Pakistan Afghanistan at a Glance: 2001-02

COUNTRY REPORT

Pakistan Afghanistan At a glance: 2001-02

OVERVIEW The military government is likely to face a united Pakistan People’s Party and Pakistan Muslim League opposition sooner rather than later, and may decide not to remain in power until October 2002. Although an agreement with the IMF appears imminent, the prolonged period of negotiations, and the government’s inability to resolve the dispute with an independent power producer, the Hub Power Company, have severely tarnished investor confidence. Tensions with India will remain high over the disputed territory of Kashmir. Although the government remains committed to extending the tax base, progress will remain slow and the government will back away from fully imposing unpopular taxes. Key changes from last month Political outlook • There is a growing possibility that the military may attempt to hold a general election by the end of 2001, so that the military is not discredited and Pakistan’s international stature improves. • Moves to exclude supporters of the two main parties from the forthcoming local elections may result in increased support for more extreme ethnic and religious parties, with potentially dangerous consequences. Economic policy outlook • The government appears committed to following through its privatisation proposals, but its target of raising up to US$4bn in the forecast period is optimistic. Economic forecast • The EIU has raised its average consumer price inflation forecast for 2001 to 8%, as the effects of the imposition of the general sales tax at retail level, and the depreciation of the currency in September-October, filter through into consumer prices.

November 2000

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ISSN 0269-7173

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Contents

3 Summary

Pakistan

5 Political structure 6 Economic structure 6 Annual indicators 7 Quarterly indicators 8 Outlook for 2001-02 8 Political outlook 10 Economic policy outlook 11 Economic forecast 14 The political scene 17 Economic policy 21 The domestic economy 21 Economic trends 22 Industry 23 Agriculture 24 Infrastructure 25 Foreign trade and payments

Afghanistan

27 Political structure 28 Economic structure 28 Annual indicators 29 Outlook for 2001-02 30 The political scene 32 Economic policy and the economy

List of tables

11 Pakistan: international assumptions summary 12 Pakistan: forecast summary

List of figures

14 Pakistan: gross domestic product 14 Pakistan: Pakistan rupee real exchange rate 19 Pakistan: external debt 24 Pakistan: foreign investment 26 Pakistan: current account

EIU Country Report November 2000 © The Economist Intelligence Unit Limited 2000 EIU Country Report November 2000 © The Economist Intelligence Unit Limited 2000 3

Summary

November 2000

Pakistan

Outlook for 2001-02 The military government is likely to remain in power until 2002, but may attempt to relinquish power in 2001. Relations with India will remain poor. Business confidence will be weak, but a loan agreement with the IMF should be reached preventing Pakistan from defaulting on its external debt-servicing obligations. The fiscal deficit will remain problematic. GDP growth should strengthen on the back of an industrial rebound. Inflation will rise as the general sales tax is imposed and the currency weakens.

The political scene The National Accountability Bureau (NAB) has targeted politicians and bureaucrats, convicting 48 during the first year of the military government but has ignored corruption allegations against the military and judiciary, undermining its moral authority. There are concerns that a crackdown on the press may occur, after armed soldiers carried out an exercise against the Dawn newspaper in Karachi. Resignations have eroded confidence in the military government. India has been blamed for a bombing campaign in urban centres of Pakistan, and fighting has continued across the Line of Control dividing Indian and Pakistani Kashmir.

Economic policy The government’s relations with traders’ organisations remain poor, but it is continuing its attempts to increase the income tax net. The debt-rescheduling programme, due to have been completed on October 19th, remains incomplete. The government is kick-starting the privatisation programme.

The domestic economy GDP growth in 1999/2000 was underpinned by a strong agricultural performance. Government revenue remains below target, and the rupee has fallen in value since the government removed the unofficial cap on the interbank rate. Inflation is rising, but the industrial sector is performing well. Another good cotton crop is expected in 2000/01, but wheat production may fall. The dispute with the Hub Power Company remains unresolved.

Foreign trade and Exports have risen by 14.5% year on year in the first quarter of 2000/01, but a payments 12.5% rise in imports has led the trade deficit to increase to US$509m from US$487m in the corresponding period of the previous year. Remittances have increased between July and September, but may fall owing to the widening differential between the black market and official rates, and the depreciation of the rupee requiring expatriates to remit less funds.

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Afghanistan

Outlook for 2001-02 The Taliban may take control of all of Afghanistan, and will put heavy pressure on the opposition Northern Alliance (NA). Drug production has fallen, but funding cuts to the UN’s drug control programme may reverse this trend. More sanctions may be imposed on Afghanistan, and there are fears of an imminent US missile attack on Afghanistan if Osama bin Laden is linked to an attack on a US destroyer in Yemen. Central Asian states may divide between a minority wanting to recognise the Taliban, and the remainder hostile to it.

The political scene The Taliban have reached the border with Tajikistan, placing pressure on the opposition Northern Alliance. The UN continues to push for peace, and a new opposition movement has been formed based in Peshawar. De-mining programmes are facing difficulty. Italy has proposed a humanitarian aid corridor passing aid to both the Taliban and the NA.

Economic policy and the The Taliban is attempting to improve commerce, and has targeted domestic economy international trade, with trade barriers between Pakistan, Iran and Turkmenistan removed. A number of industrial projects have been approved. A Pakistan delegation announced plans to open factories and banks in Afghanistan. The UN has called for intervention to prevent famine in drought- stricken areas of northern Afghanistan.

Editors: Gareth Price (editor); Graham Richardson (consulting editor) Editorial closing date November 3rd 2000 All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

EIU Country Report November 2000 © The Economist Intelligence Unit Limited 2000 Pakistan 5

Pakistan

Political structure

Official name Islamic Republic of Pakistan

Form of state Federal parliamentary system suspended by military coup on October 12th 1999

The executive As a result of the October 12th coup, the chief of army staff and chairman of the joint chiefs of staff committee, General Pervez Musharraf, is now designated the chief executive of Pakistan. The prime minister, who held supreme executive authority as a result of constitutional changes in 1997, has been dismissed. The president remains in place as head of state. The president is elected by an electoral college, consisting of both houses of the federal parliament as well as members of all four provincial legislatures

National legislature Bicameral legislature: the lower house, the National Assembly, was suspended on October 12th. It has 217 directly elected members, of whom ten represent minorities and serve for five years; the life of the suspended National Assembly will last until February 2002 unless it is abrogated earlier by the military authorities. The upper house, the Senate, has 87 members elected for six years, with one-third retiring every two years. (The next Senate election was due by March 2000 but the Senate will have to be restored by the military government.) Each of the four provinces elects 19 senators; the remaining 11 are elected from the Federal Capital Territory and the federally administered tribal areas

Provincial government Pakistan has four provinces, which enjoy considerable autonomy. Before the coup, each province had a governor and a council of ministers headed by a chief minister, who was elected by a provincial assembly. All provincial governments have now been dismissed and all assemblies suspended. Each province now has a military-appointed governor

National elections Originally scheduled for December 2002 (presidential) and February 2002 (National Assembly), the Supreme Court has ordered that elections to the national and provincial assemblies must be held by October 2002. General Musharraf has said he will abide by the court’s decision

National government The Pakistan Muslim League (Nawaz) government of the prime minister, Nawaz Sharif, formed in February 1997, was ousted in a military coup on October 12th 1999

Main political organisations Pakistan Muslim League (Nawaz) (PML(N)); Pakistan People’s Party (PPP); Jamaat-i-Islami (JI); Muttahida Qaumi Movement (MQM); Awami National Party (ANP); Jamiat-i-Ulema- i-Pakistan (JUI); Tehrik-i-Insaf (TI); Millat Party

President Rafiq Tarar

National Security Council Chief executive General Pervez Musharraf Chief of air staff Marshal Pervaiz Mehdi Qureshi Chief of navy staff Admiral Abdul Aziz Mirza Senior adviser to chief executive Sharifuddin Pirzada Finance minister Shaukat Aziz Foreign affairs minister Adbul Sattar Interior minister Lieutenant-General (retired) Moinuddin Haider

Central Bank governor Ishrat Hussain

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Economic structure

Annual indicators

1996 1997 1998 1999 2000a GDP at market prices (PRs bn) 2,141.8a 2,457.4a 2,740.0a 2,995.7a 3,281.9b GDP (US$ bn) 63.8 63.0 63.4 64.0 63.4 Real GDP growth (%) 5.0 1.2 1.2 2.7 5.6a Consumer price inflation (av; %) 10.4 11.4 6.2 4.1 5.2 Population (m) 134.2 138.2 131.5 c 134.5 138.1 Exports of goods fob (US$ m) 8,507.0 8,351.0 8,545.9b 8,710.8b 9,595.8 Imports of goods fob (US$ m) 12,164.0 10,750.0 9,272.1b 10,032.0b 11,473.4 Current-account balance (US$ m) –4,438.0 –1,710.0 –1,959.4b –2,879.4b –3,244.0 Foreign-exchange reserves excl gold (US$ m) 548.0 1,195.0 1,028.0 1,511.0 1,200.0 Total external debt (US$ bn) 29.7 30.0 32.2b 35.7b 37.7 Debt-service ratio, paid (%) 27.0 35.2 24.0b 16.5b 18.9 Exchange rate (av) PRs:US$ 35.91 40.92 44.94 49.12 56.13

