Introduction
The market oriented economic and investment policies introduced across the board in the late 1980s and early 1990s created a conducive environment for the capital market in Pakistan. To enhance the status of the capital market as per international standard, the successive governments took a number of unprecedented measures including modernization of its basic infrastructure. Liberalization policies introduced during 1990-93, encouraged private investment, both domestic and foreign followed by a number of joint ventures between Pakistani and foreign investors from Iran, Saudi Arabia, Japan, South Korea etc. Market friendly measures introduced in the early 1990 such as privatization of various state enterprises/units and commercial banks, deregulation of industrial sanctions, allowing private sector to set-up commercial and investment banks, and permission to foreign investors to buy and sell shares freely on the stock market with full repatriation facilities, equal access to foreigners for borrowing from the domestic banks, and permission to own upto 100 percent equity in a venture, to remit dividend and disinvestment proceed, served as catalyst in reviving the confidence in the country's stock market. Within a span of 4 years, the Karachi Stock Exchange (KSE) price index increased by 48.3 percent, rising from 1572 points in 1990-91 to 2331 points in 1993-94. The aggregate market capitalization increased from Rs 68.4 billion in 1990-91 to Rs 404.6 billion in 1993-94. Listed companies on KSE increased from 542 in 1990-91 to 724 in 1993- 94. Similarly total turnover of shares increased from 0.4 billion in 1990-91 to 2.2 billion in 1993-94.

During the next four years, i.e., from 1994-95 to 1997-98, Pakistan's stock markets were dominated by a number of adverse domestic and international factors. The domestic factors included: crisis in the textile sector, closure of a large number of industrial units, less than targeted tax collections and export earnings, poor performance of the corporate sector, freezing of foreign currency accounts, frequent devaluation of Pakistani currency, political uncertainty etc. The external factors amongst others included: contagion effects of the East Asian financial crises, imposition of economic sanctions by leading industrial countries, and unresolved dispute with the Independent Power Projects (IPPs) which eroded investors' confidence. Consequently the KSE price index plunged to 880 points in 1997-98 from 2231 points in 1993-94, and market capitalization of ordinary shares incurred a massive loss of Rs 146 billion as it came down from Rs 405 billion in 1993-94 to Rs 259 billion in 1997-98. The State Bank's general index of share prices also plummeted below the 100 points mark.

Notwithstanding the above adverse domestic and international factors which have impacted the developments of the country's capital markets several structural reforms measures were, nevertheless, taken to improve the workings and depth of capital market in Pakistan. The Government initiated comprehensive programmes for sustained and balanced development of the stock market; aimed at further strengthening the infrastructure facilities including reorganization of the Corporate Law Authority (now Securities & Exchange Commission of Pakistan) and promotion of free market environment. Foreigners and overseas Pakistanis were allowed to make new investments without any prior approval with the exception of a few specified industries. Necessary safeguards were provided to protect the interest of individual investors and share holders. Fiscal incentives were given to encourage participation in the stock market of small savers. The out-dated/out-moded Capital Issue Act 1947 was repealed in 1995-96 to improve self-regulatory role of the stock exchanges in the country. Other measures included; tax exemption of capital gains up to 2000, tax exemption on bonus shares as well as tax exemption for foreigners investing in fixed income securities. All these incentives, however, could not help revive investors' confidence as the negative factors out-weighed the positive developments. International sanctions, recession in the international commodities market and presence of weak economic fundamentals did not allow the stock market to recover appreciably in 1998-99 as per details given in Table 7.1.

* December 1990
Source: SBP, SECP., December 1990

Developments During July-March, 1999-2000
After touching the lowest ebb in the preceding years, the leading market indicators displayed some modest recovery in the very beginning of the current financial year. KSE index increased from 1055 points in June 1999 to 1252 points in July 1999. Aggregate market capitalization of ordinary shares also recorded a gain of Rs 41.2 billion within one month. From July 1999 to November 1999, the market indicators however, remained almost unchanged.

The present Government took charge of the state of affairs on October 12, 1999 and taken several measures to rehabilitate the ailing economy which included: initiation of steps for speedy privatization process, positive movement towards early resolution of IPP's issue, establishment of National Gas Regulatory Authority and autonomy granted to oil and gas Companies, allowing foreign investors to repatriate their funds without any restriction from SBP, reduction in the interest rate and elimination of whitener schemes to reduce tax evasion, recover outstanding/over due loans, termination of various lottery scheme (Crore Pati Scheme etc.), reduction in interest rates by banks and national savings organization, rescheduling of foreign debts and considerable improvement in economic fundamentals such as higher revenue collection, lower inflation, rising export earnings and industrial growth other than sugar production.

