While Pakistani trade with India could give a boost to Pakistan’s economy, there are other neighbors with whom trade could be equally important. We look at this aspect of regional trade and show that promoting trade with the rest of Pakistan’s neighbors could have a significant positive impact on the country’s growth. We show that Pakistan’s trade with these neighbors has grown rapidly over the last 10 years and at present they constitute the largest market for Pakistani exports. We also explain how these exports are not only important in terms of absolute value, they have also contributed to the development of new export products. The overall impact on Pakistan’s economy could well be to raise the trend growth rate for the next decade or so by 2 to 3 percentage points above the historical trend growth rate of 5 percent per annum.
KEYWORDS: Exports, regional trade, Pakistan, China, UAE, Central Asia, Afghanistan.

JEL: F13.

This article analyzes the volume and pattern of India–Pakistan trade given the extent of trade complementarity between the two countries and, in the presence of a restricted positive list of imports from India, the tariff regime and nontariff barriers in the two countries. The study also assesses the impact on bilateral trade of granting most-favored nation status to India, the removal of some of the impediments to trade, and the implementation of the final phase of import tariff reduction under the South Asian Free Trade Agreement. Finally, the article highlights emerging opportunities and possible threats to the process of trade normalization between the two countries.
KEYWORDS: exports, tariffs, non-tariff barriers, Pakistan, India.

JEL: F19.

Bilateralism arises as a “second-best” option when countries seek benefits beyond those of regional approaches to free trade and those of unilateral liberalization. In spite of the regional initiatives for free trade in South Asia along with policy reforms in individual countries, Sri Lanka entered into bilateral free trade agreements (FTAs) with India (2000) and Pakistan (2005). In a situation where trade within the South Asian region has been sluggish despite higher economic growth, trade liberalization, and regional initiatives for integration and cooperation, this article examines from the Sri Lankan point of view whether the bilateral FTAs have resulted in above-normal trade performance. The analysis suggests that better performance in bilateral trade cannot be attributed exclusively to the success of the FTAs any more than weak performance can be attributed to their shortcomings. Apart from this, merchandise trade does not appear to have performed in isolation as the extent of overall bilateral connectivity set the groundwork for greater integration. The article confirms that bilateral FTAs that seek reciprocity in integration and cooperation are indeed a “second-best” option, compared to the potential trade performance associated with unilateral liberalization in trading partner countries.
KEYWORDS: Bilateralism, trade agreements, Pakistan.

JEL: F14, F15, F13, F53.

This article discusses how the 7th National Finance Commission award and the 18th Amendment to the Constitution have strengthened the autonomy of the federating units in Pakistan. The former has empowered the provinces by increasing their access to financial resources, but there is the danger that it may increase the consolidated fiscal deficit unless both the federal and provincial governments increase their fiscal efforts and rationalize their expenditures. The 18th Amendment has the potential to change the structure of governance, but has been implemented in such a way that effective decentralization has been at least partially rolled back. For devolution to work in Pakistan, financing and the delivery of devolved services will have to be more effectively organized and managed.
KEYWORDS: Fiscal, devolution, 18th amendment, Pakistan.

JEL: O16.

This article describes the local government system established in the 2001 Devolution Plan and its evolution over the period 2002-07, with a focus on two essential public services, education and health. We believe that the devolution of service delivery functions, delegation of financial powers, decentralization of authority, and deconcentration of executive powers, can, together, lead to better accountability of results and, hence, to improved public service delivery to the poor and marginalized. The Devolution Plan made inroads toward these goals, particularly in education, but their achievement was incomplete due to a number of factors, among those incomplete fiscal decentralization, limited targeting of backward areas, and centralizing tendencies of the provincial departments and civil service. Recommendations are offered on how to further develop the local government system more generally, with an eye towards increasing accountability and improving coordination both across local governments and between tiers. For this, complementary reforms to simplify business processes and revamp human resource management policies are needed; introducing a district level civil service is among the suggested changes. The article concludes with detailed recommendations on improving the decentralized delivery of education and health services.
KEYWORDS: Devolution, decentralization, service delivery, health, education.

JEL: H75.

