A Report to the Operations Evaluation Department Asian Development Bank For the Country Assistance Program Evaluation for Pakistan Pakistan Private Sector Assistance Evaluation, 1985–2004 by Jayyad Malik Lloyd Powell July 2006 CURRENCY EQUIVALENTS (as of 1 November 2005) Currency Unit – Pakistan rupee/s (PRe/PRs) PRe1.00 = $0.0167 $1.00 = PRs59.73 ABBREVIATIONS ADB – Asian Development Bank BCO – Banking Companies Ordinance 1962 CSP – country strategy and program FYP – five-year plan MFI – microfinance institution NBFI – non-bank financial institution NGO – nongovernment organization PCR – project completion report PRM – Pakistan Resident Mission SBP – State Bank of Pakistan SECP – Securities and Exchange Commission of Pakistan SME – small and medium enterprise TA – technical assistance ZTBL – Zarai Tarqiati Bank Limited NOTES (i) In this report, “$” refers to US dollars. CONTENTS EXECUTIVE SUMMARY iii I. INTRODUCTION 1 A. Background 1 B. Scope and Objectives of the Evaluation 2 C. Evaluation Methodology 2 D. Report Content 3 II. PRIVATE SECTOR PERFORMANCE AND CONSTRAINTS 3 A. Private Sector Overview 3 B. Private Sector Constraints 4 III. FINANCE SECTOR PERFORMANCE AND ISSUES 6 A. Introduction 6 B. Banking Sector 6 C. Non-Bank Financial Institutions 15 IV. STRATEGIES AND POLICIES 22 A. Government Strategies and Policies 23 B. ADB’s Country Strategies 25 V. DESCRIPTION OF ADB’S PRIVATE SECTOR OPERATIONS 30 A. Finance Sector Development (Public Sector Loans) 30 B. Private Sector Transactions 34 C. Other Operational Activities 37 VI. CONCLUSIONS AND RECOMMENDATIONS 38 A. Overall Conclusions 38 B. Recommendations 43 APPENDIXES 1. Pakistan Public Sector Loans 1984–2004 45 2. Pakistan Private Sector Loans/Equity 19984–2004 46 3. Securities and Exchange Commission of Pakistan Ordinance 1997 47 4. Individuals Interviewed for Private Sector Evaluation Mission 76 This report is a working paper for the Country Assistance Program Evaluation for Pakistan. OED Working Papers are an informal series to present the findings of work in progress in evaluation. They are circulated to encourage discussion and elicit comment. The views expressed in this report are those of the author(s) and do not necessarily reflect the views and policies of the Asian Development Bank, or its Board of Governors or the governments they represent. The Asian Development Bank does not guarantee the accuracy of the data included in this report and accepts no responsibility for any consequences of their use. Use of the term “country” does not imply any judgment by the author(s) or the Asian Development Bank as to the legal or other status of any territorial entity. EXECUTIVE SUMMARY This report evaluates 20 years (1985–2004) of Asian Development Bank’s (ADB) support to the private sector in Pakistan. During this timeframe, ADB has formulated five strategy documents to guide its operations in Pakistan (plus two annual updates) and has approved $2,241 million in public and private sector facilities of which around 79% or $1,774 million was for 16 public sector projects.1 The remainder, 21% or $467 million was allocated across 38 private sector facilities.2 Over the same period, ADB approved 18 technical assistance (TA) grants for the finance sector for a total of $7.038 million. Pakistan has undergone significant economic changes over the last 20 years. These changes have had (and in many cases continue to have) an immediate and far-reaching impact on the scope as well as scale of private sector activities within the country. Similarly, the nature of support provided by ADB in order to enhance private sector participation has also evolved over the last two decades. Overall, ADB pursued two main strategies for assisting private sector in Pakistan. The first strategy was followed up until the mid-1990s and involved ADB providing much needed capital to private sector entities through its private sector operations window. Under this strategy, ADB approved $467 million for 38 projects. These projects accounted for 21% of the total ADB private sector assistance and involved ADB providing loans to private sector entities and/or taking equity positions in these businesses. Such interventions made sense at the time given the difficulties the private sector faced in their attempts to access financial resources due to a highly regulated and state controlled economy. However, the main drawback with this strategy was that these interventions were not material in the context of the size of the economy and, as such, did not bring about sustainable reforms. Of the total 38 private sector transactions, 13 occurred during the 1980s, 23 during the 1990s, and 2 in 2000s. The spike in the number of transactions coincides with the time (during the 1980s and the 1990s) that