not managed. The
current deposit structure also enables the banks
to
earn a hefty spread by simply investing in government securities. The spread
between
the 3
-month T-
bill yield and deposit cost has averaged 4.4 percent over the past 5 years.
Even higher spreads can be earned by investing in longer-duration Government bonds.
Figure 3.10: Type of financing
Percentage share
Figure 3.11: Evolution of the deposit structure
Percentage share
Source: SBP
Source: SBP
0.9
7.2
9.0
15.0
20.4
17.0
0 5 10 15 20 25
Pakistan
India
Bangladesh
Turkey
Malaysia
Morocco
5.0
5.5
6.0
6.5
7.0
7.5
8.0
8.5
June-15June-16 Jun-17 Jun-18 June-19 Jun-20 Jun-21
SME Sector Agriculture Sector
17.2
41.1
33.6
2.9
5.2
Trade Finance
Working Capital
Fixed Investment
Construction
Financing
Other
0%
20%
40%
60%
80%
100%
Jan-10
Jan-11
Jan-12
Jan-13
Jan-14
Jan-15
Jan-16
Jan-17
Jan-18
Jan-19
Jan-20
Jan-21
Fixed Deposits Saving Deposits
Current accounts Others
Financial Institutions
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
21
borrower from
As of December 2021, public sector deposits (government and public sector enterprises)
accounted for 21.3 percent (PKR4.3 trillion) of the deposits in the country’s banking
system, approximately the same as the deposits being held in the system by the private
sector.
59
This amount was equivalent to 16.5 percent of the total government domestic
debt. The banking sector, to a great degree, has been intermediating public sector funds
back to the public sector at a substantial markup, risk
-free. The government,
on one hand,
is borrowing extensively from banks at high rates and is the dominant borrower in the
system, and on the other hand, is earning nominal interest on
its
cash balances in the
banks. A back
-of-the-envelope calculation, assuming that all governme
nt deposits are
current deposits and are being intermediated back to the government at the average cost
of domestic debt capital in FY21, reveals that the government incurred a fiscal cost of
almost PKR416.5 billion (0.8 percent of GDP) on its deposits with the banking system.
A
s of September 2021, the government has
established a single treasury account for more
effective cash flow management under the aegis of the ongoing IMF program.
60
Operationalization of the TSA will have a significant impact on the fiscal cost of
government deposits in the commercial banking system.
remain
in Pakistan
The debt market is largely
dominated by government
securities. Total outstanding
government domestic debt stood at
PKR26.
3 trillion at end-June 2021,
while outstanding corporate debt
wa
s only a fraction of that at
PKR782.9 billion. There were only
93 private i
ssues outstanding in the
debt
market as of March 2021.
61
The corporate bond market is
mainly used by a few large state
-
owned enterprises (SOEs), private
corporations
, and banks to meet
their capital adequacy requirements.
Pakistan’s equity market is also
r
elatively shallow, concentrated,
and volatile.
The market
capitalization to GDP has decreased considerably from a high of 34 percent in FY08 to
17 percent in FY21, much below the level of Pakistan’s peers’ (see
Figure 3.12).
Moreover,
the Pakistan Stock Exchange (PSX) is dominated by a few sectors, mainly financial,
energy, and fertilizer, which altogether account for 48 percent of PSX’s market
capitalization.
62
There have been promising developments recently
with several new
listings and the operationalization of
the Growth Enterprise Market Board. However,
the
market
is generally subdued due to overall low listings, tax driven distortions betwe
en
asset classes, and preference of raising funds through banks instead of the capital markets.
Figure 3.12: Market capitalization
Percent of GDP
Source: Nonbanking financial database, World Bank,
Bloomberg, Pakistan Stock Exchange, World Federation of
Exchanges, Global Stock, Markets Factbook, and
supplemental S&P data, Standard & Poor's
has fallen
recent years
Public Financial Institutions (PFIs) currently play a small role in the financial system as
opposed to the 1960s
–80s, for instance, when PFIs, which include DFIs,
played a
prominent role in the financial sector landscape and industrial development of Pakistan
by financing prominent se
ctors such as textiles, cement, sugar, and fertilizer. The a
ssets
of
bilateral DFIs
account for only 1.7 percent of the assets of scheduled Banks and around
75 percent of investments are in government securities. P
ublic Sector Commercial Bank
s,
similarly, exhibit lending and investment behavior akin to private sector banks, despite
the clearly stated development finance mandates and visions.
59
State Bank of Pakistan
60
International Monetary Fund. 2021. Article IV Consultation, Sixth Review under the Extended Arrangement under the Extended Fund
Facility.
61
Economic Survey of Pakistan 2021. Capital Markets and Corporate Sector.
62
Using publicly available data from Pakistan Stock Exchange (PSX).
