impact of global financial crisis on pakistan financial institutions

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Impact of Global Financial Crisis on Pakistan Financial Institutions


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Introduction:

Capitalism is an economic system in which land labor production pricing and distribution

are all determined by the market. There is a strong history of capitalism that it can shift from

extended period of rapid growth to very short periods of contraction

The global financial crisis in 2008-09 which are still on the go, they actually started from

the 20th century and they have been increasing since then. In the end of 20 th century the U.S

housing prices after a multiyear started declining, the mortgage prices had been at a very high rise

before that and suddenly they started declining at the end of 20th century. Around mid 2008 there

was a striking increase in the mortgage delinquencies. This increase was also followed by

mortgages and this great loss in value meant an equally great decline in the capital of Americas

largest banks and trillion dollar government. This also affected the backed mortgages lenders like

Freddie Mac and Fannie.

Outside of the U.S, the bank of China and France BNP Paribas were the first internationalinstitutions to declare substantial losses from subprime catastrophe, Ireland, Portugal, Spain and

Italy were the worst hit. The U.S Federal Reserve, the European Central bank, the bank of Japan,

the reserve bank of Australia and the bank of Canada all began injecting huge chunks of liquidity

into the banking system. France, Germany and the United Kingdom announced more than $222

billion of new bank liquidity and nearly $1 trillion in interbank loan guarantees, towards the end of

2007, it had become quite clear the subprime mortgage problems were truly global in nature. The

global financial crises also effects South Asian exports and could hurt income.

Pakistan is another country in South Asia that has been severely affected by the financial

crises. In fact, Pakistan seems to be one of the hardest hit with this global crisis. Its economy isalready in crises. Pakistan is also facing a serious liquidity crunch, with the only solution being

international support. Saudi Arabia has refused to give Pakistan a financial concession on the oil

trade, as well. The only option for Pakistan is to approach international monetary fund, which will

set highly stringent conditions for the nation.

The term Financial Crises:

The term financial crises is broadly used for many things means if there is great loss

happen than its called financial crisis but its mainly related to banking panics. Other situations in

which we often use this term is in stock market crashes.

Financial Crisis 2007-2009:

The financial crisis of 2007-2009 has been called the most serious financial crisis since the

great depression by leading economists, with its global effects characterized by the failure of key


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businesses declines in consumer wealth estimated in the trillions of U.S dollars, substantial

financial commitments incurred by governments, and a significant decline in economic activity.

Causes of the crisis:

It is not clear yet whether we stand at the start of a long fiscal crisis or one that will pass quickly,like most other post World War II recession.

1) Fundamental mispricing in the capital markets.

2) Mistakes made by the Fed and the others banks by keeping the federal funds rate too low

for too long created bubble and housing bubble. In other words, with artificial low fed

funds target, banks filled themselves on cheap funding and made cheap loans available.

There has been great disparity in the quantity and quality of loans in the recent

years. In terms of quantity, there was an increase in low-rated issuances of shares

from 2004-2007. Moreover loans that were issued were mainly given to finance

leveraged buyouts. Over the same period average debt leverage ratios grew rapidly

to levels never seen previously. In terms of quality, there was also a general

increase in non documentation and high loan-to-value subprime mortgages.

3) Plus the failure to control poor underwriting standards in the mortgage markets means no

down payment, no verification of income, assets, and jobs, interest only mortgages,

negative amortization, and teaser rates were widespread among subprime, near- prime and

even prime mortgages.

With defaults in interest payments and simultaneously in the Abs, prices drop drastically, leadingto a huge loss of wealth severity of the crisis.

The Financial crisis and Pakistan:

The world is thus taken a new hydra-headed crisis, with three essential components: food,

fuel and finance. The three components have different geographical origins and their effect on

different segments of the globe and their inhabitants if highly uneven, but the transmission of these

crisis in the global economy has become much easier and faster since the regime of liberalization

of trade, capital flows, deregulation and privatization was imposed through the Washingtonconsensus in the early 1990s in the name of achieving higher growth and reducing global poverty.

The developing nature of the financial sector has been a saving grace for the Pakistani

economy. Less developed linkages with international markets have meant that the direct impact of

the financial crisis has not been felt by the Pakistani financial sector. However; effects of the crisis

have been felt, even though in a limited manner, by the real sectors of the economy. The effects of

the global slowdown have been transmitted through the trade balance; with a slowdown in global


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demand and fall in commodity prices having varying effects, the capital account; with a significant

reduction in private inflows to Pakistan.

Pakistan, a fragile economy, has been facing both economic and political crisis which

predate the global financial crisis. Inflation, trade deficit, balance of payment, foreign exchange

reserves, circular debt, poor performance of banking sector and Karachi stock exchange politicalinstability have remained the key indicators of Pakistan economic crisis. Political and economic

stability complement each other. Pakistan is an interesting case since both are in crisis. The war on

terror has become a hanging sword overhead the rate of suicide bombing is increasing day by day.

GDP growth rate is a significant indicator to access the health of an economy; It becomes

worse since 2004-05 from 9.0% to 2.0%in 2008-9.Goverment of Pakistan spends approximately $

26 billion per year based on the expected revenues of approximately $ 20 billion incurring a huge

balance of payment (BOP) crisis when the entire donor community was also going through

financial collapse. IMF aided with $ 7.6 billion and with the first tranche of $ 3.1 billion Pakistan

foreign reserve rose from $ 6 billion to $ 9 billion.