November 13th 2000 PRs56.155:US$1

% of % of Origins of gross domestic product 1998/99d total Components of gross domestic product 1998/99d total Agriculture 25.4 Private consumption 72.5 Manufacturing 17.1 Government consumption 11.4 Electricity, gas & water supply 3.8 Fixed investment 13.6 Construction 3.4 Change in stocks 2.4 Mining 0.5 Exports of goods & services 15.2 Services 49.7 Imports of goods & services –15.3 GDP at factor cost 100.0 GDP at market prices 100.0

Principal exports 1998e US$ m Principal imports 1998e US$ m Cotton fabrics 1,142 Machinery 2,043 Cotton yarn 984 Petroleum & products 1,310 Knitwear 731 Palm oil 627 Ready-made garments 690 Wheat 356 Rice 556 Plastics 305 Total incl others 8,105 Total incl others 9,028

Main destination of exports 1998 % of total Main origins of imports 1998 % of total US 21.4 US 9.8 Hong Kong 7.0 Japan 8.0 UK 6.7 Malaysia 7.8 Germany 6.5 Saudi Arabia 6.4 UAE 5.0 UAE 6.2 a Actual. b EIU estimates. c Figure from IFS series, based on Statistics Division of Population Census Organisation. d Fiscal years ending June 30th. e Customs basis

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Quarterly indicators

1998 1999 2000 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr Output Manufacturing index (1995=100) 88.7 109.5 139.8 101.1 92.6 121.2 n/a n/a % change, year on year 4.7 1.8 3.6 5.1 4.4 10.7 n/a n/a Prices Consumer prices: (1995=100) 132.0 133.7 134.3 135.0 136.4 138.2 138.8 140.8 % change, year on year 6.7 6.4 5.7 4.2 3.3 3.4 3.4 4.3 Wholesale general (1995=100) 140.2 141.7 143.7 143.7 144.3 142.9 144.4 147.8 % change, year on year 6.9 6.8 7.0 4.8 2.9 0.8 0.5 2.9 Financial indicators Exchange rate PRs:US$ (av) 46.00 46.00 46.00 46.00 n/a 51.77 51.80 51.79 PRs:US$ (end-period) 45.89 45.89 46.00 51.39 51.75 51.79 51.62 51.79 Interest rates (%) Discount (end-period) 16.50 16.50 15.50 13.00 13.00 13.00 11.00 11.00 Money market (av) 5.42 8.41 9.37 8.37 8.46 9.95 7.04 8.63 Treasury bill (av) 14.74 n/a 12.37 n/a n/a 10.20 7.77 7.18 M1 (end-period; PRs bn) 667.2 732.3 715.8 726.8 719.7 795.4 784.7 820.8 % change, year on year 17.7 4.6 10.9 11.2 7.9 8.6 9.6 12.9 M2 (end-period; PRs bn) 1,208.4 1,262.5 1,248.4 1,282.0 1,273.0 1,317.0 1,321.0 1,400.6 % change, year on year 13.8 7.9 4.0 6.6 5.3 4.3 5.8 9.3 Stockmarket KSE 100 index (end- period; Nov 1st 1991=1,000) 1,112 945 1,057 1,055 1,199 1,409 2,000 1,521 Sectoral trends Cotton (av; production) Yarn (‘000 tonnes) 125.2 128.8 128.6 130.9 136.4 138.5 141.3 n/a Fabrics (m sq metres) 30.2 33.3 29.5 35.2 35.5 35.5 35.3 n/a Foreign trade (PRs bn) Exports fob 91.62 99.96 94.64 107.63 100.83 114.23 108.25 122.85 Imports cif –100.85 –112.80 –110.71 –141.60 –125.41 –127.73 –134.93 –145.72 Trade balance –9.23 –12.84 –16.07 –33.98 –24.58 –13.50 –26.68 –22.87 Foreign reserves (US$ m) Reserves excl gold (end-period;) 676 1,028 1,650 1,678 1,494 1,511 1,583 1,395 Sources: State Bank of Pakistan, Statistical Bulletin; IMF, International Financial Statistics; Standard & Poor’s, Emerging Stock Market Review.

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Outlook for 2001-02

Political outlook

Domestic politics General Pervez Musharraf insists that the election schedule will not be changed: local elections will be held from December 2000 to July 2001, provincial elections in the summer of 2002 and general elections not later than October 2002. General Musharraf has ruled out restoring parliament or imposing an interim prime minister and a civilian government.

However, it is believed that there is a growing view among some elements of the military that the election schedule should be advanced by a year with civilians taking power by the end of 2001. This view stems, firstly, from a growing belief that the army’s performance has been below par, harming the military’s image. Secondly, the international community’s dislike for military regimes is likely to preclude desperately needed economic assistance, and this isolation will not end until democracy returns to Pakistan. Thirdly, the Pakistan Muslim League (PML) and the Pakistan People’s Party (PPP) are liable, sooner rather than later, to join together against the military. A crackdown on the movement would increase Pakistan’s isolation, while allowing the movement to proceed would cause a rapid erosion of the army’s writ and further undermine its ability to govern. Thus, there is a recognition that the sooner elected civilians can be brought in to take responsibility for the unpopular economic and political decisions which lie ahead—including signing the Comprehensive Test Ban Treaty and agreeing to the belt-tightening conditions for an economic bailout package from the IMF—the better for the army and the country.

Under this scenario, the government will first attempt to disqualify “undesirable” politicians from participating in the electoral process. A general election would be held in October 2001, following which civilians would take power, with three conditions: the new parliament would amend the constitution to absolve the military of all actions taken since the coup; it would create a powerful National Security Council (NSC) standing above the cabinet, comprising the three service chiefs and headed by the president (which could be General Musharraf, due to retire on October 12th, 2001); the NSC would have the power to remove a renegade prime minister, and to ask parliament to elect another one from amongst its members. Thus, the current reform programme could be protected while parliaments could complete their five-year terms without being dismissed or suspended whenever a prime minister displeased the military.

Although this seems logical, its outcome may largely depend on institutional power struggles within the army. If General Musharraf were to relinquish his position as army chief in October 2001 and become president, the Karachi military commander, General Muzaffar Usmani, would be entitled to succeed him for the next three years. This would suit General Usmani, one of three generals who General Musharraf thanks for initiating

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the coup after he was sacked by the former prime minister, Nawaz Sharif, while he was out of the country.

However, the other two generals, the current head of the Inter Services Intelligence (ISI), General Mehmood Ahmad, and the hawkish military commander of Lahore, General Mohammad Aziz, are themselves ambitious and are likely to oppose changing the election schedule. This would require General Musharraf to extend his tenure, and those of Generals Ahmad and Aziz, by one year in October 2001, making one of them eligible to succeed him as army chief in October 2002. Meanwhile, General Usmani and a couple of other senior generals would have retired in 2001. Therefore, depending on how General Musharraf perceives the situation within both the army and the country, the possibility of general elections at the end of 2001 rather than at the end of 2002 cannot be ruled out. Among the leading contenders to become interim prime minister could be a former interim prime minister (in 1993) and former senior World Bank vice-president, Moeen Qureshi.

The government’s plan to hold non-party local elections between December and July raises serious problems. The military is determined to exclude supporters of the PML and the PPP—the ISI, military intelligence and military commanders have been instructed to find pretexts to ensure such people are disqualified. The army is hoping that untainted and pro-military politicians will be elected. However, eliminating mainstream politicians and parties could allow Islamic parties, ethnic groups and regional blocs who have never previously succeeded electorally to win a disproportionate number of seats by default, creating a recipe for future institutional breakdown.

International relations Relations with India remain tempestuous, and another conflict in Kashmir cannot be ruled out. India’s leaders have not forgiven Pakistan’s generals for launching an assault in Kargil in May 1999, during which several hundred Indian soldiers were killed. Pakistan still provides men and materials to the jihad against India, and has blamed India for mounting a terrorist campaign in urban areas of Pakistan. In recent months, the two sides have engaged in artillery duels along the Line of Control in Kashmir. Pakistan fears that Indian “hawks” advocate a limited war, with economic rather than political objectives. Any conflict would provoke international sanctions which would hurt Islamabad more than New Delhi and further erode business confidence in Pakistan. The result would be capital flight and a collapse in the value of the Pakistan rupee, culminating in international financial default.

The United States concerns about Osama bin Laden, who has been linked with the bombing of an American destroyer near Yemen in October, could provoke a cruise-missile attack on Afghanistan, which would have serious repercussions in Pakistan where there is considerable support for Mr bin Laden. Many of the numerous Islamic groups have already announced fatwas (Islamic decrees) declaring that if the US attacks Afghanistan, a jihad against America will be declared and every American outpost in Pakistan and abroad targeted.

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Economic policy outlook

Policy trends Business confidence will remain in short supply in 2001-02. The government’s inability to settle the dispute with the Hub Power Company (Hubco) and the reluctance of the IMF to provide a bail-out package will adversely affect the government’s economic revival plans. The last meeting between the IMF and Pakistan (in early October) was inconclusive. Pakistan’s finance minister announced that the IMF had promised to provide up to US$800m in November as a standby loan but the IMF denied any such agreement. The IMF’s board of directors is scheduled to meet in late November to assess Pakistan’s economic indicators and the government’s performance before deciding how much money Pakistan receives and when.