0
50
100
150
200
2010 2015 2020
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
22
enter of
Although the microfinance
sector has a smaller loan
portfolio
(Figure 3.13), at
3.9 percent
of the total
a
dvances by the Scheduled
Banks
(PKR392 billion for
MFPs vs
PKR9.56 trillion
for commercial banks), the
sector caters to the
financing needs of a
significantly larger number
of individuals/households
and micro and small
enterprises (
8.1 million
borrowers vs 3.8 million by
banks). The microfinance
sector, as such, plays a
significa
nt role in enhancing
access to finance in
Pakistan, both for households and small enterprises.
However, a market-
sizing exercise
by the Pakistan Microfinance Network in 2019 showed significant potential for expansion
and identified a potential microcredit
market of 40.9 million borrowers and an MSE-
credit market size of 5.8 million microenterprises. This implies that microfinance
providers have only met 20 percent of the micro
-
credit demand and under 5 percent of
the MSE-credit demand.
63
Figure 3.13: MFPs as a share of borrowers and
financing portfolio
Percentage share
Source: Authors calculations based on data from SBP and Pakistan
Microfinance Network
d. Structural Impediments to the Financial Sector’s Potential
supply and
The financial sector is not fulfilling its potential in financing the private sector, focusing
instead on
providing financing to the government. However, the current situation is
driven by impediments in not only the supply but also the demand for finance. It is equally
important to note that the factors constraining greater intermediation extend beyond the
s
tructural factors mentioned in this section. These factors include more specific sub-
sector
-level impediments, as opposed to the cross-
cutting impediments delineated in this
section.
Supply Side
greater
Credit to the government, which includes investments in government securities, direct
lending for commodity operations, and lending to SOEs, has increased drastically in
recent years, both in levels and as a percentage of total credit extended by the banking
sector. The
Government is the dominant borrower in the system. Compared to the 131-
percent
increase in credit to the private sector over the period FY11–21, c
redit extended
by the banking sector to the government
surged by 442 percent over the same period
.
Th
is has led to credit to the public sector accounting for 66.8
percent of all the credit
extended by the banking sector
at end-December 2021 (Figure 3.14
). These trends are
not limited to the Banking sector but permeate across the financial sector. DFIs and
NBFIs such as pension funds, mutual funds, and insurance companies, and even the
capital markets are in the business of financing the government. In this respect, Pakistan
also stands out among peer comparators. As of 2019, credit by domestic money banks to
the government and SOEs as a share of GDP in Pakistan was the 11th highest among
the 156 countries for which data is available (Figure 3.15).
63
Pakistan Microfinance Network. Estimating the Potential Market for Microfinance in Pakistan including Credit, Savings, Payments, and
Insurance.
0
10
20
30
40
50
60
70
80
90
100
Borrowers Financing Portfolio
Microfinance Providers Commercial Banks
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
23
Figure 3.14: Government Borrowing from Banks,
FY11–21
PKR billion/Share of total
Figure 3.15: Credit to Government and state-owned
enterprises, 2019
Percentage of GDP
Source: Author’s calculations based on SBP data.
Source: International Financial Statistics
The financial sector has pivoted an ever-greater percentage of its asset base towards the
G
overnment
in recent years. This is due to several reasons: 1) government exposure offers
assumed risk
-free yield;
2) it does not entail any capital charges stemming from the fact
that it is risk
-
free; 3) it is liquid and can be offloaded in the secondary market, unlike
private lending, which is not marketable; 4) government
securities are
readily accepted
within the s
ystem as collateral
; and 5) investment in government paper is cheap and only
requires a treasury desk, as opposed to lending, which entails complex procedures and
requires significant human resources. Increasing exposure to the Government, however,
has come at a cost, the most important one being crowding out credit to the private sector.
Bouis (2019) finds that h
igher bank holdings of government debt
in emerging market and
developing economies is
associated with a lower credit growth to the private sector
and
with a higher return on assets of the banking sector
.
64
Research indicates that in Pakistan,
a 1
-percentage
point growth in government borrowing leads to crowding out of private
sector credit by 8 basis points in 4 months.
65
In the presence of a dominant borrower with no to low risk, the financial system has few
incentives
to design innovative financial products and institute robu
st risk management
practices to extend finance to
underserved sectors.
The impact of the “dominant
borrower syndrome” on deepening and efficiency in Pakistan is indicated by the fact that
alternative financing models such as value chain financing, warehouse receipt financing,
and factoring are still at a nascent stage in Pakistan.
but with
Refinance facilities operated by the SBP, such as Export Financing Scheme (EFS) and
Temporary Economic Refinance Facility
(TERF), accounted for
17 percent of the
outstanding credit to the private sector by banks
in June 2021.