The almost unanimous passage of a landmark consensus constitutional amendment—the 18th Constitutional Amendment—restored Pakistan’s constitution to its original intent of a decentralized federation of provinces as envisaged in the 1956 (two provinces) and 1973 (four provinces) constitutions. This article takes a closer look at the provisions of this amendment and highlights both the potentials and pitfalls of the new constitutional order for good governance in Pakistan. It argues that the amendment represents a step forward but encompasses several missteps in creating a harmonious political and economic union. The 18th Amendment has reinforced an outmoded “pot-belly” model (federalism of provinces) whereas an “hourglass” (federalism of local governments) model is more suited to Pakistan‘s circumstances. Major fundamental reforms are needed that right-size the federal and provincial governments, strengthen local governance, enforce fiscal discipline and citizen-based accountability for service delivery performance on all orders of government, dismantle provincial barriers to factor mobility and internal trade, and restrain beggar-thy-neighbor policies and unaccountable governance by “empowered provinces” to mitigate the unintended adverse consequences of the 18th amendment for nation building and citizenship in Pakistan.
KEYWORDS: Governance, fiscal federalism, decentralization, state and local governance, nation and province-building, constitutional division of powers, intergovernmental fiscal relations.

JEL: I31, H10, H11, H83, O10.

This paper looks at the case of Pakistan’s decentralization reform of 2001–09 and its impact on civil service management. A key point made in this paper is that the relationship between organizational change and civil service is, by no means, unidirectional. The issues are viewed in the context of decentralization, its opportunities, and outcomes for efficiency and equity. We then evaluate whether administrative decentralization has enhanced or diminished the potential for political and fiscal decentralization for service delivery in Pakistan.
KEYWORDS: Decentralization, government, civil servant, Pakistan.

JEL: H10.

This study investigates the determinants of the various components of debt—short- and long-term debt and their categories—in the case of nonfinancial listed firms in Pakistan for the period 2008–10. We make a significant distinction between these determinants depending on the components of debt issued: long-term or short-term forms of debt. Our results show that large firms are more likely to have access to long-term debt borrowing than small firms and that, due to supply constraints, small firms resort to short-term forms of debt. Firms with higher potential for growth prefer using less long-term debt as well as debt with fewer restrictive arrangements in order to become more financially flexible. Firms with sufficient fixed assets can generate external finance more easily and at lower cost by using these assets as collateral, which supports the tradeoff theory. Firms generating high levels of profit, however, may choose to finance their investments using internal resources rather than by raising debt finance, which conforms to the pecking order theory. Our results also confirm the presence of the inertia effect and industry-specific effects, and are robust to alternative estimation techniques.
KEYWORDS: Long-term debt, short-term debt, growth, firm size, profitability, Pakistan.

JEL: F23, G15, G32.

This study uses panel data on 75 textile firms for the period 2000–09 to examine the consequences of an easy credit policy followed by high gearing, increased financing costs, and other determinants of corporate profitability. Five out of nine explanatory variables—including gearing, financing costs, inflation, tax provisions, and the industry’s capacity utilization ratio—have a negative impact, while the remaining four variables—working capital management, asset turnover, exports, competitiveness, and devaluation—have a positive impact on firms’ profitability.
KEYWORDS: Easy credit, energy crisis, corporate profitability, textile sector, panel data, Pakistan.

JEL: F14, L69, L78.

While the literature on economic growth provides mixed evidence on convergence across different countries and regions, a large number of studies point toward the widening income gap between rich and poor. In the development literature, a broader range of national welfare indicators beyond income per capita—health and education in particular—are considered important instruments for measuring progress in human development. This article examines education and other selective welfare indicators to determine if there has been unconditional and conditional convergence across the districts of Pakistani Punjab over the period 1961–2008. The study can be considered part of the growing literature that looks at growth theory in developing countries in the context of human capital. Thus far, few studies have examined human capital in the context of convergence, and Pakistan has not been studied in any depth up to now. The results of our empirical analysis show that over the last five decades, both unconditional and conditional convergence has taken place in literacy rates across Punjab, and that this has been accompanied by increased gender parity in educational enrolment levels and improved housing conditions.
KEYWORDS: Human capital, unconditional convergence, conditional convergence, Pakistan.

JEL: I31, R10.