Pakistan may only get a fraction of what it is seeking with the greater part of the disbursement postponed to March 2001. Pakistan needs to make debt payments of around US$2.5bn in January next year and is seeking another round of IMF-backed debt rescheduling. In addition, it needs to finance its current fiscal year trade deficit of about US$2bn. The State Bank of Pakistan claims that forex reserves are about US$1bn (only two weeks import cover) but this includes about US$450m in private short-term forex deposits in the banking sector. Apart from Islamabad’s inability to satisfy the IMF’s various economic conditions, it has made little progress in meeting political demands such as signing the Comprehensive Test Ban Treaty (CTBT), clamping down on the jihad and stopping cross-border “terrorism”, outlined by president Clinton in April. The army is acutely uncomfortable with this agenda.

Fiscal policy The government is determined to impose a General Sales Tax (GST) on retail trade and will continue its search for hidden wealth as greater numbers of citizens are gradually cajoled or coerced into revealing the sources and extent of their incomes, expenditures and tax liabilities. Nonetheless, it is fairly certain that GST collections will not rise by the projected 44% this year and direct tax proceeds will fall far short of the forecast 25% increase in 2001.

Year on year recovery of sales tax arrears has fallen by over 27% in the first quarter of this year to PRs611.9m (US$10.7m) while sales tax refunds have risen by over 30% to PRs7.4bn (out of a gross collection of PRs38.9bn). This is mainly due to continuing delays and bottlenecks in enforcing the various directives of the Central Board of Revenue. The total tax collection target for 2000/01 is PRs430bn—last year PRs340bn was collected. But the government missed its first quarter target of PRs87bn by PRs11bn, excluding various rebates and refunds which amounted to PRs7bn, which suggests an annual shortfall of about PRs50bn. The government’s calculations that the various tax amnesty schemes underway would yield tens of billions in revenues are unlikely to materialise either, so far yielding just PRs11bn. Such shortfalls could seriously undermine the IMF’s most important economic condition and forestall any large-scale lending to Pakistan.

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Economic forecast

International assumptions Growth in Pakistan’s largest export market, the US, is forecast to remain buoyant at 5.2% in 2000, but will fall to 3.3% in 2001 and 2.5% in 2002, as the economy undergoes a soft-landing. The EU economies are forecast to grow by 3.5% on aggregate in 2000, helped by an accommodating monetary policy in the region, by 3% in 2001 and 2.6% in 2002. The EU countries, in particular Germany and the UK, are important export markets for Pakistan. Pakistan should also benefit from the 10.4% increase in world trade in 2000.

Strong world economic growth is likely to have a positive effect on most world commodity prices this year and next. We forecast that world cotton prices (Colton A index) will rise from US$0.59/lb in 2000 to US$0.68/lb in 2001, which will benefit Pakistan provided that the domestic harvest is strong. However, the trade deficit will suffer from the higher cost of oil. We forecast that the average oil price will rise to US$29.1/b (Brent) in 2000 but fall to US$25.4/b in 2001 and to US$19.1/b in 2002.

Pakistan: international assumptions summary (% unless otherwise indicated) 1999 2000 2001 2002 Real GDP growth World 3.5 4.9 4.2 4.1 US 4.2 5.2 3.3 2.5 EU 2.3 3.5 3.0 2.6 Exchange rates (av) ¥:US$ 113.9 107.1 104.0 102.0 ¤:US$ 0.939 1.075 1.058 0.952 SDR:US$ 0.731 0.769 0.775 0.738 Financial indicators ¥ 2-month private bill rate 0.27 0.23 0.43 0.98 US$ 3-month commercial paper rate 5.18 6.40 6.55 5.25 Commodity prices Oil (Brent; US$/b) 17.9 29.1 25.4 19.1 Cotton (US cents/LB) 53.1 59.0 68.0 75.0 Food, foodstuffs & beverages (% change in US$ terms) –18.6 –6.1 4.2 10.1 Industrial raw materials (% change in US$ terms) –4.3 14.9 8.7 2.3 Note. Regional aggregate GDP growth rates weighted using purchasing power parity (PPP) rates. Economic growth The government now claims that GDP (at factor cost) grew by 4.8% during 1999/2000 compared to 3.1% in the previous year, largely on the back of an excellent cotton crop exceeding 10m bales. Excluding the fall in sugar production, the manufacturing sector grew at over 6%. With sugar set to recover, and good cotton, wheat and rice crops forecast for the second year running, industrial growth should stage a significant recovery from 3.3% to over 5% this year, underpinning GDP growth of just under 5%. We have maintained our 1999/2000 growth figure at 4.5% as the government has not provided a detailed breakdown of its new estimate and, since initially assuming growth of 4.5%, has changed its figure three times.

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Another bumper cotton crop in excess of 10.5m bales is forecast for 2000/01, and the wheat target, fixed at 22m tonnes, should allow wheat exports of up to 1m tonnes for the first time in decades. However, unexpected shortages of fertiliser and irrigation water could affect wheat production. The price of DAP fertiliser, a critical input, rose by 20% from July to October 2000 and the supply of irrigation water to wheat growing areas fell by 30% because of low rains in the upstream reservoir catchment areas in August and September. Punjab, which produces nearly 70% of Pakistan’s wheat is likely to be worst affected. Reservoirs continue to remain below capacity and, if winter rains are inadequate, serious water shortages could damage the wheat crop.

Pakistan: forecast summary (% unless otherwise indicated) 1999a 2000b 2001c 2002c Real GDP growth 2.7 5.6a 4.8 3.9 Industrial production growth 7.4 1.6 5.4 5.5 Gross agricultural growth 1.9 5.5 a 4.3 1.5 Unemployment rate (av) 5.3b 5.3 5.4 6.1 Consumer price inflation Average 4.1 5.2 8.0 8.4 Year-end 4.5 7.0 8.0 8.0 Short-term interbank rate –––– Government balance (% of GDP) –3.8 –5.9 –5.6 –5.4 Exports of goods fob (US$ bn) 8.7b 9.6 10.2 10.7 Imports of goods fob (US$ bn) 10.0b 11.5 11.4 11.4 Current-account balance (US$ bn) –2.9b –3.2 –2.4 –1.8 % of GDP –4.5b –5.1 –3.8 –2.7 External debt (year-end; US$ bn) 35.7b 37.7 41.7 44.1 Exchange rates PRs:US$ (av) 49.12 56.13 62.89 67.14 PRs:¥100 (av) 43.12 52.43 60.47 65.82 PRs:¤ (av) 52.33 52.20 59.43 70.50 PRs:SDR (av) 67.17 72.97 81.14 90.94

a Actual. b EIU estimates. c EIU forecasts.

Inflation Average consumer price inflation was around 5% in 1999/2000 and is expected to rise to more than 8% in 2001-02. As soon as the 18% GST is imposed on retail trade there will be a one-off increase in the price level of most non-food commodities. The 14% devaluation in September-October will also have an inflationary effect. A substantial shortfall in tax revenues may also prompt the government to raise petroleum prices and utility rates.

Exchange rates The exchange rate has fluctuated since the IMF asked the State Bank of Pakistan (SBP)—the central bank—to lift an unofficial cap on inter-bank market rates in July. The SBP was also asked to desist from unduly influencing the market by pressurising money-changers and preventing or delaying foreign banks’ swap payments. As a result, the rupee fell from PRs54.75:US$1 on September 1st to PRs58.45:US$1 on September 30th. The currency will not stabilise until the IMF agreement is announced and, although it has recently

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strengthened, will fall to at least PRs60.5:US$1 by the end of 2000, PRs65.3:US$1 by the end of 2001 and PRs69:US$1 at the end of 2002. The repo rate has risen by 1%, and the maximum six-month Treasury bill yield by 0.5%. The increase in the repo rate and the 0.5% hike of the maximum six-month Treasury bill yield both indicate that the SBP intends to manage exchange rates through interest rates rather than by capping the inter-bank market. The rupee’s slide will reflect political as much as economic developments. The SBP has restored commercial banks’ powers to deal in and remit foreign currency on its behalf and eased the various restrictions imposed after the coup. Foreign- exchange reserves, which stood at US$1.1bn at the end of September, are not expected to rise beyond US$1.7bn by the end of June 2001, even assuming that an agreement with the IMF is reached before the end of 2000, at least US$800m in debt arrears to the Paris Club countries have been cleared, and there is no serious military conflict with India.

External sector Pakistan may not need to import one million tonnes of wheat this year, saving up to US$250m in foreign exchange. Exports have increased about 15% year on year between July and September but, given the steep rise in international oil prices, the oil import bill for 2000/01 is likely to rise from US$1.6bn in 1999/2000 to over US$2.6bn, despite Saudi Arabia allowing deferred payments for oil imports at concessional prices. A 14% devaluation has also made imports more expensive, which should help curtail demand. Nonetheless, projecting on the basis of the first quarter’s trade deficit of US$508m, the annual trade deficit seems more likely to exceed US$2bn than hit the target of US$1bn.

