Reforms have begun in Pakistan to sustain the funded pension scheme for government-operated pension schemes such as the Employees Old Age Benefit Institution (EOBI). Presently, the EOBI operates its own fund and invests most of its assets in government-backed securities which are basically interest-bearing debt instruments. Although the returns on the EOBI’s fund have been high for a short period due to higher interest rates and minimum pension distributions, this trend is not likely to continue. Funded pension schemes depend heavily on portfolio performance because risk is transferred to contributors. Therefore, asset allocation becomes considerably important. The purpose of this study is to determine optimal asset allocation and the role of international diversification specifically for the EOBI’s funds and generally for newly created funded pension schemes in Pakistan. The article analyzes the potential benefits accrued through international investments based on historical returns over almost five decades with varying degrees of risk aversion coefficients. Varying degrees of risk may allow policymakers to incorporate their strategies for future asset behavior and take timely action to counter the potential threat of aging, demographic shifts, and liabilities and to ensure decent benefits for pensioners.
KEYWORDS: Asset allocation, international diversification, pension fund, Pakistan.

JEL: G11, G23.

This paper utilizes three Multivariate General Autoregressive Conditional Heteroscedasticity (MGARCH) models to determine variance persistence in the Greater China region from 2009 to 2014. The first approach applies the Baba, Engle, Kraft and Kroner (BEKK) model and shows that the Shanghai Stock Exchange Composite Index (SSEI), Taiwan Capitalization Weighted Stock Index (TAEIX) and the Hang Seng Stock Index (HSEI) stock returns are all functions of their lagged covariances and lagged cross-product innovations. The second MGARCH approach applies two methodologies, namely, dynamic conditional correlation (DCC), and constant conditional correlation (CCC) estimations. The DCC model concludes both short- and long-run persistencies between Taiwan’s TAIEX and Hong Kong’s HSEI. Alternatively, the CCC model confirms the initial findings of the BEKK model, and adds that the relationships among these three strong economies are stable in the long-run. The log-likelihood values determine that the DCC model is better in judging volatility dynamics in the Greater China region, because of economic clauses brought by the Closer Economic Partnership Arrangement (CEPA), the Economic Co-operation Framework Agreement (ECFA) and the Hong Kong - Taiwan Business Cooperation Committee (BCC).
KEYWORDS: Greater China Region, stock market returns, volatility dynamics, MGARCH models.

JEL: P45, C30.

In the last two decades, the financial services sector in Pakistan has seen remarkable growth and structural development. However, it is debatable whether the financial markets and institutions have contributed meaningfully towards promoting growth in the real economy. This paper provides a brief background of the theoretical and empirical literature on the linkage between the financial services sector and economic growth. It evaluates the development of Pakistan's financial markets and institutions in comparison to a cohort of developing countries. The country's governance and regulatory environment in light of these theories and the empirical evidence is compared with other countries. The weaknesses in the linkages between finance and economic growth are identified within the framework of the theoretical models and relevant empirical evidence. The final section discusses the challenges Pakistan faces in making its financial services sector become an effective driver of economic growth.
KEYWORDS: Financial services, economic growth, Pakistan.

JEL: O16.

This paper models the individual-level social capital effect the credit market constraints that reduce the accumulation of costly human capital. Human capital, in turn, improves an individual’s income as well as the bequest that they intend to leave for their children. It also helps reduce inequality across a country. Finally, the model shows that investment in social capital has a negative relationship with the interest rate, so that the initial inherited bequest of every individual affects the output and investment in the short-run, as well as in the long-run.
KEYWORDS: Social capital, credit market, investment, interest rate.

JEL: E24.

Pakistan is an emerging market for fintech, with increasing facilitation for digital payments, widespread internet and smartphone penetration, consumer preferences for social media and booming online commerce. Also, the State Bank of Pakistan provides sound regulations, which act as a platform for fintech growth. While regulations are necessary, they might also become a threat for an industry still in its infancy. This paper aims to provide a qualitative assessment of economic, demographic and technological factors that are conducive for the penetration and growth of fintech in Pakistan. A second, but no less important, objective of this paper is to look at the regulatory framework governing fintech and its contribution in making the segment an active or dormant player in the financial services industry.
KEYWORDS: Fintech, disruption, innovation, financial services, emerging market, Pakistan.