66
The refinance facilities
offer concessional financing to Banks, which
is subsequently on-
lent to firms in the
private sector at below
-
market rates. Although these facilities have been operationalized
to spur investment and boost exports, in addition to the broader objective of enhancing
the flow of financing to the private sector, they can have a distortionary impact. Refinance
facilities can impede the development of capital markets by offering concessional
financing at long tenors, competing directly with the instruments and products offered in
the capital markets. These refinance facilities are also often not available to smaller firms.
Most importantly, however, refinance facilities usurp market discipline and the organic
functioning of the market.
64
Banks’ Holdings of Government Securities and Credit to the Private Sector in Emerging Market and Developing Economies. 2019.
Bouis, Romain. IMF Working Paper.
65
Does Government Borrowing Crowd Out Private Sector Credit in Pakistan. 2017. Zaheer, Sajjad; Khaliq, Fatima; Rafiq, Muhammad.
SBP Working Paper Series.
66
Author’s calculations based on SBP data.
20
30
40
50
60
70
80
-
5,000
10,000
15,000
20,000
Jun-08
Jun-09
Jun-10
Jun-11
Jun-12
Jun-13
Jun-14
Jun-15
Jun-16
Jun-17
Jun-18
Jun-19
Jun-20
Jun-21
Credit to Government
Credit to Private Sector and NBFCs
Credit to Government (% of Total Credit)
28.2
19.0
19.2
17.0
19.5
50.3
4.7
26.4
0 10 20 30 40 50 60
Pakistan
India
Bangladesh
Turkey
Malaysia
Egypt
Nigeria
Morocco
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
24
be
The financial sector finances investments through the intermediation of national savings.
Empirical findings suggest that increasing the fraction of domestic savings in the
financing of domestic capital (i.e., a rise in self
-finan
cing ratios) contributes to the
economic growth performance of countries.
67
Despite the importance of savings for
growth, gross savings in Pakistan are the lowest among peer comparators at 16.9 percent
of GDP as of 2020, barring Egypt (Figure 3.16).
The savings challenge has only been exacerbated by the low level of financial inclusion in
the country, where even those who save are not saving with the financial sys
tem,
and as
such savings are not being fully leveraged to support capital formation. Only 21 percent
of the population has access to an account and only 18 percent of the population uses
digital payments (
Figure 3.17).
68
There are also large gaps in financial inclusion, with
vulnerable segments having limited access at high prices. In terms of access to accounts,
7 percent of adult women have access compared to 35 percent of adult men, and 15
percent of young adults (ages
15–24) have access compared to 25 percent of older adults
.
It should be highlighted, however, that Pakistan has made
notable gains o
n the financial
inclusion agenda in recent years, supported by policy reforms and holistic strategies such
as the National
Financial Inclusion Strategy (see box 3
.1 on SBPs efforts to reduce the
gender gap in financial inclusion). However, despite the progress made, Pakistan
underperforms on key metrics of financial inclusion in comparison to its peer
comparators.
Estimates su
ggest that less than 50 percent of domestic savings find their
way to the financial sector, with the rest used in real estate, being intermediated through
informal
channels,
or are soaked up directly by the government through National
Savings.
69
The incent
ive system is skewed such that savings flow outside of the financial
sector.
The large quantum of currency in circulation (CiC)
in the economy is also
indicative of this trend. The CiC/M2 ratio, which averaged 22 percent till June 2015 has
increased to over 28 percent as of June 2021. The increase in CiC/M2 ratio translates into
excess CiC of PKR1.4 trillion. These are resources
that
could have been intermediated
for productive uses by the financial sector but are currently outside the sector.
Figure 3.16: Gross Savings
Percent of GDP
Figure 3.17: Account ownership at a financial
institution or with a mobile-money-service provider
Percent of population ages, 15+
Source: WDI
Source: Findex
67
Aytul Ganioglu & Cihan Yalcin, 2013. "Domestic Savings-Investment Gap and Growth : A Cross-Country Panel Study," Working
Papers 1346, Research and Monetary Policy Department, Central Bank of the Republic of Turkey.
68
World Bank Findex 2017. State Bank of Pakistan SME Finance Quarterly Reviews.
69
Ali, A – Saving and Investment in Pakistan, State Bank of Pakistan, 2016.
0
5
10
15
20
25
30
35
40
45
2010 2015 2020
0 50 100
Turkey
Pakistan
India
Bangladesh
Malaysia
Egypt
Nigeria
2017 2014 2011
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
25
Box 3.1: SBP’s Banking on Equality Policy: Reducing the Gender Gap in Financial Inclusion
The State Bank of Pakistan (SBP) launched the Banking on Equality policy in September 2021 to narrow the gender gap in
financial inclusion by introducing women-friendly business practices in the financial sector. To promote gender equality, the
financial institutions (FIs) within the regulatory ambit of SBP have been instructed to implement specific measures across
cross-cutting areas.