Remittances (US$983m in 1999/2000) rose by US$150m in the first quarter year on year. This trend may be short-lived since, following the devaluation, fewer dollars are needed to fulfil responsibilities in Pakistan. Furthermore, the difference between the official rate and the market rate now exceeds 5%, the highest for recent years. If, as is likely, this sort of margin persists, remittances will shift from bank to non-bank hundi sources, depressing official remittances in the coming months. The government may have to explore various non-monetary incentive schemes to attract forex remittances via formal banking channels.

Foreign investment flows may improve if the planned privatisation agenda takes off quickly. The government is hoping to sell at least US$3bn in assets over the next 18 months. But the chairman of the Privatisation Commission, Altaf Saleem, admits that the business environment needs to improve substantially in order to attract foreign investors. Foreign direct investment, which rose to over US$1bn in 1995/96, largely due to the attractive private power policy of Ms Bhutto’s government, has since fallen to an estimated US$361m in 1999/2000. In the first quarter of 2000/01, it is thought to have fallen further to US$35m, compared to US$145m in last year’s first quarter.

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The political scene

Politicians and bureaucrats The National Accountability Bureau’s (NAB) tally of convictions for corruption targeted by NAB and misuse of public office stood at 48 on October 12th, the first anniversary of the military regime. This is a significant achievement, given the difficulties of combating white-collar crime. Another 127 cases are in court, while a further 308 cases are being investigated. Thanks to the vigorous efforts of the NAB, an ex-prime minister (Nawaz Sharif), 6 former provincial chief ministers, 9 former senators, 26 former members of the federal parliament and 22 members of defunct provincial parliaments are imprisoned. The worst affected are political supporters and members of the Pakistan Muslim League (PML) of former prime minister Nawaz Sharif and ex-premier Benazir Bhutto’s Pakistan Peoples Party (PPP). Both Ms Bhutto and her spouse, Asif Ali Zardari, were convicted of corruption by Mr Sharif’s government.

The NAB has also asked the United States government to extradite a former navy chief, Mansoorul Haque, a former chief minister of Sindh, Abdullah Shah, and a top civil servant, Salman Faruki. All face serious charges of corruption. In addition, the NAB has charge-sheeted over 500 middle grade civil servants for misusing authority and summarily dismissed at least 100. It intends to file cases against dozens of former members of parliament for misdemeanours of various kinds and seek their disqualification from contesting any future polls. The NAB has also forced bank loan defaulters to repay over PRs24bn (US$400m). This is no mean feat, considering the abject failure of successive governments over the last decade to recover even a fraction of this amount.

Generals and judges have The press has levelled serious charges of corruption involving recently retired been spared generals, admirals and air marshals, relating to kickbacks and commissions in lucrative deals for weapons systems, aircraft, tanks, frigates and submarines over the last ten years. Among the names which figure in the allegations are a former navy chief, Mansoorul Haque, a former airforce chief, Abbas Khattak, a former army chief, Jehangir Karamat and a former chief of general staff and

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head of the Army Welfare Trust, Farukh Khan. Several other retired senior officers have also been accused of corruption. However, no investigations have so far been launched into these claims. The case against Admiral Haque was initiated by the Sharif government in 1997 and the military government has pursued it half-heartedly. Indeed, General Pervez Musharraf has said, rather blatantly, that there is no evidence of wrong doing in the defence deals. Similarly, the senior judiciary has not been pursued, despite credible claims by a former president of Pakistan, Farooq Leghari, and a former chief justice of the supreme court, Sajjad Ali Shah, of wrong doing and corruption by many judges in the past.

The public has not been swayed by the government’s argument that these two institutions have good internal mechanisms for weeding out corruption and therefore do not require any probes by the NAB. If anything, the lack of investigation of these institutions seems to have undermined the moral authority of the NAB by making its accountability look politically motivated and rather one-sided. It is thought that the government does not want to act against senior judges because it needs them to legitimise its unconstitutional incursions into civil society. And it cannot afford to haul up members of the armed forces for fear of demoralising the rank and file at a time of serious border tensions with India.

The press is worried about General Musharraf has accused the Pakistan press of being free but not fair, and a crackdown has blamed it for the widespread perception that the military government has under-achieved. He has accused it of taking money from opponents of the military to write “negative” or “inspired” stories against the regime and of “lacking the true spirit of patriotism” whereby, in his view, certain truths should be voluntarily censored in the national interest.

Although the government denies attempting to browbeat journalists and newspapers into towing the official line, at least one major independent newspaper, Dawn, has been poorly treated by the government. On September 27th, six armed soldiers accompanied by three engineers from the Karachi Electric Supply Company, entered Dawn’s editorial offices in Karachi. The team insisted on verifying all existing electrical installations to determine whether or not Dawn was “stealing” electricity. A Dawn spokesman complained that the exercise appeared to have been a raid rather than an inspection, and added that there had been recent warnings to publishers, editors and journalists of the Dawn group that the authorities were preparing for action against it. There had been a war of words between the government’s information minister, Javed Jabbar, and a senior Dawn journalist, Shaheen Sehbai, who had written unflatteringly about General Musharraf’s visit to New York in early September and whose criticisms had provoked General Musharraf to make allegations of corruption and unfairness against the press.

The military government also remains keen to promulgate a law relating to a “proper code of behaviour and ethics for the press”. More ominously, the home minister, General (retired) Moinuddin Haider, said on October 23rd that he had asked the law ministry to formulate a law to punish those who were guilty of “tarnishing the image of Pakistan”. Ostensibly aimed at nettlesome

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politicians who are inclined to flout the orders of the military government and bring the country into disrepute, the law could harm the press. According to human rights activists, stories of human rights abuse in Pakistan, or criticism of the government’s policies towards Afghanistan and India could attract the punitive provisions of the law if it is promulgated.

Resignations erode The resignation of Javed Jabbar, the minister of information and advisor on confidence in regime national affairs, on October 13th, followed a week later by that of the federal minister of food and agriculture, Shafqat Jamote, has put the military government on the defensive about its performance and methods of government. Earlier, on September 29th, the Punjab provincial minister of information, Shafqat Mahmood, also resigned for “personal reasons”.

All three are known to have had differences of opinion with their military superiors over policy matters. But the real reasons for the resignations are believed to be the lack of proper consultation between the generals and civilians in government, with the generals making decisions even in areas which fall into the jurisdiction of their civilian colleagues. Mr Jabbar and Mr Mahmood left after they were criticised by senior military commanders for failing to project their government’s performance in the media. Both had complained to confidants that the government’s performance had been unimpressive.

Since the coup in October 1999, thirteen senior officials have resigned or been dismissed from provincial and federal cabinets. The first to go was the Sindh provincial governor, retired Air Marshal Azeem Daudpota, who complained that he had been reduced to the status of a puppet by the Karachi military commander and resigned on May 24th. The governor of the North West Frontier Province, Mohammad Shafeeq, resigned on August 13th after the local military commander acquiesced to a demand by religious fundamentalists to ban cable television in the province. The lone Christian minister in the federal government, Derek Cyprian, resigned on August 16th after the government announced that non-Muslim minorities would only be able to vote in general elections for special seats reserved for them rather than as equals to Muslims. The so-called “separate electorate” system for minorities is seen as inherently unfair and inequitable by human rights organisations.

Pakistan’s relations with Relations between India and Pakistan appeared to have hit rock bottom in May India could not be worse 1999 when the two sides clashed at Kargil on the Line of Control in the disputed territory of Kashmir. Matters worsened when the Pakistani prime minister, Nawaz Sharif, was ousted by the army in October 1999: the military takeover ended efforts by the civilian leaderships of both countries to improve relations. The Indians have said that they would only talk about peace to a democratically elected Pakistani government, and one that agreed not to fuel the insurgency in Indian-occupied Kashmir. General Musharraf retorted that Pakistan would not talk to India until it agreed to focus discussions on the “core” dispute of Kashmir.

A surprise move on August 17th gave some prospect of improved relations. The Hizbul Mujahideen (HM), the leading militant group in Kashmir, announced a unilateral ceasefire against the Indian security forces and offered to open talks

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with India over the future of Kashmir. The HM, however, warned that if Pakistan was not included in the dialogue, it would end its ceasefire. Soon after, General Musharraf said that he would be willing to meet the Indian prime minister, Atal Behari Vajpayee, “anytime, anywhere” for talks about the Kashmir dispute. When India refused to budge, the HM called off the ceasefire and launched a series of strikes against Indian security forces in Kashmir.

General Musharraf made another overture towards India on September 12th when he addressed the UN General Assembly in New York during the millennium summit and offered India a “mutual restraint regime” consisting of a no-war pact, mutual arms reduction, missile-control and a string of other confidence building measures provided that India was prepared to talk to Pakistan about the future of Kashmir. But Mr Vajpayee flatly rejected the offer, saying that there could be no dialogue with Pakistan until Pakistan-instigated “cross-border” terrorism ceased.

