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Will Pakistan’s Move Into The MSCI EM Index Boost Its Economy?

Pakistan has been in the limelight for its growth. The reason is the MSCI`s Annual Market Classification Review in which Pakistan managed to be the victor. This is a great accomplishment mainly because a “Big Fish” such as China failed, but Pakistan managed to alter its status from “Frontier Market” Index to “Emerging Market.”

Morgan Stanley delayed the choice to include China`s Class-A Terrain shares to the EM file referring to market access issue as the reason. In spite of the fact that it guaranteed to review the choice in its 2017 cycle, for the time being this move is a major hit to China’s aspiration of joining the serious contenders in the worldwide capital market.

Although this is temporary but the disappointment is understandable when a country such as Pakistan is infamous for its economic and political turmoil being accepted into the EM index. Also, China`s economy is much stronger and bigger than that of Pakistan. In fact, according to IMF China is the world largest economy according to purchasing power parity and second largest in terms of nominal GDP. Despite being such an economic giant, the one thing that made China lag behind Pakistan was stability.

In the present capital market, business commentators see the Chinese business sector as eccentric and unstable, an observation that once made Pakistan lose its place in the EM Index. Accepted into the EM Index in 1994, it was because of the interim termination of the Karachi Stock Market (for 110 days) in 2008 that prompted it to minimize the frontier market status. The decline in status took place after a warning that the “market needed to function without any trading disruptions for some time before being considered for reclassification in its EM Index.” Hence, from 2008-2016, it took us nearly 8 years to be included in the EM Index.

Back in the EM record, numerous pundits don’t consider it as a great prospect for the nation. Pakistan’s nearly non-existent weight of 0.19% (the second-most reduced in the file) which places it marginally above 0.18% held by Czech Republic, makes the analysts wary as they feel Pakistan would lose its worth within the sight of greater, more steady markets. The potential money inflow is another point to contemplate, as pundits feel it could lose its importance when compared with the money outflow.

According to Hasnain Malik who is the regional head of frontier markets equity strategy at Exotix Partners (an investment bank catering to smaller markets), all frontier funds currently holding Pakistani stocks would sell as the new wave of EM funds moves in, which may or may not happen.

Others, however, are not too stressed about the cash inflows. BMA Capital – Pakistan’s leading financial group predicts a generally positive consequence of the reclassification. As indicated by one of its investigator, Usman Zahid, “the country’s 2008 removal from EM status and subsequent reclassification into the FM status resulted in net outflows of USD316mn during the period Aug’08‐May’09 – a proxy figure for a potential baseline inflow as a consequence of the upgrade.”

As far as the FM funds selling Pakistani stocks are concerned, Daniel Salter, head of emerging market equity strategy at Renaissance Capital claims them to be uncertain which can affect off-index countries like UAE, Saudi Arabia, Egypt and Qatar.

Besides, The Karachi Stock Exchange has shown a 14% growth and performed as the best stock market in Asia this year. And with the announcement by the MSCI, the stocks were recorded at a record high.

Above all, in spite of the vulnerability attached to the acceptance of the reclassification, there stays one positive angle to it. The step reflects a positive perception about Pakistan`s credibility and stability in terms of its market. This was also the basis where China lost.

An international media report successfully points out, “Pakistan’s reclassification also acknowledged the nation’s progress in macro stability and corporate governance.”

This is a much needed development of position for Pakistan as an image advancement was long past due. The South Asian nation has transcendently been connected with political turmoil and monetary unsteadiness, regardless of its on-ground progress on both fronts. In the recent past, the country’s interest rates are at a 42-year low, inflation has been restrained to about 3 percent, the currency is stable and foreign exchange reserves have hoped to an all-time high. In addition, the security state has demonstrated a great change with terrorism related activities declining down by a massive 74% from 2010.

However, even after the success in the above mentioned economic indicators, Pakistan is failing to achieve its FDI targets. In spite of the fact that amid the initial eleven months of FY16, it expanded by 10% when contrasted with the same time frame in FY15, regardless it added up to an aggregate of one billion dollar which, as indicated by financial analysts, is low and does not meet Pakistan’s requirement.

In addition to negligence of the long term foreign investment policy, Pakistan also has an image problem which is a great obstacle in its growth. This claim was raised in a Reuters repot stating that “convincing foreign investors to overlook the country’s violent past and bet on its economy remains a hard sell.” Pakistan’s disrepute goes before its presence and since most speculators have never gone by Pakistan, the nation turns into a hard offer.

On a positive note, the perception are changing slowly but are certain. For this reason Pakistan was termed as the “next success story” due to its improving security situation by Daniel Runde, a Forbes Contributor. Also, Bloomberg focused on the improving situation of security in Karachi which is leading to a flourishing activity in the real estate sector. Referring to Zameen.com as its source, the report guaranteed that average costs in Karachi ascended by 22% and by 14% in Lahore in a year’s time. In a later FT report, Charles Robertson, a global chief economist shared that, on a per capita basis, the likelihood of being killed by a gun in the US is now higher than that of dying as a result of terrorism in Pakistan.”

All these positive critiques are snatching speculators’ consideration, yet gradually. For instance, Pakistan’s only MNC sold 51% of its share to a Dutch dairy company for an estimated amount of $448, million while Dawlance, got acquired by Arcelik, a Turkish company for a sum of $258 million. German company Bosch opened its door in Lahore. Moreover, Audi has decided to enter Pakistan with Renault-Nissan considering a plant and Suzuki looking to make a further investment of $460 million for a new factory.

Pakistan’s destiny is tied with its security situation, particularly in its financial center, Karachi. Nawaz Sharif’s choice to work in alliance with the military has prompted positive results evident on each front – a point that should be highlighted more. The MSCI renovation may have a strong influence in re-establishing the once polluted image of Pakistan. The effects of it have already started to show with the KSE leaping to a record high performance. Despite of the minor weight in the EM index and money flows argument, one thing is for sure that the MCSI reclassification would lead to a stable and positive image of the Pakistan market, which would increase the foreign investor`s confidence in the economy which is the need of the hour. Also if there is sustainability in Pakistan`s position in the EM index, it will reap more benefits in the long run.

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