The main objective of this study is to investigate how access to modern marketing channels impacts the efficiency of dairy enterprises. Using data on dairy farms in central Punjab (Sargodha), we carry out a nonparametric data envelopment analysis to measure their technical and scale efficiencies. The results show that, for the sample dairy enterprises, the mean technical efficiency under variable returns to scale was 0.89 while scale efficiency was 0.94. The results of a follow-on regression analysis support the hypothesis that the access to modern marketing channels, where payment for fresh milk is based on measured milk quality (fat content), improved efficiency. We find that efficiency is positively affected by the size of dairy operations, and negatively by the size of operational land area. Moreover, dairy enterprises with smaller herds tend to operate at a suboptimal scale, possibly due to credit and/or land constraints.
KEYWORDS: Dairy, marketing, Punjab, Pakistan.

JEL: C14, M31.

This study presents an economic analysis of experimental on-farm data on the yield effect of gypsum on groundnut production in Pakistan’s Pothwar region. The data indicates that groundnut pod yield increases significantly with the application of gypsum at 500 kg/ha for both local and improved (chakori) varieties of groundnut. The higher net benefits generate a marginal rate of return of up to 132 percent for local and 202 percent for improved varieties of groundnut. We carry out a sensitivity analysis and minimum returns analysis, and find, respectively, that the recommended application is capable of withstanding price variability and variability in yield. Since price structure changes more rapidly than technology, recommendations should be based on an analysis of returns under varying input and output prices.
KEYWORDS: Groundnut, gypsum, economic analysis, rate of return, Pakistan.

JEL: Q19.

Controlling prices is one of the biggest tasks that macroeconomic policymakers face. The objective of this study is to analyze the demand- and supply-side factors that affect food prices in Pakistan. We analyze their long-run relationship using an autoregressive distributed lag model for the period 1970–2010. Our results indicate that that the most significant variable affecting food prices in both the long and short run is money supply. We also find that subsidies can help reduce food prices in the long run but that their impact is very small. Increases in world food prices pressurize the domestic market in the absence of imports, which cause domestic food prices to rise. If, however, we import food crops at higher international prices, this can generate imported inflation. The error correction is statistically significant and shows that market forces play an active role in restoring the long-run equilibrium.
KEYWORDS: Food prices, ARDL estimation, Pakistan.

JEL: Q11, E64.

While much research in economic development has pointed out the negative impact of corruption on growth, less research has been devoted to studying the relationship between corruption and demographic transition. This theme is developed into an overlapping generation model in which corruption affects fertility decisions through its negative impact on physical capital formation and its productivity. The analysis indicates that, when the level of corruption is high, the productivity of capital is low and fertility is excessively high because of the relatively low cost of raising children. Theoretical and empirical results show that, in both developed and developing countries, corruption creates distortions and leads to low-equilibrium traps. Introducing child quality into the model accelerates the pace of demographic transition and produces effects similar to reducing the level of corruption. Empirical estimates confirm the predictions of the model and support the proposition that fertility declines in less corrupt countries.
KEYWORDS: Endogenous fertility, corruption, productivity of physical capital, Economic growth.

JEL: F43, 012, J13, 016.

This article shows how institutional quality can affect the relationship between trade and growth. Our model looks at an economy in which the export sector is a high-innovation sector. In this economy, a government that is politically threatened by innovation can use its tariff policy to block innovation and increase domestic revenues. In this case, higher tariffs reduce economic growth and the government faces a tradeoff: It can either (i) raise tariffs, collect greater rents, and increase stability; or (ii) it can reduce tariffs and increase long-run growth and instability. When the quality of a country’s institutions are reflected in the costs of increasing tariffs, it can be shown that countries with strong institutions gain more (in terms of growth) from trade than countries with weak institutions, due to the effect of institutions on trade policy. It is also possible to show that the quality of institutions in one country can spill over into another by affecting its trading partner’s growth rate of income. However, these results are reversed in the case where a country has a highly innovative domestic sector—this explains the tariff-growth paradox in which countries experience higher growth with higher tariffs in earlier stages of development, but higher growth with lower tariffs in later stages of development.
KEYWORDS: Economic growth, institutions, trade, tariffs.

JEL: F13, E1, O41, O43.