There has been a sustained bombing campaign in Pakistan’s urban areas, including Karachi, Lahore and Islamabad and at least 100 people have been killed in more than 40 explosions during the last six months. Officials in Islamabad accuse Indian agents of perpetrating the campaign and admit that it is a price the country is paying for its support to the “freedom-fighters” in Kashmir. Meanwhile, the Line of Control remains tense, with both sides exchanging heavy artillery fire and sustaining daily losses of men and materials. Although both countries’ leaders have been quick to allay fears that the border exchanges could lead to a wider conflict involving nuclear weapons, there is significant international pressure urging both sides to exercise restraint.

Economic policy

Relations between traders Traders and shopkeepers remain resolutely opposed to the government’s plans and government are tense to expand the income tax net, uncover hidden wealth and impose a hefty general sales tax (GST) on retail business. In May 2000, when income tax inspectors accompanied by army troops tried to carry out a detailed survey of shops, offices and affluent residential establishments in 13 of the most populous cities of the country, the traders responded with strikes and violent protests. In June, the government backtracked a little by offering not to reassess income tax returns for 1998/99. It also agreed that its survey teams would not make on-the-spot assessments of the value of the stocks in any shop as originally planned. In August, it offered to lower the proposed GST rate from 18% to 16.5% if retailers agreed to pay an additional tax equivalent to 1% of their turnover.

These proposals were rejected by traders’ bodies who instead offered to pay a small fixed tax on the basis of their “self-assessed turnover”, with no questions asked. The cash-starved government, which faces mounting pressure from the IMF to reduce its fiscal deficit from 6.5% last year to 5.1% this year to be eligible for a loan package and avoid defaulting on its international payments, rejected the traders’ offer.

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Undaunted, the government went ahead and distributed about 700,000 income/property survey forms (the government’s target was to distribute one million forms), of which about 260,000 had been returned for scrutiny by the end of August. The government now plans to extend the survey to another 13 cities. Most small shopkeepers seem to have returned the forms while the larger traders, which are represented by aggressive trade bodies, are refusing to co-operate with the government. Most political parties, who are themselves targeted by the military government, have supported the traders, arguing that additional tax demands should not be made on the business community at a time of recession in the economy. Cricketer-turned politician Imran Khan’s Justice Party has openly exhorted citizens not to pay taxes to an unrepresentative government.

However, just before the 30th September deadline for submitting income tax returns for the 1999/2000 fiscal year, the government conceded a long-standing demand of the traders for a “self-assessment scheme” to determine the amount of income tax payable. Under the scheme, those who were willing to pay at least 20% more tax than last year would be exempt from a detailed audit. However, in October the government changed the rules again. The central board of revenue (CBR) stated that those liable to pay sales tax who had not registered with the sales tax department, could not take advantage of the self- assessment scheme. The scheme also excluded, amongst others, limited companies, banks and leasing companies, some of which had previously been covered by such schemes.

The president of the Income Tax Bar Association, Ather Saeed, has complained that around 95% of income tax payers are excluded from this scheme. The government has responded that the purpose of the scheme is to protect tax payers from undue harassment at the hands of corrupt tax officials rather than give them a legal method of escaping their true tax liabilities.

There have also been complaints that the tax forms are too complicated. Until now, a taxpayer had to fill in a simple one-page form. The new form is eight pages long and asks questions which people are averse to answering relating to profit-and-loss accounts, wealth statements of partners, spouses and children, accounts of personal expenditures on children’s education, utilities, rents, entertainment and travel. The CBR believes that by calculating backwards on the basis of these statements, it will be able to determine a taxpayer’s true income and tax them accordingly. To make matters more intractable, the new rules entitle tax inspectors to select any particular case for detailed audit and scrutiny, apart from a random 10% sampling for total audit under this scheme. Businessmen have claimed that this negates the government’s assurance that the income tax officials will not have discretionary powers to challenge and harass citizens.

Debt rescheduling remains The last IMF disbursement to Pakistan of about US$280m under a proposed incomplete three-year structural adjustment programme arranged in January 1999 was in May of the same year. At the time, the IMF also helped Pakistan start a process of rescheduling US$3.3bn in debt payments to donor members of the Paris and London Clubs. However, since then, only US$2.5bn of debt (payable in

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January 2001) has been rescheduled and the balance, US$800m, remains to be rescheduled. This process was supposed to have been completed by October 19th 2000, but has been delayed owing to the military government’s inability to persuade the IMF to arrange a new package following the military coup, hence, technically, Pakistan is already in arrears of US$800m in debt payments.

The IMF’s reluctance to soften its terms for a Pakistan bailout package continues to erode business confidence in the country. The IMF has now abandoned its relatively cheap structural adjustment programme and is negotiating a relatively expensive standby agreement with Pakistan to ensure that it doesn’t slip into default. Pakistan wants the IMF to nudge the Paris Club countries to reschedule the US$800m which has been in arrears since October, and another US$500m which is due for repayment by June 2001. In addition, it is seeking at least US$600m from the IMF as a standby loan and another US$350m from the World Bank for various planned economic structural reforms. The Asian Development Bank has also been asked to lend US$350m, making the total nine-month package about US$2.6bn. Among the IMF’s stiff conditions for such a bailout package is a fiscal deficit of 5.1% of GDP in 2000/01 and 3.5% of GDP in 2001/02.

It is also believed that the IMF will not take any serious steps to alleviate Pakistan’s financial difficulties without the approval of the US State Department. When President Clinton met General Musharraf for five tense hours in April 2000 (after spending five relaxed days in India), he warned that Pakistan could not expect to normalise relations with Washington unless it ended “cross border terrorism”, reined in Islamic groups linked to Osama bin Laden, signed the Comprehensive Test Ban Treaty, exercised restraint in its missile development programme and made peace with neighbouring India. Not much progress has been made by Islamabad on any of these American concerns.

The government is banking According to Altaf Saleem, the chairman of the Privatisation Commission, on privatisation Pakistan is hoping to sell off 40 public sector projects before June 2002 raising up to US$4bn. Mr Saleem has identified the top projects, in which the government’s share is worth about US$3bn as follows: Pakistan Petroleum Ltd,

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Oil and Gas Development Corporation, Pakistan State Oil, Pakistan Telecommunications Company Ltd and Pak-Saudi Fertiliser Company Ltd. The process is expected to start immediately and the government’s stakes in the following projects will be sold in the next nine months:

Allied Bank Ltd, Habib Bank Ltd, Muslim Commercial Bank Ltd, Sui Southern Gas Co, nine oil and gas fields, all the liquefied petroleum gas (LPG) and meter manufacturing units of Sui Southern Gas Company, Sui Northern Gas Company, Pakistan State Oil, Saudi-Fertilizer Company Ltd, Kohinoor Oil Mills, Norafco Industries, Javedan Cement, Rohri Cement, Lyallpur Chemicals, Hazara Phosphate, Pak-Steel Fabricating Industry, Sindh Engineering Ltd, Suzuki Motorcycle Pak Ltd, Ravi Rayon Ltd, Larkana Sugar Mills, Shahdadkot Textile Mills, Talpur Textile Mills, Dir Forest Co, Pakistan Engineering Co Ltd, and TDC Vehicle Engineering.

The units which are expected to be privatised in the 2000/2001 financial year are: Pakistan Telecommunications Company Ltd, Telephone Industry of Pakistan, CTI, Habib Bank Ltd, United Bank Ltd, First Women’s Bank, National Investment Trust, Investment Corporation of Pakistan; Oil and Gas Development Corp, Pakistan Petroleum Ltd, Pakistan State Oil, Sui Northern Gas Pipeline Ltd, Sui Southern Gas Co, Karachi Electric Supply Co, National Power Construction Co, State Life Insurance Corp, Pakistan Insurance Corp, Pak-American Fertilizer Ltd, Pak-Arab Fertilizer Ltd, A&B Industrial Gasses Ltd, Maqbool Oil Mills, E&M Oil Mills, Sargroh Vegetable Ghee Mills, Thatta Cement, Mustekhan Cement, Spinning Machinery, Republic Motors Ltd, Pak Motor Co Ltd, Pakistan Engineering Co Ltd, Harnai Woolen Mills, Bolan Textiles, Lasbela Textiles, Faletti’s Hotel and National Construction Co.

The government has already appointed a consortium comprising Gaffney Cline & Associates and Chase Jardine Fleming as financial advisors to the planned privatisation of nine oil and gas fields by the end of 2000. These fields are situated at Minwal, Pariwali, Turkwal, Badin-1, Badin-2, Mazarani, Adhi, Ratana, and Dhurnal. The government owns a working interest of 10-40% through its various state-owned oil and gas companies. The nine exploration fields account for 5000 barrels of oil and 200 cubic feet of gas daily.

“Reopening Pakistan for The Board of Investment and Chase Jardine Fleming hosted an investors’ Business” conference appropriately named “Reopening Pakistan for Business” in Islamabad on October 24th to unveil the government’s plans to disinvest in the state sector as well as to articulate the country’s “favourable” investment climate. The finance minister affirmed that IMF certification was due in November. The minister for science and technology outlined optimistic plans that the Internet was going to spread to over 300 cities in the country, and cover 80% of the population before the end of the year and that Pakistan was offering the lowest rates for ISP bandwidths in the world. The government is planning to establish seven IT universities and an IT television channel in the country next year and to train up to 10,000 fully qualified professionals every year.