JEL: K20, O16, G20.

Given that autocorrelation tests do not perform well in the presence of heteroskedasticity and in variance-break cases, we present three modified weighted variance ratio tests of autocorrelation. The numerical results show that the proposed tests perform better for small samples. They provide a better approximation of asymptotic distributions and are more powerful when the lag length is mis-specified. The study also applies these tests to data on the daily returns of two companies listed on the Pakistan Stock Exchange.
KEYWORDS: Regression, variance break, wild bootstrap.

JEL: C40.

This paper examines whether regional connectivity causes return and volatility spillovers and the co-movement of stock exchanges to shift from international to regional markets. Using the China-Pakistan free trade agreement (FTA) of 2006 and the China-Pakistan Economic Corridor (CPEC) agreement to represent events of regional connectivity, we test this proposition based on data for two regional stock exchanges (the Pakistan Stock Exchange and Shenzhen Stock Exchange) and two global markets (the FTSE 100 and Nasdaq). We divide the convergence and co-integration of the stock markets into three phases: overall sample (2001–17), pre-FTA and post-FTA, and pre-CPEC and post-CPEC. Applying a GARCH (1, 1) model, co-integration, Granger causality and seasonality, we find that regional connectivity causes return and volatility spillovers and co-movements in the Pakistan Stock Exchange to shift from international markets to regional markets.
KEYWORDS: Financial integration, China-Pakistan economic corridor, interdependency, co-integration, free trade agreement, regional connectivity, Pakistan.

JEL: F15, C22, R58, F21, E44.

This paper examines the impact of exchange rate changes on the stock returns of 232 nonfinancial firms listed on the Pakistan Stock Exchange, for the period January 2000 to June 2014. To mitigate the problem of heteroskedasticity, we use a generalized least squares estimator. The estimated regression models indicate that exchange rate variations have a significant effect on firm value and that firms are exposed significantly to one-period lagged variation in the exchange rate. Our results suggest that, in addition to exchange rate dynamics, increased exchange rate volatility appears to have significant and negative effects on firms’ stock returns. Compared to domestic firms, multinational firms experience greater exchange rate exposure. Finally, we show that exchange rate depreciation and appreciation have significant differential effects on firms’ stock returns. These effects vary significantly across domestic and multinational firms.
KEYWORDS: Exchange rate exposure, stock returns, firm value, domestic firms, multinational firms, volatility of exchange rate, Pakistan.

JEL: G23.

This paper estimates the Mincer wage model for Pakistan’s labor market, using a relatively recent dataset and new independent variables. We employ instrumental variables and two-stage least squares to address the problem of the endogeneity of education. Our results show that the returns to education are biased downward due to endogeneity, with significant wage gaps emerging among different regions, between genders and between urban and rural job markets. The study’s choice of instruments has conceptual as well as empirical grounds. Our findings establish that the wage determination process is different for males and females across provincial labor markets.
KEYWORDS: Endogeneity of education, human capital model, instrumental variables, Mincer regression, labor market, returns to schooling, Pakistan.

JEL: C26.

This paper aims to provide a more comprehensive understanding of the impact of financial developments on output volatility. Using cross-sectional and panel datasets for 79 countries from 1961 to 2012, we find that financial expansion plays a significant role in mitigating output volatility, although the evidence is weak in some cases. The role of financial stability is more prominent than that of other measures of financial growth in mitigating output volatility. The volatility of terms of trade and inflation contributes positively to increasing output volatility. We also evaluate the channels through which financial developments can affect output volatility. Our model investigates the link between financial growth and output volatility through two potential channels, using four measures of financial development. The volatility of inflation and of terms of trade are used as proxies for monetary sector and real sector volatility, respectively. Financial development plays a mixed role in amplifying or mitigating output volatility through real and monetary sector volatility. Overall, there is some evidence to suggest that financial development amplifies monetary sector volatility, but weaker evidence that real sector volatility is reduced by financial development.
KEYWORDS: Output volatility, financial development, panel data.

JEL: O16, E30, E51, G20.

