A business ecosystem facilitates the growth and prosperity of firms by providing access to finance and an efficient value chain. Its objective is to ensure fair benefits across sectors, preventing undue advantage for any one sector at the expense of others.

However, the current business ecosystem in Pakistan primarily favours feudal, urban elites, and semi-government corporations. Pakistan’s economic structure has been unfavourable for the formal sector.

In the 1960s, Pakistan’s ambition to become an “Asian Tiger” resulted in the consolidation of power among 22 families who controlled key industrial, insurance, and banking assets. Pakistan has heavily relied on foreign aid from the US since the 1960s, which led to the growth of rent-seeking industries.

Prime minister Bhutto implemented a nationalisation process, bringing 70 industrial units under the Federal Ministry of Production. This decision raised concerns and frustrations among investors. However, General Zia’s regime returned the industrial units to their original owners. Land reforms introduced by General Ayub and Bhutto to reduce the power of feudal elites faced reversal when the Shariah court deemed them unIslamic.

In the 1990s, the country faced uncertainty with nationwide bank closures and the freezing of $7 billion in foreign currency accounts due to US-imposed economic sanctions. Within a span of nine years, four governments were removed from power, further contributing to ongoing instability.

The preferential treatment given to certain special interest groups, coupled with excessive taxation and documentation requirements for the formal sector, has contributed to the growth of the informal sector

During Musharraf and the PPP regime, Pakistan again relied on foreign aid and focused on the real estate sector, which significantly boosted the GDP. In 2013, the so-called pro-business political party came to power and again signed an International Monetary Fund programme for trade reforms. Efforts were made to simplify tariffs, eliminate regulations, and reduce non-tariff barriers.

However, the government implemented alternative trade protection measures, increasing regulatory duties and non-tariff measures. Subsequently, the Imran Khan-led government introduced an amnesty scheme for the real estate sector, artificially stimulating the economy.

According to a United Nations Development Programme report, special groups in Pakistan have received economic privileges totalling approximately $17.4 billion per annum.

As a consequence, Pakistan has consistently experienced a negative trade balance since 1969, with the deficit surging significantly after 2005. Factors such as energy crises, law and order issues, and real estate bubbles have contributed to this surge. Real estate bubbles have resulted in increased imports due to readily available financing, negatively impacting other sectors.

On the flip side, the formal sector faces significant challenges due to complex tax and documentation regulations, leading to disruptions in the business ecosystem. This has led to a decline in the number of listed companies on the Pakistan Stock Exchange (PSX).

In 2010, there were 650 listed companies with a market capitalisation of Rs2.89 trillion. However, as of 2023, the number of listed companies has decreased to 526, with a market capitalisation of Rs6.35tr. Within the last five years, 17 companies were delisted from the PSX.

Firms face a significant cost-benefit trade-off when considering listing, as the costs of meeting listing requirements and complying with regulations outweigh the benefits. The main factor contributing to this issue is weak investor participation, which is less than one per cent in the PSX.

The stock exchange was primarily seen as a domain catering to a club of brokers, prompting the government to initiate a demutualisation process to transform it from a guaranteed limited entity to a public limited one. As part of this process, a Chinese consortium acquired 40pc of the shares.

Despite these changes, investor confidence did not improve. There is an anomaly where, despite the PSX offering higher liquidity and returns compared to other markets, the real estate sector attracts the bulk of investments.

Several factors contribute to this anomaly, including taxation on stock market investments, apprehension towards e-trading, concerns about exposing black money, and fears of investment loss due to speculative trends and fraudulent activities. The lack of effective action against fraudulent activities further discourages potential investors.

Furthermore, the cost of debt in Pakistan has risen to over 20pc, while returns range from 12pc-15pc. This unfavourable debt financing situation results in firms incurring a loss of 8pc-10pc of their capital instead of experiencing growth.

Another noteworthy anomaly arises in the banking sector. There has been substantial growth in bank deposits from Rs1.3tr in 2002 to Rs22.75tr in 2022. However, as of February 2023, approximately 83pc of the total deposits have been lent to the government, including semi-government organisations and autonomous bodies.

The peculiarity lies in the simultaneous borrowing of funds by the government from commercial banks, while government institutions deposit their savings in the same banks.

This results in banks having a predominant exposure to government risk while the business sector’s involvement remains minimal. The increase in the policy rate benefits banks, as the government, their primary customer, borrows at higher rates and lends at lower rates. Consequently, commercial banks and their owners, often belonging to the feudal or urban elite, reap the advantages of this arrangement, while semi-government organisations are the beneficiaries. This situation limits equity and debt financing options for the corporate sector.

The preferential treatment given to certain special interest groups, coupled with excessive taxation and documentation requirements for the formal sector, has contributed to the growth of the informal sector. The cumbersome and costly process of obtaining multiple No Objection Certificates (NOCs) in Pakistan for initiating or expanding businesses has become a bogeyman.

Consequently, Pakistan is facing a critical issue of decapitalisation, as reflected in the low investment-to-GDP ratio of approximately 15pc. An enabling ecosystem plays a critical role in ensuring the viability and expansion of the corporate sector while promoting local production and addressing the trade balance. It fosters fair competition and equitable opportunities for all stakeholders involved.

The writer is an Assistant Professor (PhD Financial Economics) at the National University of Modern Languages, Islamabad. Email: abwahid.fms@gmail.com

Published in Dawn, The Business and Finance Weekly, July 24th, 2023