There had been 2.6 percent negative growth of exports, decreasing from $ 16.4 billion last

year to $ 16.0 billion in July to April 2008-09. Imports also showed a negative growth of 9.8

percent in July to April 2009. Imports stood at $26.77 billion as against $28.715 billion in the

comparable period of last year.

Continuous increase in the import bills due to higher oil prices has increased the current

account deficit which significantly depleted the foreign exchange reserves thus enhanced the

countrys default risk. Given the unsafe investment climate and security situation the foreign direct

investment inflows also fell more than 20 percent in calendar year 2009. Pakistans total externaldebt is also increasing with the appreciation of dollar and continuous relying on the foreign debt.

The national savings are also on decline.

The core inflation which represents the rate of increase in cost of goods and services

excluding food and energy prices also went up to 18.0 percent and for a brief period it even crossed

20 percent.

Pakistans local banking sector has shown recoil to the weak macroeconomic environment

even though it experienced a decline in decline in deposits. Circular debt is another critical issue

which is still a potential indicator of the economic problem.

Government of Pakistan is unable to billions of rupees to oil marketing companies (OMCs)

and independent power producers (IPPs). The long hour power failures have not only affected the

common people, but also shut down many businesses.


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There are no doubts that 2008 global financial crisis has not affected Pakistan with a huge

blow though the government claimed entirely different. The country has seen some of the worst

situations but survived.

Pakistan is going through a critical phase at this stage. The country was already facing

economic burdens because of its participation in the war on terror. According to the government ofPakistan, it has suffered economic losses worth US$34 billion so far because of the war. While the

aid that it received is far below. The continued global economic crisis has hit Pakistan hard.

Remittances sent to the country by the overseas, Taliban can take advantages of the bad economic

conditions of the country.

The price of oil fell to $77 a barrel, almost one-half of the level it had reached a couple of

months ago. This put a strain on the spending plans of a number of countries in the Middle East.

Some of these countries had large investments planned in Pakistan. In the light of these

developments the question arises as to what is the likely impact on Pakistans financial grounds?

How should Pakistans policy makers respond to the developments in America, Europe and theMiddle East as they begin to address the problems the country is already confronted with? The

writer will attempt to answer these questions.

Pakistan recent period of economic growth was based on a combination with political

instability, led to a rapid in inflation, a spike in the trade and current account deficits, and a

devaluation of the Pakistani rupee. Although global fuel and food prices are on the decline, the U.S

financial crisis has precipitated a possibly extended global recession. For Pakistan, a global

recession will likely reduce demand for its exports, inward FDI flows and overseas remittent.

Official Pakistan estimates for inward foreign direct investment in 2009 reportedly show a decline

of over 32% when compared ran into problems in 2008. Real GDP growth, which had beenaveraging above 7% per year since fiscal year 2000/2001, declined to 5.8% in fiscal year

2007/2008 and is expected to decline to 2.5% in fiscal year 2008/2009.

Economic factors behind the Crisis in

Pakistan

The developing nature of the financial sector has been a saving grace for the Pakistani

economy. Less developed linkages with international markets have meant that the direct impact

of the financial crisis has not been felt by the Pakistani financial sector. However; effects of the

crisis have been felt, even though in a limited manner, by the real sectors of the economy. Theeffects of the global slowdown have been transmitted through the trade balance; with a

slowdown in global demand and fall in commodity prices having varying effects, the capital

account; with a significant reduction in private inflows to Pakistan. Following study about the

factor will describe the crises in Pakistan taken from report of State Bank of Pakistan Global

Financial Crisis: Impact on Pakistan and Policy Response


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Financial Sector Impact

Foreign exchange:

Pakistans exchange reserves decreases throughout 2008. The state bank holding of foreign

exchange reserve fell from $14.2 billion at the end of October 2007 to #3.4 billion at the end ofOctober 2008.

Exchange rate after remaining, stable for more than four years, lost significant value

against US dollar and decrease by 21% during March-December 2008. Most of the decrease of

rupee against dollar was recorded in post November 2007.

However, with the successful signing of standby arrangements with the IMF, the rupee got

back some of its lost value. With substantial import compression and revival of external inflows

from abroad in the current fiscal year, the exchange rate will remain stable at Rs 80-82 per dollar.

External Financing:

The global crisis has restricted Pakistans ability to tap international debt capital markets to

raise funds. An increasing cost of borrowing internationally, coupled with deterioration in the

countrys credit rating has ruled out issuance of government paper as a financing mechanism.

Pakistans presence in the international capital markets in 2008-09 was limited to the repayment of

Eurobond amounting to US$ 500 million made in February 2009 with no new issuance at the

backdrop of financial crisis engulfing the global markets.

Banking sector:

According to Fitch ratings, the Pakistani banking system has, over the last decade,

gradually evolved from a weak state-owned to a slightly improved and active private sector

motivated system. But as of end 2008, data from the banking sector confirms a slow down. As of

October 2008, total deposits fell from Rs 3.77 trillion in September to Rs 3.67 trillion. Provisions

for losses over the same period went up from Rs 173 billion in September to Rs178.9 billion in

October.

Market analyst Muhammad Suhail told the Los Angeles times. The global crisis has really

fuel to the fire. There was a time window earlier this year to address all this, and we missed it.

The drying up of credit internationally has hit Pakistan hard with the banking system suffering asevere liquidity problem. Overnight call rates rises so much and its ranging from 32 to 40 percent.

Circular debt:


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impact of global financial crisis on pakistan financial institutions

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