This study examines the impact of migration on children left behind in terms of schooling and child labor by quantifying two aspects of migration: remittances and parental absence, in cases where the father is the migrant. The study is based on a panel analysis of data drawn from the Multiple Indicator Cluster Survey for 2007 and the Privatization in Education Research Initiative survey for 2011. The sample comprises 820 households with children aged 5–14 years. The study uses the instrumental variable (IV) approach due to endogeneity. Exogenous variation in parental absence and remittances sent by migrants from a given kinship network are employed as IVs. This, combined with household fixed effects and random effects, increases the reliability of the results. While remittances benefit the children, father’s absence has adverse consequences for them. However, mother’s presence in the house appears to compensate for the father’s absence, making the migration beneficial on net for the child. The father’s absence has worse consequences for girls in terms of increased child labor, where the money coming in through remittances has a larger impact on boys’ schooling.
KEYWORDS: Migration, remittances, schooling, child labor, mother presence, Pakistan.

JEL: F24, O15.

Using a structural vector autoregressive model, this study investigates the extent to which international oil price shocks have influenced the Chinese economy over the period 1991–2014. Given China’s intensified macroeconomic activity and its increasing demand for energy resources, we also examine the endogenous response of international oil prices to economic conditions in the country. To that end, we derive and empirically estimate a small open-economy New Keynesian model for China and the rest of the world. Our results show that the Chinese economy is relatively more sensitive to global economic conditions than to domestic policy actions. Global productivity shocks appear to be the most important variable causing Chinese macroeconomic activity through trade, where oil prices impact aggregate demand negatively.
KEYWORDS: Globalization, macroeconomic fluctuations, oil price shocks, SVAR, China.

JEL: E32, F41, Q43.

This article analyzes the correlation between trade liberalization and welfare in Pakistan from 1986 to 2015. Using consumption expenditure as a measure of welfare, we estimate the relationship using a vector error correction model. The empirical results show that trade liberalization does not have an immediate correlation with welfare: it takes some time for liberalization policies to enhance welfare. The findings also suggest that trade liberalization can help reduce poverty, decrease inequality and increase enrollment levels in the long run. But in the short run, trade liberalization has led to higher income inequality.
KEYWORDS: Welfare, trade liberalization, social indicators, Pakistan.

JEL: G15, F65.

This article examines the dynamic linkages between Pakistan’s emerging stock market and (i) the US market and (ii) the regional markets of India and Japan. Using data for the daily returns and volatility spillovers of three market pairs (Pakistan-US, Pakistan-Japan and Pakistan-India), the study estimates a series of bivariate asymmetric VARMA(1,1)-GARCH(1,1) models. It also fits multivariate asymmetric VARMA(1,1)-GARCH(1,1) models for two groups of markets: Pakistan-India-US and Pakistan-India-Japan. Based on the mean spillovers, the results suggest that the global and regional equity markets (Granger) cause the Pakistani market. There are unidirectional volatility spillovers to Pakistan from the US and Japan, while India is the only regional market with a significant cross-asymmetric effect on Pakistan. In the multivariate case, the regional and global markets have significant joint mean and variance spillovers and asymmetric effects on the Pakistani market. This indicates a weak degree of integration between the Pakistani market and the global and regional markets, implying that local risk factors – either firm-specific or country-specific – explain the expected returns on investment in the Pakistani stock market.
KEYWORDS: Dynamic linkages, bivariate GARCH, financial market integration.

JEL: G15, F65.

This paper tests the validity of the q-factor model on stocks listed on the Karachi Stock Exchange in Pakistan. The q-factor model is an investment-based factor model that explains stock returns based on market, profitability, investment and size factors and it tends to outperform the traditional CAPM, the Fama and French (1993) three-factor model and Carhart (1997) four-factor model, with some exceptions. While the model has been tested using data from stock markets in developed countries, the dynamics of emerging stock markets are significantly different, warranting a reapplication of the model to average stock returns in a developing market. We use data from the Karachi Stock Exchange to test the model in an emerging market context. The results show that, as firms increase their investment, their stock returns decline. Hence, a firm’s investment is conditional on a given level of profitability. The size effect is strongly significant for small firms, but absent for large firms. Finally, the study identifies new factors that give a better understanding of returns in the context of an emerging economy such as Pakistan.
KEYWORDS: Asset pricing, q-factor model, Karachi Stock Exchange, stock return.