Measurable targets and actions have been assigned under key pillars of the policy intended to improve gender diversity within
financial institutions, development of women-centric financial products and services, marketing and increased outreach
toward women, financing to women entrepreneurs under the priority sectors, and collection of gender-disaggregated data to
inform better decision making. By 2024, FIs will be required to increase the ratio of women bank staff to 20 percent from
the current 12 percent, decrease the share of women branchless banking agents to 10 percent from 2 percent, outreach of
women centric products and financing to women entrepreneurs to reach 20 million unique active digital accounts by 2023,
and place Women Champions at 75 percent of bank touch points. The policy initiative is a significant shift away from the
previous gender-neutral approach to the one that actively seeks to address long standing barriers to women’s access and
usage of finance. Financial institutions will now be compelled to formulate policies and practices to increase women’s
workforce participation and design and market their offerings in line with women’s demographics and life cycle needs within
the local cultural and social context.
Banks in Pakistan are well-capitalized, with a capital adequacy ratio (CAR) of 16.7 percent
at end
-December 2021, well above the regulatory minimum of 11.5 percent.
70
As noted,
however, banks’ portfolios are heavily skewed towards lending to the sovereign, that is,
carrying a risk weight that is close to zero. In practice, this means that banks can increase
lending to the sovereign with no or m
inimal increases in total risk-
weighted assets, and
without lowering their CAR. By contrast, positive risk weights are applied to private sector
loans, with residential mortgages and retail and corporate lending subject to risk weights
of 35, 75, and 100 percent respectively. While capital levels are currently adequate given
the preponderance of government lending in banks’ portfolios, a significant expansion of
banks’ private sector lending portfolio would push up total risk
-
weighted assets and lower
the C
AR. Data collected for a sample of the largest fifteen banks indicate that total risk-
weighted assets amounted to PKR8,714 billion as of end
-
2020 with a total capital of
PKR1,624 billion.
71
Assuming all else equal, a simple doubling of the corporate, retail,
and residential mortgage portfolios would lower the CAR to slightly below 13 percent.
72
missing
infrastructure
nformational
Financial institutions in Pakistan find it difficult to assess the repayment capacity and
credit worthiness of potential borrowers in the presence of significant informational
asymmetries owing to limited and underdeveloped credit infrastructure. Knowledge gaps
in the existing system create uncertainty and heighten the risk of loan default, leading to
risk aversion, credit rationing, and a surge in risk premia, rendering loans unaffordable.
MSMEs
and low-income borrowers from the informal sector are particularly affected
by
informational asymmetries
as they do not have adequate collateral or credit history to
fulfill stringent
lending requirements.
Although progress has been made in recent years,
the market for credit information remains small and fragmented. The Credit Bureaus Act
for the regulation and issuance of licenses to credit bureaus, which collect credit
information and sell it to creditors for a fee so they can make informed credit decisions,
was introduced only in 2015. Currently, only 2 credit bureaus are operational in Pakistan,
in addition to SBP’s electronic Credit Information Bureau (eCIB). However, these
bureaus are constrained by multiple legal, policy
, and institutional hurdles. To addre
ss this
gap, t
he
SECP has established an electronic Secured Transactions Registry (STR) in line
with the Secured Transaction Act 2016. The registry helps SMEs and small farmers obtain
financing from banks/DFIs against a registered charge on their movable assets.
70
The CAR is a measure of how much capital a bank has available, reported as a percentage of the sum of a bank’s risk-weighted credit
exposures. The purpose is to establish that banks have enough capital on reserve to handle a certain number of losses, before being at risk
for becoming insolvent. Since different types of assets have different risk profiles, banks are allowed to discount for lower-risk assets.
71
For this sample of banks, the CAR thus amounts to 18.6 percent (PKR1,624 billion/PKR8,714 billion).
72
In this simplified example, it is assumed that the credit risk weighted assets for corporate, retail, and residential mortgage lending is
doubled. In practice, the decrease in the CAR could be more pronounced as the expansion in the private sector lending portfolio would
also increase operational risk weighted assets (which is expressed as a fixed percentage of gross income).
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
26
A transparent, predictable, and judicious insolvency and credit rights regime is critical in
lowering the cost of credit, expanding access to finance, and fostering entrepreneurship.
Pakistan’s insolvency and creditor rights regime, however, has not been conducive
to
the
meaningful
intermediation of funds for productive investment
to a more diversified
borrower pool.
Pakistan has a gross NPL ratio of 8.9 percent
and a recovery rate of 41
cents/dollar
. For high-income OECD countries,
this metric is 70 cents/dollar. The stock
of NPLs i
n Pakistan stood at PKR860 billion (approximately USD5 billion)
as of
December 2021
.