The petroleum ministry has also said that it will award a contract worth US$600m before the end of 2000 to a consortium comprising two oil

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companies, Caltex and Shell, to build a white oil pipeline from Karachi to Multan (in central Pakistan). Caltex and Shell will provide equity of about US$50m, while the Abu Dhabi government will invest US$28m. The ministry said that total foreign investment commitments in oil and gas development in the country since the military took power was in excess of US$800m.

The domestic economy

Economic trends

Agricultural growth bails The government now claims that GDP growth in 1999/2000 was 4.8%. We out GDP have maintained our estimate of 4.5% given that the government has not provided the full breakdown of its new estimate, and GDP growth has risen from 4.5% to 4.9%, back to 4.5% and then to 4.8% since the initial figures were released. GDP growth increased from 3.1% the previous year. Since large- scale manufacturing growth has continued to stagnate at about 2%, growth was largely underpinned by agricultural growth of over 6%, up from under 2% last year. A good harvest yielded 10.5m bales of cotton and 21m tonnes of wheat, the best for several years. The growth of small-scale industry (6%) was dragged down by a disastrous sugar cane crop—sugar production declined by 25%. Investment too has fallen, from over 22% of GDP in the first half of the 1990s to 15% in 1999/2000, largely owing to a decline in public sector investment. But private investment has also suffered from the declining levels of confidence in the ability of various governments to revitalise the economy.

Revenue is off target The June budget for 2000/01 had set an ambitious tax revenue target of nearly PRs436bn (US$7.6bn), up by 24% from the previous year, in the hope that the tax survey would unearth hundreds of thousands of new tax payers and that the 18% GST on retail sales would yield significant dividends. But that optimism could turn out to be misplaced because of continuing opposition to both measures by traders. This has forced the government to revise its revenue target downwards to PRs430bn. Even this target seems optimistic.

The government estimates that around PRs76bn of revenue was collected between July and September, which is PRs11bn short of the first quarter target of PRs87bn. Even worse, the government still owes over PRs7bn in tax refunds and export rebates, making the net figure for receipts in the first quarter only PRs69bn. Direct taxes yielded PRs22.4bn (against a target of PRs26bn), sales tax PRs30bn (target PRs35bn), customs duty PRs12.7bn (PRs14.5bn), and excise duty was PRs11.4bn (PRs12.2bn).

The government’s tax amnesty scheme, under which hidden wealth and assets can be legalised by paying a flat 10% tax on their value, has also been disappointing. So far, only PRs100bn in new assets have been declared, yielding under PRs11bn in taxes. The scheme has already been extended twice.

The rupee takes a beating The rupee, which has been under pressure for many months, began to slide on July 20th when, urged by the IMF, the State Bank removed the unofficial “cap”

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on the interbank rate. By September, the rupee had declined in value from PRs55.90:US$1 to PRs57.80:US$1 in the interbank market. On October 4th, it fell further to PRs59.40:US$1. But aggressive intervention by the central bank on October 5th, in the form of selling dollars in the open market and imposing a 30% cash margin on all letters of credit for imports aimed at restricting imports, stemmed the rupee’s fall. At one stage it had fallen to PRs68:US$1 in the kerb market. The central bank has increased the reserve requirements of commercial banks from 5% to 7% in order to reduce their liquidity by PRs15bn so that demand for dollars would be squeezed. The bank also raised the repo rate by 1% and the rate for treasury bills by 2%, squeezing another PRs10bn in liquidity.

The rate was fixed at about PRs52:US$1 when the Sharif government was ousted a year ago and was PRs44:US$1 when Pakistan tested nuclear devices in May 1998. The pressure on the rupee since then has largely been on account of substantial purchases of dollars from the open market by the State Bank of Pakistan (up to US$1.5bn between October 1999 and June 2000) to shore up rapidly falling forex reserves in the absence of any financial flows from the IMF or other donor institutions and countries for over 18 months. The weakness of the rupee has also resulted from unexpectedly large dollar purchases by private individuals. Bankers say that about US$160m in frozen forex deposits was cashed into rupees by depositors in the first quarter of the 2000/01 fiscal year and was then used to buy dollars from the open market. Another estimate suggests that over 3,000 Pakistanis have bought foreign resident status in Canada, Australia and America at a cost of more than US$1bn in the last year. The exodus of entrepreneurial and professional talent, along with capital, implies a loss of confidence in the ability of the government to turn the economy round. It is also a vote of no-confidence by the business community in the foreign policies pursued by the regime which have left Pakistan isolated and brought it to the brink of bankruptcy. Finally, the trade deficit has shown no sign of diminishing, and is forecast to be US$2bn in 2000/01. Despite an increase of over 14% in exports in the first quarter, imports have risen steadily, largely on account of an inflated bill for oil, expected to be about US$2.8bn this year. This has kept the rupee under pressure throughout the year.

Inflation rears its ugly Inflation has risen steadily in the first quarter of 2000/01, after falling to head around 5% in 1999/2000. Several factors are responsible for the recent jump to near 8%. The rising price of oil has led to a rise in the price of oil, electricity and gas. A currency devaluation of 14% since September has made imports more expensive and there have been sugar shortages. An increase in the government’s support price for wheat and rice have added to the urban consumer’s burden.

Industry

Industry is picking up In the 1999/2000 fiscal year, the manufacturing sector grew by only 1.6%. Since large-scale manufacturing registered no growth, even this growth was largely illusory, based as it was on the government’s assumption, rather than knowledge, that small-scale manufacturing grew by 8%. The stagnancy of the

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manufacturing sector, despite some growth in the mining, construction and utilities sectors, was largely due to a 24% fall in sugar production to 2.4m tonnes.

In the first quarter of 2000/01, the government has claimed that, if the fall in sugar production is excluded, industry grew by 6%. This is probably true since the textile sector, flushed with cheap raw cotton, is booming. Textile exports (worth about US$4.5bn a year) have risen by nearly 25% this quarter. The 14% devaluation of the rupee in October should spur greater growth. The textile industry has also received a dose of about US$420m in new investment for balancing and modernisation of machinery in the first nine months of 2000.

Agriculture

Another good cotton crop Since the cotton sector occupies a pivotal place in the Pakistani economy, GDP growth of 4.8% in 1999/2000 largely resulted from the best cotton crop in a decade of around 10.5m bales. The government has been delighted with preliminary reports of another good harvest of about 10.5m bales by November-December. The latest figures at the end of October showed that 2.2m bales had already been harvested, over 40% higher than the equivalent figure for the previous year. The Trading Corporation of Pakistan, a public sector enterprise, plans to buy at least 1m bales from farmers for export. The domestic textile industry needs about 9m bales.

Wheat production might Last year saw a bumper wheat crop of about 21m tonnes—more than sufficient fall to meet the requirements of both Pakistan and Afghanistan. The government has now set the target for next year at 22m tonnes. However, this seems ambitious in the light of reported water shortages in reservoirs upstream which are normally used to provide water supplies during the wheat sowing season in November and December. Rainfall in July was normal but August was surprisingly dry. If the winter rains are also sparse, wheat output could be drastically affected, leading to the need for imports and draining valuable forex reserves. The government is considering raising the support price of wheat from PRs300/40kgs to PRs340/40kgs as an incentive to farmers.

Sugar is definitely not so A substantial drop in sugarcane production from 55.2m tonnes in 1998/99 to sweet 46.4m tonnes in 1999/2000 (producing 2.45m tonnes of sugar) has created a shortfall of about 150,000 tonnes of sugar in Pakistan, encouraging speculators and hoarders to push up prices to unprecedented levels in September and October. Sources said that some sugar mill owners had together hoarded up to 70,000 tonnes of sugar in order to make windfall profits. But government policy has also been blamed for the situation.

In March, when sugar mills stopped refining sugar, the government was given notice of an impending shortage. However, it took no immediate steps to reduce the 30% regulatory import duty on sugar and allow the private sector to fill the gap via imports. It is alleged that a coterie of cabinet ministers and advisors (who are among the top sugar manufacturers in the country) had a vested interest in delaying imports so that they could make a financial killing on the stocks held by their mills. The agriculture minister, Shafqat Jamote, the

chairman of the Privatisation Commission, Altaf Saleem, the Kashmir Affairs minister, Abbas Sarfraz, and the industries minister, Yusuf Deewan have reportedly been involved. After retail prices nearly doubled in August to over PRs30/kilo, the government withdrew the import duty and permitted the private sector to open 50 letters of credit for the import of 100,000 tonnes of sugar from neighbouring India. However, among the top prospective importers of sugar are two of the four ministers mentioned above.