This study is an attempt to investigate trade–labor market linkages in Pakistan. Our main hypothesis that trade liberalization leads to an increase in labor-demand elasticity is empirically verified using a panel data approach for the period 1970/71–2000/01 for 22 selected manufacturing industries in Pakistan. We use ordinary least squares to estimate models in levels and first-differences, in addition to a fixed effects model. Overall, our findings suggest weak evidence of increased labor-demand elasticity as a result of trade liberalization in Pakistan’s manufacturing sector. Nor does the study find support for a positive labor market and trade linkage from an employment point of view—as otherwise suggested by standard trade theory. This may be due to increased capital intensity in the manufacturing sector by time, and the infusion of new technology. It could also be attributed to labor market imperfections preventing trade liberalization from favorably influencing employment conditions in Pakistan. Our policy recommendations based on the study’s results stress the need for skill enhancement measures to increase labor productivity, helping it become competitive according to the demands of globalization.
KEYWORDS: Trade openness, labor-demand elasticity, Pakistan.

JEL: F16.

The degree of substitutability of different monetary assets serves as a valuable source of information for Pakistan’s monetary authorities in the context of money demand analysis. Barnett’s (1980) concept of the micro-foundations of money demand has paved the way for a more comprehensive demand system analysis. Locally flexible functional forms are unable to estimate substitution elasticities at all data points, and thus, we use the asymptotically ideal model, which is a semi-nonparametric globally flexible functional form. Our data on income, price, and substitution elasticities show that there is less-than-perfect substitution among monetary assets. The results of Allan and Morishima elasticities show that the former are inherently biased toward showing monetary assets as complements, making Morishima a better choice. The study recommends that it is high time Pakistan’s monetary authorities abandoned the simple-sum aggregation method, which assumes perfect substitution among monetary assets.
KEYWORDS: Substitution, semi-nonparametric, globally flexible, Morishima elasticity.

JEL: E41.

Land titling and ownership rights have recently been advocated in policy circles as a powerful tool for poverty reduction. The lack of formal titling prevents the use of property as collateral, and hence prevents the capital embedded in these assets from being "unlocked." Some studies show a fairly insignificant relationship between informal loans and property rights, while others indicate a significant positive relationship between formal loans (credit cards, bank loans, etc.) and land ownership. The objective of this article is to look at the impact of owned titled land on formal and informal loans among urban households in Lahore. Here, formal loans are seen in terms of bank loans and credit cards while informal loans are characterized as loans taken from relatives, friends, or local moneylenders. The findings suggest that land ownership has a positive and significant relationship with formal loans but no relationship with either bank loans or informal loans alone.
KEYWORDS: Property rights, land ownership, credit access, formal loans, urban households, Working Capital.

JEL: O15, O16, D14.

This study explores the association between working capital management and the profitability of textile firms in Pakistan. The efficiency of working capital management is reflected by three variables: cash conversion efficiency, days operating cycle, and days of working capital. We use return on assets, economic value added, return on equity, and profit margin on sales as proxies for profitability. A balanced panel dataset covering 160 textile firms for the period 2000–05 is analyzed and we estimate an ordinary least squares model and a fixed effect model. Return on assets is found to be significantly and negatively related to average days receivable, positively related to average days in inventory, and significantly and negatively related to average days payable. Also, return on assets has a significant positive correlation with the cash conversion cycle, which would suggest that a longer cash conversion cycle is more profitable in the textiles business. The findings of the regression analysis show that average days in inventory, average days receivable, and average days payable have a significant economic impact on return on assets. The findings of the fixed effect model reveal that average days in inventory and average days receivable both have a significant impact on return on assets.
KEYWORDS: Working Capital, profitability, textile sector, Pakistan.

JEL: C33, G32.

The Center for Research in Economics and Business (CREB) of the Lahore School of Economics, hosted the Seventh Annual Conference on the Management of the Pakistan Economy from May 4th – May 6th, 2011 and the theme of this year’s conference was ‘Financial Sector Development and Management’. Since Pakistan has undergone significant economic and financial changes over the last decade, the objective of the conference was to present an overview of the Pakistan economy and then focus on financial sector management and monetary management issues facing Pakistan.
KEYWORDS: Pakistan, Lahore School, Annual Conference, Pakistan economy, CREB, seventh.

JEL: N/A.