A significant percentage of these NPLs, however, are not new and can
instead be classified as legacy NPLs. This is captured by the fact that NPLs that are
overdue by more than 365 days (classified as “loss”) have accounted for over 80 percent
of the total stock of NPLs over the past decade. Due to the legal impediments to writing
-
off long overdue loans and lengthy litigation process, banks are reluctant to shed off bad
loans from their books. A m
eaningful resolution of these NPLs would not only
unlock
significant liquidity that can be used for productive lending
but would also give financial
institutions the impetus they need to extend financing to marginalized segments.
-tapped
On the investor side, the base of institutional investors that can invest at scale in the
markets,
although growing, is still very low and there is limited
awareness of capital market
products a
mong retail investors. Institutional
investors, like the vast majority of the
financial system,
also channel their resources towards financing the government.
On the
issuance side, there are several constraints as well. First, a large informal sector (as
d
iscussed below) implies that the pool of businesses
that are ready and willing to embrace
the transparency and governance requirements for market access is limited.
Second, fees
related to first
-time or repeated issuance of capital and debt instruments are
also high and
processing time for supervisory approval of documents regularly extends beyond 2
–
3
months. As a result, capital market options are rarely competitive vis
-a-
vis bank loans,
which are usually cheaper and simpler for issuers.
Third, Government debt issuances have
n
ot played a catalytic role in the development of the private debt capital market in Pakistan
either
. While the average time to maturity has increased in recent years (i.e.,
from less than
2 years in 2013 to ~3.8 years in 2021) governme
nt securities are mostly of shorter tenors,
which has hindered the development of a long
-term yield curve,
essential for the pricing
of corporate securities.
However, while the capital market is underutilized, authorities
, in
particular the SECP,
are engaged in an ambitious reform program to address
several of
the preconditions required for capital market development.
73
Demand Side
Most businesses in Pakistan operate in the informal sector. Informality is also high as a
share
of total employment. The share of formal workers (i.e.,
wage workers with a written
contract) of the total wage workers in Pakistan
was 27 percent as of 2017.
74
A large
informal and undocumented sector precludes a sizable percentage of the firms and
households from accessing the financial system. While households and businesses may
be able to open personal accounts, access to finance is predicated on cumbersome
d
ocumentation,
which can only be fulfilled if a business is operating in the formal
economy,
or an individual has a written employment contract. Informal income
assessment models are being developed
by the financial sector
to circumvent the
informality chal
lenge and this reform agenda has gained momentum with
the rise of the
FinTech sector.
Limited financial literacy has exacerbated the informality challenge in Pakistan. According
to the
Standard & Poor’s Ratings Services Global Financial Literacy Survey 2015 (S&P
Global FinLit Survey), only 26 percent of the adults in Pakistan are financially literate.
While this number is largely in line with the financial literacy numbers in the rest of South
73
The SECP corporatized and demutualized the stock exchanges in Pakistan in 2012. The Securities Act was also promulgated in 2015
aimed at effective regulation and enhanced protection of investors and public in general. In 2016, the three stock exchanges were integrated
into PSX. The tax regime for non-residents investing in debt securities has also been simplified, which should facilitate their participation in
the domestic capital markets.
74
Cho, Yoonyoung; Majoka, Zaineb. 2020. Pakistan Jobs Diagnostic: Promoting Access to Quality Jobs for All. Jobs Series; No. 20. World
Bank, Washington, DC. © World Bank.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
27
Asia, low financial literacy has had a bearing on demand for finance, especially in an
environment where the financial sector landscape grows increasingly complex. According
to the SBP
-Gallup Pakistan,
Access to Finance Survey 2015, 52 percent of unbanked
respondents identified a lack of knowledge about banks and bank accounts as the key
obstacle to account ownership. Similarly, more than 30 percent of the respondents cited
a
lack of knowledge for not making domestic person-to-person
transfers using banks,
mobile money, and post office.
Although
the average adult in Pakistan might still be
familiar with the utility of banks, this may not hold for the larger financial sector
landscape
, which includes mobile money, FinTechs, and NBFIs.
To address this
challenge, the SBP has launched the National Financial Literacy Program (NFLP) which
is focused on imparting basic financial education to the unbanked and underserved
segments of the population, especially the women & youth. As of June 2021, more than
1.6 million individuals had benefited from this program.
75
Pakistan ranks 7
th
out of 123 countries in terms of percent of respondents who do not
have an account with a financial institution due to religious reasons, according to the
global Findex database 2017. The growth of Islamic finance in recent years is also
indicative of the role played by religion in the financial decisions made by businesses and
households. Assets of Islamic Banking institutions as a percentage of assets of
conventional banks have increased from 12 percent in 2015 to 20.4 percent in 2020.