Infrastructure

Hubco unresolved, Kapco The 40-month bitter dispute over power supply rates between the Water and resolved Power Development Authority (WAPDA) and Hubco, the country’s largest independent power project in which the UK’s National Power Company holds a major stake, has entered a critical stage. After many false hopes of a settlement, General Musharraf and the finance minister, Shaukat Aziz, met with the chairman of Hubco, Mohammad Alireza, in New York during the Pakistani leader’s visit to the UN in September and agreed to resolve the dispute using a new formula. However, hopes of an agreement were soon dashed when the hard-line WAPDA chairman, General Zulfikar Ali Khan, rejected the understanding, saying that it was against the national interest. This prompted a senior Hubco team led by Mr Alireza to cancel its proposed visit to Islamabad in early October. General Zulfikar has said that Hubco should revise its tariff structure downwards to about US$0.055 per kilowatt hour so that it is on a par with the other power projects and that this should be done retrospectively. Hubco is prepared to negotiate a lower reduction in tariff but not retrospectively. The general has said that Pakistan would save US$3bn over the life of the project.

A similarly long-standing dispute over power rates with the Kot Addu Power Company (Kapco), in which National Power owns 36% of the shares, was finally resolved on October 25th. These were privatised by the Benazir Bhutto government in 1995/96 and strategic management control of the project was handed to National Power. WAPDA had since argued that Kapco’s management policies had raised certain operational and managerial costs in

the project which have had an adverse impact on the power rates formula agreed with the government.

Under the new agreement, the levelised tariff has been reduced from US$0.056/kwh to US$0.048/kwh; both parties have withdrawn litigation proceedings; the board of directors will be restructured to take into account the equity of the shareholders; and management control of Kapco will revert to Wapda. The Wapda chairman has claimed that the move will enable Wapda to save US$1.5bn over the 25-year life of the project. In addition, the existing debt liability of Kapco amounting to US$800m would be serviced by Kapco rather than National Power as envisaged in the earlier agreement, helping to explain why the management of Kapco has agreed to revise the rate downward.

Foreign trade and payments

Exports, imports and the The government has claimed that for the first quarter of 2000/01 exports stood trade deficit are all up at US$2.22bn, up 14.5% over the same period of 1999/2000 (US$1.94bn). The target for the year is US$10bn, which seems ambitious given actual figures of about US$8.5bn last year.

The first quarter leap is largely attributed to the buoyancy in the textile sector. Textile products exports were US$1.4bn and accounted for 63.4% of total first quarter exports. Cotton yarn exports were worth US$260m, fabrics US$250m, knitwear US$242m, bedwear US$173m, and towels US$53m. Rice exports were US$107.5m, fish US$41.5m, leather US$49m and primary commodities US$70m.

However, the trade deficit shows no sign of falling. Imports in the first quarter were US$2.73bn, a rise of 12.52%. This was mainly due to an increase in the bill for oil, textile machinery and sugar. This resulted in a trade deficit of US$509m between July and September, compared to US$487m in the same period last year. The trade deficit target is US$1bn, but on the current trends, it is likely to be closer to US$2bn.

Remittances are up but Remittances by Pakistanis working abroad officially amounted to US$983.7m reserves are down in 1999/2000, but rose significantly in the first quarter of 2000/01. Between July and September, remittances were US$365.8m, up from US$215.7m year on year. About 30% of such remittances come from the Middle East and about 25% from the UK and USA. In addition to these flows through the banking system, it is estimated that up to US$2bn is transferred through the informal hundi system.

The forex reserve position of the State Bank of Pakistan (SBP) continues to be precarious. On October 21st, liquid reserves amounted to US$1.05bn. This comprised foreign currency worth US$839.59m held inside the country and US$219m held outside, as well as US$438.7m in private forex deposits in the commercial banks. The SBP also has SDRs worth 0.88m held with the IMF. If gold bullion and silver coins valued at US$541.23m are also included, the reserves would amount to US$1.68bn.

Afghanistan

Political structure

Official name Islamic State of Afghanistan

Government De facto government by the Islamic Taliban movement, which seized power on September 27th 1996 from the previous administration of Burhanuddin Rabbani. Only three countries recognise the Taliban administration. The UN recognises the ousted Rabbani government

National elections April 1988 (Assembly); next election yet to be decided

National government Leadership Shura, which holds power until a government is formed, but ultimate authority for Taliban rule rests in the Taliban’s inner Shura (Council), located in the southern city of Kandahar, and in Mullah Mohammad Omar

Main political organisations Taliban; Hezb–i–Islami; Jamiat–i–Islami; Ittehad–i–Islami; Harakat–i–Inqilab–i–Islami; National Liberation Front; National Islamic Front; Hezb–i–Wahdat; Junbush–i–Mill

Leadership Shura Chair Mohammad Rabbani Members Mohammad Hassan Akhund Abdul Razzaq Akhund Mohammed Abbas Akhund Said Giasuddin Mawlavi Amir Khan Mutaqi

Key cabinet members Head of administration Mawlavi Amir Khan Mutaqi Deputy head of cabinet Mohammad Hassan Akhund Minister of foreign affairs Mawlavi Wakil Ahmad Mutawakil Minister of interior Abdul Razzaq Akhund Minister of justice Nuruddin Turabi Minister of public health Abbas Akhund Governor of Kabul Abdul Manan Niyazi

Economic structure

Annual indicators

1995 1996 1997 1998 1999 GDP at constant 1978/79 pricesa (Af bn) n/a n/a n/a n/a n/a Population (mid-year; m) 19.66 20.88 n/a n/a n/a Exports foba (US$ m) 26.0 n/a n/a n/a n/a Imports cifa (US$ m) 50.0 n/a n/a n/a n/a Total external debt (US$ m) n/a n/a n/a n/a n/a Exchange rateb (av; Af:US$) 833.3 2,333.3 3,000.0 3,000.0 3,000.0

November 2nd 2000 Af4726.3:US$1 (spot rate)

Origins of gross domestic product 1989a % of total Components of gross domestic product 1981a % of total Agriculture & forestry 52.6 Private consumption 70.6 Industry 28.5 Government consumption 35.0 Construction 5.8 Gross fixed capital formation/increase in stocks 17.3 Trade 7.9 Exports of goods & services 19.6 Transport & communications 3.5 Imports of goods & services –50.3 Services 1.7 Statistical discrepancy 7.8 GDP at factor cost 100.0 GDP at market prices 100.0

Principal exports 1990a US$ m Principal imports 1988a US$ m Fruit & nuts 93 Capital goods 293 Carpets 44 Food 150 Wool 10 Textiles 117 Karakul skins 3 Petroleum products 99 Cotton 3 Sugar & vegetable oil 53 Total incl others 235 Tyres 50 Total incl others 900

Main destinations of exports 1990 % of total Main origins of imports 1990 % of total Soviet Union 72.4 Soviet Union 56.3 Germanyc 3.1 Japan 9.4 India 3.1 Singapore 5.6 Belgium–Luxembourg 2.3 India 2.9 UK 1.9 South Korea 2.2 Czechoslovakia 1.2 Germany 1.7 a Fiscal years beginning March 21st. b Official rate. c EIU estimate.

Outlook for 2001-02

The Taliban may take all of Since taking the capital, Kabul, four years ago the Taliban have gradually Afghanistan chipped away at areas under opposition control, and the strict Sunni Muslim and predominantly Pashtun group now controls about 95% of the country. Still resisting is the Northern Alliance (NA), loosely comprised of Afghanistan’s ethnic and religious minorities. But the Taliban has sensed a final victory following its push into the north-east of the country and will be putting pressure on the base of the NA leader, Commander Ahmad Shah Massoud.

Drug production falls but The head of the UN drug control programme, Pino Arlacchi, said on October could pick up 20th that revenues from opium production have fallen to about US$90m in 2000 from an average of US$230m in previous years. He said some of the fall stemmed from increased efforts to block smuggling routes on the Afghan/Tajikistan border, patrolled by 10,000 Russian guards. The impact of Afghanistan’s severe drought continues to be felt and the UN’s annual opium survey showed that production had fallen to 3,275 tonnes from a record 4,600 tonnes last year. The area under cultivation fell to 82,000 hectares from 91,000. But, it is possible, weather conditions permitting, that drug production may bounce back in the outlook period as those involved try to recoup their losses. The massive rise in 1999 was partly a reaction to the poor crop of 1998 when many farmers were unable to repay their debts. In addition, surprising funding cuts to the UN’s drug control programme will result in further scaling back of successful crop-substitution programmes. The cuts come despite a US Drug Enforcement Agency report in August which said Europe is failing to stem a rising drug problem. The DEA said 80% of illegal opiate products in Europe come from Afghanistan and that shipments through the central Asian states have increased, with Tajikistan a favourite transit route.

The Taliban may face more A UN report on the impact of Security Council economic sanctions said sanctions Afghanistan could not bear any further sanctions. The two-month study, published in August, said conditions inside the country are horrific and that sanctions are affecting ordinary people, rather than the Taliban. In October, the Taliban called for existing sanctions to be lifted. But the United States and Russia are adopting a harsh line and, in a joint statement in mid-October, called for more sanctions because of the continued presence of Osama bin Laden in Afghanistan.