In particular, the Chief Executive's announcement of comprehensive socio-economic package on December 15, 1999 brought some positive change in moods and sentiments of the investors. All these measurers have greatly contributed to the bullish sentiment of the market. By end December 1999, the KSE index increased to 1389.2 points and aggregate market capitalization to Rs 361.3 billion.

Source: Karachi Stock Exchange.

By the end of March 2000, the main business barometers further consolidated and the KSE index increased to 1999.7 points on March 31, 2000 from 1054.7 points on June 30, 1999, market capitalization increased to a record level of Rs 500.1 billion on March 31, 2000 from Rs 289.2 billion in June 1999. During the first nine months of the current year, the KSE price index, SBP general index, and aggregate market capitalization have
increased by 89.6 percent, 46.8 percent and 72.9 percent respectively, as against their growth of 20.1 percent 4.3 percent and 11.7 percent in the same period last year. Total turnover of shares on KSE more than doubled to 34.7 billion, from 17.1 billion in the same period last year. Funds mobilized by KSE during the first nine months of the current fiscal year amounted to Rs 7.7 billion, including Rs 6.3 billion, through right issues and Rs 1.4 billion through debt instruments. The funds mobilized in the corresponding period of last year were Rs 1.3 billion only. Average daily turnover of shares has tremendously increased from 56.1 million in 1996-97 to 286.4 million in March, 2000. In 1999 and first 3 months of 2000, 7 companies were however, delisted from the KSE. Profile of KSE may be seen at Table 7.2.

Upward business trends were also witnessed at other two stock exchanges namely, the Lahore and Islamabad Stock Exchanges. The turnover of shares on Lahore Stock Exchange (LSE) during July-March 1999-2000 was 12.0 billion, compared to 6.3 billion shares in the same period last year. Total paid-up capital with LSE increased from Rs 192.7 billion in 1998-99 to Rs 204.4 billion during July-March 1999-2000. The LSE index which was 348.2 points in December 1999 increased to 479.4 points on March 31, 2000. Market capitalization of Rs 310.8 billion in December 1999 increased to Rs 451.6 billion on March 31, 2000. A profile of LSE is given in Table 7.3. Similarly turnover of shares on Islamabad Stock Exchange (ISE) registered a jump of 189 percent from 0.9 billion shares in July-March 1998-99 to 2.6 billion during the first nine months of the current financial year. The amount of fund mobilized at ISE was Rs 2.5 billion during the first nine months of the current year, as compared to Rs 1.0 billion in the same period last year. The ISE price index has also increased from 4510 points in March 1999 to 6475 points in March 2000. (Table-7.4).

Source: Lahore Stock Exchange

Total funds mobilized during July-March 1999-2000 in the three stock exchanges (KSE, LSE & ISE) amounted to Rs 10.2 billion, as compared to Rs 2.3 billion in the same period last year. Total turnover of shares in the three stock exchanges during July-March 1999-2000 was 49.2 billion, compared to 24.3 billion in the same period last year, recording a growth of 102.2 percent. Sectoral price indices of all the 12 leading groups (cotton and other textiles, pharmaceuticals & chemicals, engineering, auto & allied, cables and electric goods, sugar and allied, paper and board, cement, fuel and energy, transport and communication, banks and other financial institutions and miscellaneous) have increased considerably from their level in June 1999, ranging from 4.1 percent in the case of sugar and allied to 95.3 percent in the case of cement. Price indices of fuel and energy have increased by 83.0 percent, auto and allied by 57.4 percent, paper and board by 37.0 percent, chemical and pharmaceutical by 30.9 percent and cotton and other textile by 27.7 percent.

Source: Islamabad Stock Exchange.

Total market capitalization of five leading groups namely; cotton and other textile, fuel and energy, transport and communication, financial institutions and cement was Rs 367.2 billion on March 31, 2000 or 73.4 percent of the aggregate market capitalization of Rs 500.1 billion. Their combined share was 53.5 percent in June 1991. During the last ten years, transport and communication was the most rapidly growing sector, its market capitalization has increased from a negligible amount of Rs 2.5 billion in June, 1991 to 129.6 billion in March, 2000. Fuel and energy was the second most rapidly growing sector, its market capitalization has increased from Rs 14.6 billion in June 1991 to Rs 125.9 billion in March 2000.

During the one year period from December 31, 1998 to December 31, 1999, the number of limited companies in Pakistan has increased by 968, as compared to 376 companies in the previous year. Total number of companies stood at 41490 on December 31, 1999 from 40522 on December 31, 1998.