JEL: G11, G12.

Most of the earlier literature on poverty in Pakistan uses a single poverty line for the whole country or, at most, relies on a rural-urban divide. This segmentation fails to incorporate differences across provinces. This study estimates different poverty lines for the rural and urban segments of each province and region. Its estimated food, nonfood and overall poverty lines show that, with the exception of the capital territory of Islamabad, the urban poverty line is higher in all regions. The estimates of poverty show that, with the exception of Islamabad Capital Territory, rural poverty is much higher than urban poverty in all regions. We find that 25 percent of urban households and nearly 37 percent of rural households fall below the poverty lines we have defined. The study also finds that poverty measured in terms of households ignores household size and thus suppresses poverty figures.
KEYWORDS: Poverty, income distribution, welfare, Pakistan.

JEL: O15, I30.

The Pakistani economy currently stands at a crossroads; while it has stabilized over the last few years, the focus has turned towards restarting economic growth. This is a challenging task because of structural problems faced by the economy as well as the global economic slowdown. While the economy has avoided a major downturn since the IMF’s package in 2013, economic growth has been sporadic due to a variety of causes, including fiscal deficit, and financial vulnerabilities.
KEYWORDS: Pakistan, economy, policymaker, annual conference.

JEL: N/A.

This article identifies constraints and barriers to growth for small firms in Pakistan, a survey of the existing literature and through in-depth interviews with a sub-sample of firms in two important SME sectors, that is electrical fans and sporting goods. Policy recommendations for the SME sector include addressing problems in contract enforcement (such through alternative dispute settlement mechanisms), promoting R & D through linkages with academia locally and research institutions globally, simplifying of the tax regime to encourage transparency, resolving the energy crisis and rationalize power tariffs, increasing the availability of credit to SMEs (allowing alternative forms of collateral). In addition, more detailed recommendations specific to the fan and sporting goods sectors are also offered.
KEYWORDS: Pakistan, SMEs, light engineering, constraints, electrical fans, sporting goods.

JEL: L10, L60.

As Pakistan enters the CPEC era, there is a sense of optimism as well as concern in the country, given the uncertain economic impact of this major collaboration between China and Pakistan. Using firm-level and trade data, we empirically test the impact of the 2006 free trade agreement (FTA) between the two countries on the productivity, size and value added of potentially affected Pakistani firms. These results have important policy implications for CPEC initiatives. We start with a difference-in-difference analysis, comparing trends in those sectors in Pakistan made more vulnerable by tariff reductions on Chinese goods relative to sectors for which the tariff did not change significantly. Next, we examine those sectors in Pakistan that were given greater access to Chinese markets through reductions in the Chinese tariff on Pakistani goods relative to sectors for which market access remained roughly the same. In the sectors made more vulnerable by reductions in Pakistani tariffs on Chinese goods, imports to Pakistan have risen, while productivity, value added and value added per worker have fallen relative to other sectors since the FTA. In the sectors for which Pakistan gained access to Chinese markets, exports and employment have risen, but productivity and value added have fallen relative to other sectors since the FTA.
KEYWORDS: Pakistan, China, FTA, CPEC.

JEL: F10.

Economists typically use multiple indicators to assess the burden of external debt, such as the ratios of the stock of debt to exports and to gross national product, and the ratios of debt service to exports and to government revenue. As opposed to those methodologies, this article examines the Pakistan’s external debt position using a market based approach which analyzes the marginal costs of external debt as indicated by the yields on the country’s Eurobonds and the spreads on the Credit Default Swaps (CDS) traded in the international markets. The results show a sharp decline in the yields on the Pakistani Eurobonds from their peak reached during the global financial crisis (GFC) period and this decline was largely driven by quantitative easing and the resultant low interest rates in the international debt markets. Also, the continued decline in the yields in the more recent period, 2013-2017, was due to strengthening of the county’s borrowing capacity over the period. The analysis also shows that Pakistani yields seem to be converging to yields for other Asian countries, even though that the yield-spreads between Pakistan and others countries are still substantial. In conclusion the decrease in bond yields and CDS spreads may signal that the country’s external debt is currently at sustainable levels.
KEYWORDS: External debt, Debt management, economic growth, Pakistan.

JEL: H63.