Pakistan’s economy was mired in economic problems and ADB decided to step in and provide the much needed financial support directly to the private sector. Overall, these private sector interventions appear to be well intentioned, commercial, and effective.3 In the mid-1990s, after the Government signed up for the most recent Structural Adjustment Program (macroeconomic stabilization of the International Monetary Fund and the World Bank) and committed to a broad set of reforms, ADB stepped up its efforts and quickly shifted its private sector assistance strategy by working directly with the Government in order to effect meaningful and sustainable financial sector reforms. This strategy shift was co- coordinated with the World Bank and was based on the assumption that a robust financial infrastructure was a prerequisite for establishing a thriving private sector that would enable the country to achieve both its economic growth as well as its poverty alleviation objectives. Under this strategy ADB approved $1,774 million for 16 public sector projects that were geared towards strengthening the country’s financial systems. These finance sector reform projects make up a major portion (79%) of ADB’s private sector assistance activities over the last 20 years. Some key accomplishments associated with ADB’s private sector assistance include (i) bringing about policy reform, (ii) developing the country’s capital markets, (iii) kick-starting the country’s microfinance sector, (iv) supporting private sector entities through ADB’s private 1 Details on ADB’s public sector interventions between 1984 and 2004 are provided as Appendix 1. 2 Details on ADB’s private sector interventions between 1984 and 2004 are provided as Appendix 2. 3 Currently, ADB’s Private sector operation is considering investing in an existing mineral sector public private partnership venture in Balochistan. iv sector operations window, (v) delivering TA for conducting critical analysis across a broad range of finance subsectors, and (vi) assisting the Government’s efforts towards restructuring financial institutions (such as Zarai Tarqiati Bank Limited [ZTBL] and SME Bank). However, there are some finance sector development projects that are raising questions and concerns because either they are not delivering anticipated results (e.g., large amounts spent on restructuring public sector organizations—ZTBL and SME Bank), or they are seen to provide an unfair subsidy (e.g., continued ADB funding of Government-sponsored microfinance bank—Khushali Bank). Private sector transactions undertaken under the first strategy were more effective but were not able to bring about any meaningful reform primarily due to their (smaller) size and (narrow) focus. On the other hand, finance sector development projects carried out in the second strategy were much larger in scale and scope as well as more sustainable. However, these projects appear to be much less effective due to (i) insufficient understanding of the sector/subsector as witnessed by low levels of TA resource allocation prior to loan approval, (ii) over-reliance on ability to transform (almost bankrupt) public sector agencies into viable commercial entities, and (iii) simultaneously supporting multiple subsectors (e.g., rural finance, microfinance, small and medium enterprise, capital markets, etc.). From an operational standpoint, initial parts of these projects (project planning and approval) went smoothly, but then some projects encountered problems during implementation. These problems were caused by (i) limited capacity within the Pakistan Resident Mission (PRM) to effectively implement projects and/or maintain relationship with key stakeholders, (ii) high staff turnover (both at PRM and headquarters) which raised confusion with regards to accountability, and (iii) Government’s responsiveness in implementing reforms and/or regulatory frameworks. More recent government plans (such as the Ten-Year Perspective Plan and the Medium Term Development Framework 2005–2010) indicate that the Government is more confident and is taking the lead in establishing what and how it plans to develop its economy. The following principal recommendations are made: Recommendations Responsibility For Government Consideration 1. Immediate Action. The Ministry of Finance, for the Coordination by Ministry of Government, should commission an assessment that Finance provides a “gap-analysis” (i.e., what support does the financial sector need to evolve into a mature/developed financial sector) and a series of recommendations based on international financial market standards and a fully-costed and time bound action plan to get there. It is vital that international and local financial market operators are utilized for this assignment. For ADB