Major Institutional Developments
The major developments of the capital market in Pakistan were; (i) establishment of Central Depository System; (ii) automation of trade in all the three stock exchanges and; (iii) establishment of Credit Rating Agencies. With the help of the Asian Development Bank a new system design has been prepared having features of Rolling Settlement on T + 3 cycle on the basis of continuous net settlement. Securities & Exchange Commission of Pakistan (SECP) has streamlined its procedure for issuance of Fixed Income Securities. A number of policy decisions have been taken to liberalize investment procedures and encourage capital formation through stock exchanges. Some of the significant developments in the corporate sector which have vastly enlarged the size and depth of the capital market include: permission for companies to buy back their own shares, assets securitization, rehabilitation of sick industrial units etc. The SECP has notified the legal frame-work for securitization of assets. By introduction of this concept, Pakistan has entered in an era where financial markets could reap the advantages of this mode from which the developed markets have benefitted to a great extent. Securitization is an emerging funding option for non-bank financial institutions (NBFIs), specially in the current state of the financial markets.

Institutional Strengthening of Securities and Exchange Commission of Pakistan
Under the institutional strengthening of Securities & Exchange Commission of Pakistan, besides other measures, several new regulations have been framed, some of which are as under:-

Prohibition of Trading by Insiders Regulation, 1999: These regulations aim at curbing trading on the basis of privileged information. The act of dealing in securities of listed companies on the basis of unpublished price sensitive information or communicate any unpublished price sensitive information to any person has been made a culpable offense, carrying fine which may extend to three times the gain accrued or imprisonment for a term which may extend to three years. The regulations, which shall come into force in few months would go a long way in curbing the curse of insider trading.

Regulations for Inspection of a Member of a Stock Exchange: In order to bring transparency in the business of stock market, brokerage houses and members (broker/dealer) a proper system of inspection of books and records of such brokerage houses/brokers is being established. The regulation framed comprehensively, list out documents/records which the brokerage house/brokers would be obligated to present for inspection to a person authorized by the Commission for the said purpose. The basic aim for these regulations is to ensure fair dealing, proper documentation etc. Failure to comply with the regulations would entail penal action.

Regulation for Employees Stock Option Scheme (ESOP): The ESOP has been successfully used by the developed countries to augment productivity/efficiency by motivating their employees through this scheme. Under this scheme the shares are gradually allotted which keep on increasing over a period of time, binding the employees to their companies/corporations with the sense of sharing ownership. In Pakistan this scheme was initially introduced in 1992 and now comprehensive regulations have been framed, which would be introduced in due course.

Future Development Programmes
The SECP has prepared a forward looking road map for future development of capital market in Pakistan. The salient features of the road map are summarized as follows:

* For further improvement of market infrastructure and ensure efficient trading all listed companies are being motivated to enter the central depository system.

* A national clearing and settlement system is being established. The SECP has drafted a take-over law which is under consideration of the Government. It is also strengthening its investigative unit by qualified and trained staff.

* An Enforcement Division has been created in the SECP under a full-fledged Commissioner to monitor performance of listed companies.

* A report on master plan for automation of the SECP has been finalized which will be approved after necessary scrutiny.

* The SECP is already hosting a web site in which all the rules and current circular are being made available to the general public.

* The SECP is designing a system for inter-net trading alongwith a regulatory
frame work.

* In order to bring transparency in the business of stock market, brokerage houses, and members (broker/dealer), a proper system of inspection of books and records of such brokerage houses/brokers is being established.

* Necessary amendments in the existing software at the three stock exchanges regarding automated trading would be made so as to facilitate inter-net trading.

* The SECP has notified and prescribed cost accounting records for companies engaged in production of cooking oil, ghee and cement to inter-alia, facilitate process of audit. Similar rules for sugar industry have been notified for eliciting public opinion.

* Code of conduct and ethics for stock brokers will be prepared. The stock exchanges as self-regulatory organizations would be required to enforce the code of conduct and ethics. The SECP would ensure that the system works smoothly.

* An advertisement in the summary form is being published to guide the small investors against various market risks. A complete guide has been prepared which would be published by SECP and made available to the general public at a nominal cost.

* To broad-base the capital market, linkages to cities other than Karachi, Lahore and Islamabad would be established. The SECP is in the process of developing a policy framework so that the operation is extended to such cities.

* Software at all the stock exchanges are to be up-graded so that the trading from the small cities through the communication linkage is facilitated. System design to be prepared on the above basis.

* New set of rules are being developed to ensure smooth operation of Employees Stock Options. Rules on different classes of shares have been published for eliciting public opinion. It would be ensured that such shares cater for various needs of the market.