Deposits as a percentage of deposits of conventional banks, similarly, have also increased
from 15.2 percent to 22.3 percent.
he cost of finance
lack of
collateral
Demand has also remained subdued due to the cost of finance. While the cost of finance,
or the average lending rate, has come down over the past decade, from a high of 14
percent in 2010 to 10.75 percent in 2020, it remains elevated. The interest rate spread
(difference between lending and deposit rates), similarly, while having declined over the
past decade, remains high at 3.2 percent in 2020, against 2.2 percent in Bangladesh and
2.0 percent in Malaysia. The cost of finance is also a significant impediment to the growth
of microfinance. Interest rates for some products offered by MFPs can be as high as 50
percent
.
76
The
lack of collateral remains another significant challenge. Demand for
finance, even when economic agents are financially literate and are not deterred by
religious or cost
-
related reasons, has remained subdued due to the lack of collateral
required by most institutions in the financial sector.
e. Enhancing the Flow of Financing to the Real Economy
omy
The structural impediments to the enhanced flow of finance to the private sector require
concerted efforts by the government, regulators, and stakeholders to resolve in
the
medium to long term. The solutions to many of these challenges are complex and
necessitate a whole
-of-
system approach. Reducing the Government’s dependence on
borrowing from the financial sector to free up resources for the private sector, for
instance, requires a reduction in the fiscal deficit. This in turn requires greater resource
mobilization and expenditure consolidation measures. In addition to resolving these
structural challenges, five growth areas offer significant potential to unlock greater
flows
of financing to the real economy in the short
-medium term. These are: a) d
igital finance;
b
) risk capital; c) microfinance; d) development finance; and e) capital markets.
The table below
summarizes key recommendations
for addressing some of the challenges
currently preventing greater flow of financing to the private sector in Pakistan.
75
State Bank of Pakistan. Annual Performance Review 2020-21.
76
The How & the Why of Microfinance Lending Rates. 2019. Pakistan Microfinance Network.
Financing the Real Economy
Pakistan Development Update
April 2022
The World Bank
28
Area Policy Recommendation
Implementation
Timeframe
Responsible
Agencies
Structural
Reduce government’s usage of the domestic markets’
financial resources to encourage stronger flows to the
private sector
Long-term
Ministry of
Finance,
Debt Office,
SBP
Increase outreach, investor awareness, and financial
literacy to equip businesses and households with the
information required to access the financial sector and
the products offered by it
Medium-term
SBP, SECP
Pursue financial inclusion policies to tap into the
informal savings of the population
, particularly by
leveraging newly developed digital channels
Medium-term
SBP, SECP
Improve the business climate and incentives for
entering the formal market to facilitate SME growth
and usage of the formal financial sector, including by
automating the process of business registration and
consolidation of multiple registration processes into a
digital one stop shop
Medium-term
Board of
Investment
and relevant
government
departments
Address legal, policy, and institutional hurdles that
currently limit the development of the market for
credit information (including data sharing, data
privacy, integration of platforms etc.)
Medium-term
SBP, SECP
Enhance the effectiveness of the court system with
competence on insolvency proceedings and introduce
novel means to address micro and small enterprises’
insolvency including by building judicial specialization
on insolvency cases, strengthening the framework for
the rehabilitation of viable firms, and improving the
taxation regime around distressed assets)
Medium-term
Judiciary,
SBP
Strengthen banks’ capital base to provide space for
enhanced lending to riskier segments
Medium-term
SBP
Capital Markets
Provide time-bound incentives for strategic sectors
and large corporates to enter the bond market to help
develop the market, particularly by promoting listing
of large corporates with significant debt requirements
Short-term
SECP, SBP
Develop and diversify the investor base by equipping
institutional investors with appropriate investment
capacity and skills to invest in capital markets to
ensure they diversify investments beyond sovereign
paper and real estate
Medium-term
SECP
Support evolution of capital markets by encouraging
book-building of semi-autonomous bodies, reducing
tax driven distortions between asset classes, and
developing a
vibrant secondary market for
government securities
Digital Finance
Optimize delivery of government social transfers (e.g.,
BISP), leverage and integrate the micro-payment
gateway (RAAST) to facilitate outreach and inclusion
Short-term
SBP
