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Election promises and banking sector

May 10, 2013

THE public in Pakistan is savvy enough to realise that election promises that political parties are making will most likely not be kept.

However, I write this since one major political party, which seems to be well-placed for winning a sizable number of seats, is promising some actions which are similar to what they had done when they were in power earlier and which had very serious economic and fiscal implications.

The party chief has been promising that their government would make sure that small borrowers countrywide would have access to easy credit from commercial banks.

On the face of it, this seems to be good. However, what he is not saying is whether (a) banks would be allowed to apply normal criterion to determine payback capacity and set up appropriate safeguards against default, or whether they would be encouraged/forced to relax their normal lending requirements; and (b) would this involve some sort of underwriting of the loans by the government.

One needs to sound a note of caution here. Any process of underwriting soft, unregulated loans given by commercial banks could easily lead to a situation very similar to the circular debt which has had disastrous consequences for the power sector.

This could easily generate a large liability for the government towards the banking sector which would have a very adverse effect on the sector and the overall fiscal deficit.

If banks will be expected to manage the consequences of this lending themselves, it would swell their portfolio of bad debt and the deposits of ordinary Pakistanis would be put at risk.

We recall that when this party was in power in the 1990s, it (a) introduced the yellow cab scheme which allowed duty-free import of cars to be used as taxis.

This scheme resulted in a very serious drain on foreign exchange reserves, and many luxury cars were imported under its cover and later smuggled out of the country, (b) after the imposition of international sanctions in response to Pakistan’s nuclear tests, it froze all foreign exchange deposits of Pakistanis to cover foreign exchange shortages.

It may be mentioned that India also faced similar sanctions at that time, but the response was strikingly different.

The Indian government floated foreign exchange bonds which were oversubscribed by expatriate Indians and enabled them to meet the foreign exchange crunch.

In Pakistan, on the other hand, the takeover of foreign exchange deposits caused a serious loss of confidence which we are still trying to overcome.

In addition, there is a common belief that some chosen people were allowed to transfer their deposits abroad before the takeover took place.

The new measure proposed by this party now could well amount to a similar raid -- this time on our local currency deposits.