Development Finance Institutions (DFIs)
During 1998-99, DFIs sanctioned total loans of Rs 16.0 billion against which they disbursed Rs 15.6 billion. During the first nine months of the current fiscal year (1999-2000), sanctions and disbursements of loans by DFIs for fixed investment finance to the private industrial sector were Rs 2.2 billion and Rs 2.2 billion respectively. The loan sanctioned and disbursed by other financial institutions including specialized banks, NCBs, privatized banks, private banks and foreign banks during the period under review were Rs 13.8 and Rs 14.6 billion respectively.

National Savings Organization (NSO)
The Central Directorate of National Savings (CDNS) is an attached department of Finance Division and preforms deposit bank functions by sale of government securities through a network of 366 savings centers, spread all over the country. The National Saving Schemes (NSS) generally attract small savers like widows, orphans and pensioners. As of March 31, 2000 there were a total of about 4 million investors with NSS. The seven Savings Schemes currently in operation include: Defence Savings Certificates, Special Savings Certificates (R)/Accounts, National Deposit Certificates, Savings Account, Regular Income Certificates, Mahana Amdani Account, and Prize Bonds.

During the fiscal year 1998-99, net deposits with National Saving Schemes increased by 25.2 percent, rising from Rs 113.6 billion in 1997-98 to Rs 142.2 billion in 1998-99. Regular Income Certificate at Rs 59.1 billion emerged as the most successful scheme in 1998-99 with a share of 41.6 percent in the net accruals, followed by Defence Saving Certificates (26.9%), Special Saving Certificates (17.6%) and National Prize Bonds (7.1%) (see Table 7.5).

Note: Figures within brackets represent share to total.
Source: Directorate of National Savings.

During the first nine months of the current fiscal year, total net savings amounted to Rs 72.5 billion as against the actual net receipts of Rs 99.9 billion in the same period last year. Defence Saving Certificates have so far given the best performance (Rs 31.3 billion) followed by Regular Income Certificates (Rs 24.1 billion) and Special Savings Certificates (Rs 16.3 billion). These three savings schemes mobilized the net proceeds of Rs 71.7 billion which constituted 98.9 percent of the total net receipts mobilized.

Savings can be mobilized through banking as well as non-banking sources. To mobilize savings through non-banking sources, primarily through the National Savings Schemes, the Governments in the past have been offering much higher return on various NSS instruments as against the deposits in commercial banks of comparable maturities. Such distortion in return structure in the financial system has been causing financial disintermediation, in addition to imposing a substantial burden on the country's fiscal position. It is well-known that to encourage savings what is important is the real return and not the nominal return on savings. If the rate of inflation is higher than the nominal interest rate (negative real return), people may be discouraged to save.

During the first nine months of the current fiscal year the nominal deposit rates with NSS ranged between 6.0 percent (Prize Bond) to 15.0 percent (Defence Saving Certificates) with an average rate of 12.2 percent. But with an inflation rate of 3.4 percent in the first nine months of current year the real deposit rates ranged between 2.6 percent to 11.6 percent with an average of 8.8 percent, which were in fact, the highest real return ever offered in recent past. During 1995-98 the nominal deposit rates ranged between 10.4 percent (Prize Bond) to 17.0 percent (Defence Saving Certificates). But with an average inflation rate of 10.9 percent during the same period, the real deposit rates recorded between -0.5 percent to 6.1 percent with an average rate of only 3.1 percent (see Table 7.6).

Source: Directorate of National Savings, Finance Division.
Note: Average inflation was 10.9% during 1995-98, 5.7% during 1998-99 and 3.4% during July-March 1999-2000.

During 1998-99, a two percentage point cut was applied on the nominal deposit rates across the board on May 14, 1999. With this reduction the nominal return ranged from 11 to 16 percent, with an average of 13.7 percent. With a 5.7 percent inflation rate in 1998-99 the real deposit rates ranged from 5.3 percent to 10.3 percent, with an average rate of 8.0 percent, which were far higher than the real rates offered during 1995-98. With further cut in nominal return in January 2000 the real return on various instruments has further gone up during 1999-2000. The reduction in NSS rates would not only reduce the cost of borrowings of the government in financing fiscal deficit but it has already helped in creating a level playing field for the banking system as well as lowering the lending rates of the commercial banks - so vital for reviving economic activity in the country.

Reduction in deposit rates of the NSS is in line with the overall objectives of the government's policy to lower the entire term structure of interest rate. The SBP on its part has reduced the Repo rate from 14 percent in May 1999 to 11 percent in January 2000. The average rate of return on Market Treasury Bills (12 months) has also come down from 13.0 percent in June 1999 to 7.6 percent in May 2000, through the mechanism of open market operations. The decline in the overall structure of interest rates is likely to revive economic activity and restore macro-economic stability in the short-to-medium term.