Digitize government payments and collection flows at
the federal and provincial levels
Medium-term
SBP,
Ministry of
Finance
Risk Capital
Establish a central coordinating mechanism to
support a holistic approach towards building an
enabling environment for risk capital in Pakistan to
ensure an industry driven legislative framework for
risk capital
Short-term
SECP
Financing the Real Economy
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April 2022
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Improve the regulatory and taxation framework for
international investors and supporter stronger
incentivization for local funds
Short-term
SECP,
Federal
Board of
Revenue
Crowd in institutional investors such as pension funds
and insurance companies that can play a catalytic role
in broadening and diversifying the financing base for
risk capital through a review and potential revision of
the regulatory and policy regimes
Medium-term
SECP
Microfinance
Support product innovation and outreach to grow the
MSE portfolio through more rigorous client centric
product development and customer outreach
Short term
PMN, SECP,
SBP
Digitize all facets of microfinance business models
including internal processes and client interfaces
Medium-term
PMN, SECP,
SBP
Development Finance
(DF)
Establish a coordinating unit that can serve as a
depository for DF initiatives such as Kamyab Pakistan
Program, both federal and provincial, in addition to
supporting the monitoring and evaluation of the DF
interventions to limit their distortionary impact
Short-term
MoF, SBP
Consolidate and harmonize existing instruments and
institutions that characterize the development finance
landscape, after an effectiveness review based on a
clear mandate, governance, and rules of engagement
Medium-term
MoF, SBP
Financing the Real Economy
Pakistan Development Update
April 2022
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30
References
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https://www.imf.org/en/Publications/CR/Issues/2022/02/04/Pakistan-2021-
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https://pmn.org.pk/wp-
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Pakistan Microfinance Network. 2019. The How & the Why of Microfinance Lending Rates. Accessible at
https://pmn.org.pk/wp-content/uploads/2020/03/howwhyofmflendingrates.pdf
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https://www.sbp.org.pk/departments/ihfd/QR/Infrastructure/2016/Jul-Dec-2016.pdf
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Reforms.
State Bank of Pakistan. 2020. Financial Stability Review. Accessible at:
https://www.sbp.org.pk/FSR/2020/Chp-
5.2.pdf. A total of 21 pension funds were operational in Pakistan as of December 2021.
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State Bank of Pakistan. 2021. Annual Performance Review 2020-21. Accessible at
https://www.sbp.org.pk/reports/annual/arFY21/Vol-1/Chapter-4.pdf
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https://www.sbp.org.pk/reports/stat_reviews/Bulletin/2022/Jan/BankingSystem.pdf
World Bank Findex. 2017. State Bank of Pakistan SME Finance Quarterly Reviews.
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Diagnostic; World Bank, Washington, DC. © World Bank.
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World Bank. https://openknowledge.worldbank.org/handle/10986/36883
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Credit in Pakistan? SBP Working Paper Series accessible at:
https://www.sbp.org.pk/publications/wpapers/2017/wp83.pdf
Financing the Real Economy
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Statistical Annex
Annex Table 1: Key Macroeconomic indicators (annual)
FY17 FY18 FY19 FY20 FY21
Real GDP growth, at constant market prices 4.4 6.2 2.5 -1.3 6.0
Private consumption 6.9 7.2 5.6 -3.1 6.3
Government consumption 4.5 5.5 -1.6 8.4 3.1
Gross Fixed Capital Investment 7.7 10.3 -11.1 -5.5 6.8
Exports, Goods and Services 2.5 10.0 13.2 1.5 4.8
Imports, Goods and Services 19.0 15.7 7.6 -5.1 5.5
Real GDP growth, at constant factor prices 4.6 6.1 3.1 -1.0 5.6
Agriculture 2.2 3.9 0.9 3.9 3.5
Industry 4.6 9.2 0.2 -5.8 7.8
Services 5.6 6.0 5.0 -1.3 5.7
Inflation (Consumer Price Index, period average) 4.8 4.7 6.8 10.7 8.9
Current Account Balance (% of GDP) -3.6 -5.4 -4.2 -1.5 -0.6
Fiscal Balance, excluding grants (% of GDP) -5.2 -5.8 -7.9 -7.1 -6.1
General Govt. and Govt. Guaranteed Debt (incl. IMF
obligations) (% of GDP)
63.2 67.1 78.0 81.1 76.0
Primary Balance, excluding grants (% of GDP) -1.4 -1.9 -3.1 -1.6 -1.2
Sources: (i) Pakistan Bureau of Statistics, (ii) Fiscal Operations, Ministry of Finance, (iii) State Bank of Pakistan, and (iv) World Bank staff estimates
Note: The Pakistan Bureau of Statistics rebased national accounts from 2005/06 prices to 2015/16 prices in January 2022. PBS has not published
demand-side data on the re-based national accounts for FY21. The above table reports World Bank estimates for FY21 expenditure accounts to
conform to the production accounts' new base year data.