The bin Laden factor will The Yemeni president, Ali Abdullah Saleh, said on October 20th that Islamic not go away veterans from the 1980s war in Afghanistan may have been involved in the bombing of the US destroyer Cole in Aden. Fingers were pointed at Osama bin Laden, whose family has links in Yemen and who is said to have been a regular visitor to the country before being expelled in 1998. Although at the time of writing the US had not made a formal accusation against Mr bin Laden, they hold him responsible for the bombings of two US embassies in Africa in 1998. The Saudi dissident has made repeated threats against the US, particularly its installations in the Gulf. Mr bin Laden and his hosts, the Taliban, have repeatedly denied any involvement in terrorist activities. Taliban officials have

also consistently refused to comply with a US request to extradite Mr bin Laden and a new English-language magazine launched by the Taliban claimed that “extraditing Osama bin Laden is tantamount to leaving a pillar of our religion”. But, if Mr bin Laden is suspected of involvement in the USS Cole attack then the US may make military reprisals against Afghanistan, as it did in 1998.

Central Asia will follow a Russia, Armenia, Belarus, Kyrgystan and Tajikistan signed a Collective Security dual policy Treaty in October as a counter-measure to any threat from the Taliban. In September, Tajikistan said its stability was threatened by Afghan-trained terrorists and the following month Kazakhstan announced that it would not recognise the Taliban. But opinion may soon divide: Uzbekistan and Kyrgystan are hinting at recognising the Taliban. Uzbekistan notably was not a signatory to the treaty and the Uzbek foreign minister, Abdulaziz Komilov, said on October 18th that Uzbekistan was ready to reopen its border with Afghanistan and forge friendly ties with the Taliban if the security situation stabilised. But he warned the border would remain shut if Uzbekistan’s domestic affairs were threatened by forces in Afghanistan.

The political scene

The Taliban push to the Fighting which began in the summer continued into the autumn as the Tajik border Taliban again made a move to take the rest of Afghanistan. This time, its push into the country’s north-eastern corner appeared to meet with more success. In early August, the forces of the leader of the Northern Alliance (NA), Ahmad Shah Massoud, strongly defended Taloqan, the provincial capital of Takhar. But the NA was unable to prevent the city falling to Taliban forces a month later. The forces also captured the Shir Khan Bandar river port and other parts of the north-eastern Kunduz, bringing all the province under Taliban control. The move took the Taliban to the Amu Darya river which divides Afghanistan from Tajikistan. In October, the Taliban consolidated its hold and had taken other strategic ground in the region, including the vital Farkhar gorge, which lies on the main highway linking Takhar and the province of Badakshan, one of the last remaining areas under NA control.

The Northern Alliance are The loss of the territory is a serious blow to the NA as it borders Tajikistan, in trouble Massoud’s last vital overland supply link, making it harder to defend his headquarters in the Panjshir Valley, 120 kilometres north-east of Kabul. which is now surrounded on three sides. There were reports of Massoud preparing to retake Taloqan. He would wish to at least hold, if not strengthen, his position before the onset of winter and the usual scaling down of fighting. His longer- term prospects are worsened by his current lack of resources, which will be exacerbated by the impact of the drought. The lack of food will start to hit hard during winter. Unless the Taliban face attacks elsewhere in the country it is hard to see how Massoud will withstand a prolonged attack on the Panjshir Valley. The north-eastern province of Badakshan, between Takhar and Pakistan, is also vulnerable and there were reports that it was attacked from Pakistan.

Still, Commander Massoud is known for his tenacity and he formed a united front in early October with the former governor of the western Afghan city of Herat, Ismail Khan (who escaped from a Taliban jail earlier this year) and General Abdul Rashid Dostum, who formerly controlled much of northern Afghanistan. A spokesman for Massoud said the move happened during a meeting by the three men in Mashad, Iran. Morale amongst the opposition is said to have been boosted after military supplies were flown into Badakshan in late October. A Russian-made transport plane was reported to have landed in the provincial capital, Faizabad, and ammunition supplies were said to still be coming via Tajikistan. In addition, Commander Massoud was held responsible for another bomb blast on October 15th which rocked the communications ministry in Kabul. Two men, said to have been directed by the NA, were hung in late September in Kabul after being convicted of carrying out bomb blasts in the capital earlier in the year.

The UN pushes for peace The UN’s Special Envoy to Afghanistan, Francesc Vendrell, said in early once more October that he believed Taliban officials are ready for unconditional peace talks with the NA. Mr Vendrell made his statement after a round of talks with both parties. However, in the past the Taliban have only ever agreed to talks in order to curry favour with the UN and buy time for further military operations. It seems unlikely that they will accept Commander Massoud into their administration when they believe that a military victory is in sight. It is also highly unlikely that the NA would trust any such deal.

Other Afghans find UN representatives, along with a wide range of Afghan delegates as well as political outlets foreign diplomats attended the fourth Afghan peace conference, which was held in Cyprus in September. The conference was held to lay the groundwork for a traditional Loya Jirga (grand assembly) in Afghanistan. The idea has been long mooted but not put into practice.

It was reported that the Taliban had arrested 40 members of a new opposition union, the National Islamic Council of Afghan People for Peace in Kabul in October. The union is thought to be based in Peshawar, Pakistan and supported by field commanders and tribal elders from eastern Afghanistan, bordering Pakistan. The eastern region has always been a powerful and fairly autonomous part of Afghanistan as a result of the drug and smuggling trade which passes through it. Although these groups are small it is interesting to note that alternative political groupings of Afghans are in existence and perhaps may find a role in the future.

De-mining programmes Seven Afghan aid workers who worked for an Afghan agency, the Organisation have a terrible time for Mine Clearance and Afghan Rehabilitation (OMAR), as part of a UN operation, were ambushed and killed in western Afghanistan in early August. The UN Secretary General, Kofi Annan, called for the capture and trial of those responsible. Afghanistan is one of the most heavily-mined countries in the world and the UN programme has been one of the most successful aid projects in the country. That, however, is now being substantially affected by funding cutbacks and UN operations are being halved. It comes at a time when a British de-mining agency, the Halo Trust, has said that mine incidents are

increasing daily as people affected by drought flee to areas in which they are not familiar. The incident also raises questions about security, a pillar of the Taliban’s regime.

Italy proposes a new aid In September, Italy called for the establishment of a humanitarian aid corridor approach through which aid could reach people in areas controlled by both sides. An Italian minister, Ugo Intini, said he had discussed the plan with the Taliban foreign minister, Mullah Abdul Wakil Muttawakil, and with Commander Massoud. Mr Intini said the corridor could provide a framework for people from either side to interact on areas such as drug control and healthcare. The scheme is being kicked off with the opening of an Italian-funded hospital in Kabul (one already exists in the Panjshir Valley). Mr Intini said that if the scheme succeeds then the European Union, Afghanistan’s biggest donor, would increase its aid to the country.

Economic policy and the economy

The Taliban attempts to In an interview with the Taliban newspaper Anis, the head of the Chamber of improve commerce Commerce and Industries, Mullah Mohammed Daud Abed, said members of the Afghan branch are attending exhibitions and conferences held by the International Association of Chambers of Commerce. He said that the Afghan branch has been revived by new communications equipment and was making moves to extend international trade. He also stated that a branch of the Export Bank has been opened at the department to facilitate currency exchange and banking services for businessmen.

In addition, 18 business unions in the capital and in the province have been elected with chair, deputy chair and board of directors. A board for co- ordinating private investment said, on October 23rd, that 24 production and servicing projects had been approved with a start-up capital of Afghanis58.72bn (approximately US$840m, at the black market rate) and a final capital of Afghanis83.9bn. The projects are said to consist of small plants for telecommunication services and the production of edible oils, soap, carpets, non-alcoholic beverages, plastic goods, stoneware and aluminium items. In September, the Taliban announced that a Kabul soap and shoe factory had reopened.

International trade is Taliban officials announced that the country is ready to co-operate with targeted economic institutions of all countries and invited private investment in domestic and external sectors. Officials said that trade barriers between Pakistan, Iran and Turkmenistan are being removed and transport problems with Pakistan resolved. In early September, the Taliban appointed a new trade representative in Mashad, Iran. This has traditionally been an area of Afghan refugees and of opposition to the Taliban. The move coincides with increased consumer trade between Afghanistan and Iran. In October, the leader of the Taliban, Mullah Mohammed Omar, said that relations with Iran were improving and that trade ties are expanding, helped by the reopening of Iranian consulates in the Afghan cities of Jalalanad and Herat.

In September a Pakistani trade delegation announced that it was ready to open banks and factories in Afghanistan. This was followed up by talks in Islamabad mid-month between the Afghan ambassador and the chairman of Pakistan’s Islamic Investment Bank. Discussions were also underway for Afghanistan to buy wheat from Pakistan and to resolve a problem over Afghan fruit exports.

The UN calls for massive In early October, the United Nations called for widespread intervention to humanitarian intervention prevent famine in drought-stricken northern Afghanistan. A report said a massive international investment was needed to help between 8m and 12m people affected, of which around 1.6m face starvation. The report said that children have already started dying of starvation in the northern Samangam province. The UN has called for assistance to be scheduled for at least two years as agriculture will not recover sufficiently in 2001. Wheat production in rain- fed areas has fallen by 65%, decimating Afghanistan’s food supplies.

The UN gave permission in October for weekly humanitarian flights for a private United Arab Emirates airline to fly from Sharjah to the Taliban’s headquarters in Kandahar. International flights are usually banned under UN sanctions imposed last November. Permission was also given in August for an Afghan Ariana Airlines plane to fly sick and disabled children to Germany.