Annex Table 2: Balance of payments summary
1
US$ million unless mentioned otherwise
FY20
FY21
H1-FY20
H1-FY21
H1-FY22
i. Current account (A+B+C+D) -4,449 -1,916 -3,447 1,247 -9,023
A. Good trade balance -21,109 -28,188 -10,906 -11,386 -21,187
Goods Exports 22,536 25,630 12,408 11,815 15,235
Goods Imports 43,645 53,818 23,314 23,201 36,422
B. Services Trade Balance -3,316 -1,957 -2,070 -944 -1,823
Services Exports 5,437 5,882 2,924 2,840 3,424
Services Imports 8,753 7,839 4,994 3,784 5,247
Trade Balance -24,425 -30,145 -12,976 -12,330 -23,010
C. Balance on primary income
2
-5,459 -4,613 -3,063 -2,673 -2,481
D. Balance on secondary income
2
25,435 32,842 12,592 16,250 16,468
of which, remittances 23,131 29,370 11,371 14,203 15,808
ii.
Capital account 285 235 198 132 119
1. Balance from current and capital accounts (i+ii)
3
-4,164 -1,681 -3,249 1,379 -8,904
2.
Financial accounts
4
-9,313 -8,225 -7,145 -309 -10,052
of which:
Direct investment -2,652 -1,786 -1,408 -827 -976
Portfolio investment 409 -2,770 -584 443 374
Financial derivatives/employee stock options -8 0 -4 2 -1
Net acquisition of financial assets -127 471 187 1,573 415
Net incurrence of financial liabilities 6,935 4,140 5,336 1,500 9,864
3. Errors and omissions 150 -991 458 -406 -360
Overall balance (-1+2-3) -5,299 -5,553 -4,354 -1,282 -788
Gross SBP reserves (incl. CRR, SCRR)
5
13,724 18,716 13,278 14,886 19,058
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Memorandum items
Current account balance (percent of GDP) -1.5 -0.6 - - -
Trade Balance (percent of GDP) -8.1
-
8.7
- - -
Export growth (percent, y-o-y)
-7.4
12.7
3.0
-4.4
27.3
Import growth (percent, y-o-y) -16.6 17.7 -14.6 -4.7 54.4
Remittance growth (percent, y-o-y)
6.4
27.0
3.5
24.9
11.3
Financial account (percent of GDP)
3.
1
2.
4
- - -
Overall Balance (percent of GDP)
-
1.8
-1.
6
- - -
Source: State Bank of Pakistan, World Bank Staff calculations
Notes:
1
As per Balance of Payments Manual 6 (BPM6).
2
In BPM6, the income account has been renamed “primary income” and current transfers, “secondary income.”
3
A negative balance shows that the economy is a net borrower from the rest of the world.
4
A negative balance highlights a net increase in the incurrence of foreign liabilities.
5
CRR: Cash Reserve Requirement, SCRR: Special Cash Reserve Requirement.
Annex Table 3: Summary of Pakistan’s Fiscal Operations
PKR billion (unless mentioned otherwise)
FY20
FY21
H1 FY20
H1 FY21
H1 FY22
H1 FY21
Growth
y-o-y (%)
H1 FY22
Growth
y-o-y (%)
Fiscal Balance -3,376 -3,403 -995 -1,138 -1,372 14.4 20.6
Primary Balance -757 -654 286 337 81 17.7 -76.0
Total Revenue
6,272
6,903
3,232
3,351
3,956
3.7
18.0
Tax Revenue
1
4,751
5,760
2,467
2,764
3,294
12.0
19.2
Federal
4,337
5,251
2,252
2,518
3,023
11.8
20.1
Provincial
414
508
214
246
271
14.7
10.3
Non-Tax 1,521 1,144 765 587 662 -23.2 12.6
Federal
1,419
993
705
540
594
-23.4
10.0
Provincial
102
150
60
47
68
-21.2
43.1
Expenditures
9,648
10,307
4,227
4,489
5,328
6.2
18.7
Current of which:
8,532
9,084
3,721
4,029
4,676
8.3
16.0
Interest
2,620
2,750
1,281
1,475
1,453
15.1
-1.5
Defense
1,213
1,316
530
487
520
-8.1
7.0
Development Expenditure
and net lending, of which
1,204 1,316 473 458 571 -3.3 24.8
Total PSDP
2
1,090
1,211
457
403
565
-11.8
40.2
Other development
65
27
8
11
0
35.4
-100.0
Net lending
49
77
8
44
6
424.9
-86.1
Statistical Discrepancy
-87
-93
32
2
81
-94.1
4147.4
Source: Ministry of Finance, World Bank staff calculations
Notes:
1
For FY21, the Ministry of Finance switched Gas Infrastructure Development Cess, Natural Gas Development Surcharge, and
Petroleum Levy from tax to non-tax revenues. For consistency of analysis across years, these taxes have been included in tax revenues.
2
Public Sector Development Programme.
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