Entrepreneurship and the Process of Development: A Framework for Applied Expeditionary Economics in Pakistan

8/2/2019 Entrepreneurship and the Process of Development: A Framework for Applied Expeditionary Economics in Pakistan

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Kauffman Foundation Research Series:Expeditionary Economics

Entrepreneurship andthe Process o Development:A Framework or Applied

Expeditionary Economics in PakistanFebruary 2012, 5th in the Series

Robert LooneyNaval Postgraduate School


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The opinions herein are solely those of the author and do not reflectthe opinions of the Kauffman Foundation, the Naval Postgraduate School

or any of the authors current or previous employers.


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Kauman Foundation Research Series:Expeditionary Economics

Entrepreneurship and theProcess o Development:

A Framework or Applied Expeditionary

Economics in Pakistan

February 20125th in the Expeditionary Economics Series

Robert Looney

Naval Postgraduate School

E n t r e p r e n e u r s h i p a n d t h e P r o c e s s o f D e v e l o p m e n t :A F r a m e w o r k f o r A p p l i e d E x p e d i t i o n a r y E c o n o m i c s i n P a k i s t a n


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A u t h o r s B i o g r a p h y

ii

Robert E. Looney is a distinguished proessor at the Naval Postgraduate School, Monterey, Cali. He

specializes in issues relating to economic development in the Middle East, East Asia, South Asia, and Latin

America. His current research ocuses on a comparative analysis o post-conict recovery strategies. He has

published twenty-two books on economic issues pertaining to developing and emerging economies, and he is

currently editing the Handbook o Emerging Economies or Routledge.

As an international consultant, Dr. Looney has provided advice and assistance to the governments o Iran,

Saudi Arabia, Japan, Mexico, Panama, and Jamaica, as well as the International Monetary Fund, World Bank,International Labor Ofce, Inter-American Development Bank, Stanord Research Institute, and Rand Organization.


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iiiE n t r e p r e n e u r s h i p a n d t h e P r o c e s s o f D e v e l o p m e n t :

A F r a m e w o r k f o r A p p l i e d E x p e d i t i o n a r y E c o n o m i c s i n P a k i s t a n

E x e c u t i v e S u m m a r y

Executive Summary

The purpose o this study is to develop an empirically based model to serve as a starting point or

designing development strategies or Pakistan and similar countries, where aid has produced ewtangible gains and the economy has not been able to generate sustained periods o growth. Within this

ramework, the model seeks to integrate into the entrepreneurship-led growth strategy o Expeditionary

Economics several related but diverse strands o research: the literature on governance and economic

growth, actors underpinning entrepreneurship, and the diverse orces contributing to instability. The

hope is that ultimately the analysis will yield a plan o action and a way o identiying the sequencing o

reorms that can be applied to a wide variety o conict/post-conict settings in the developing world.

The study ound that:

1. It is unlikely in Pakistans current institutional/political setting that traditional aid programs, even

with greatly expanded unding, could initiate a process o institutional development and reorm

sufcient to oset Pakistans current slow growth and cycle o violence (see Fig. ES-1).

2. However, an extensive quantitative assessment o successul country growth patterns ound that

entrepreneurial activity is a key element in driving the growth process through progressive stages

o economic development.

Poor EconomicPolicymaking

Approaches

Aid

Future ofSlowGrowth,Limited

Reforms,InternalConflict

PoorlyDesigned andDistributed

BureaucraticTop Down

NewWinners Improved

LocalStability

Weakeningof VestedInterests

IncreasedPolitical

Influenceover

Reforms

SustainedProgress inImproved

Governance

ExpandedFormal

Economy,ReducedShadowEconomy

VirtuousCircle ofGrowth

andReform

Not Reflectiveof Pakistani

Priorities

CounterproductiveAnti-American

Limited Follow-OnEffects

Empirically LittleDirect Economic

Impact

Community-Based

Bottom-up

Implementationof New

DevelopmentFramework

Consistentwith PakistaniCustoms and

Traditions

Secure Parts ofCountry TradeLiberalization

Increased BusinessFreedom

Empirical Findingson the Importance

of Entrepreneurshipin the Growth and

Development

Process

EconomicReformsFreeTrade, Business

Freedom

ExpandedEntrepreneurship

Insecure Partsof Country

Focus onExpanded

Entrepreneurship

New GrowthFramework

Slowdown inGrowth

Stalled ReformsLow Tax Base

and Investment

RisingExpectations

Failed TakeoffsCurrent Crisis

Principles ofExpeditionary

Economics

Weakening ofInstitutions

LimitedImprovements in

GovernanceEconomicFreedom

IncreasedStrength of

Vested Interests,Elites, Military,Industrialists

Periods ofMilitary Rule

Fig. ES-1. Report Overview


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ivE n t r e p r e n e u r s h i p a n d t h e P r o c e s s o f D e v e l o p m e n t :


E x e c u t i v e S u m m a r y

3. Successul countries whose development relies on increased entrepreneurial activity appear

to sustain growth through a series o ongoing reorms initiated by this growing stakeholder

group. As a result, they are able to establish virtuous circles o increased economic liberalization,

extended entrepreneurship, expanded growth, and improved governance, which lead in turn to

urther growth and development.

4. Increased trade liberalization and improvements in the business climate are the most

important actors or stimulating entrepreneurial expansion or countries at Pakistans stage

o development.

5. Consequently, entrepreneurial eorts could be expanded in the short term without major

improvements in governance.

6. Entrepreneurship-led development could potentially create a virtuous circle o growth and

reorm in Pakistan capable o overcoming the constraints o violence, bureaucratic inertia,

and the countrys many vested interests.

7. In principle, Pakistans New Growth Framework incorporates all o the elements noted above.

8. Drawing on these fndings, the principles o Expeditionary Economics should acilitate a policy

shit toward the New Growth Framework, especially in areas where the central government has

thus ar been unable to be an eective agent or economic betterment.

9. There are numerous opportunities or the United States and European Union to contribute to

Pakistans economic revival and sustained growth.

A trend setter in Asia up to the sixties, economic management in Pakistan has steadily deteriorated

to the point where the economy has, or the past ew decades, lurched rom one nancial crisis

to the next. At the heart o the problem has been the poor management o public nances and

deep-seated unresolved structural issues in the economy that bad management and poorgovernance has exacerbated. The consequences o this secular decline in economic governance

are plain to see: macroeconomic instability, high infation, poor public services, criminal neglect

o the social sectors, widespread corruption, crippling power outages, growing unemployment,

deepening poverty and a deteriorating debt prole.1

1. Meekal Ahmed, An Economic Crisis State? in Pakistan: Beyond the Crisis State, ed. Maleeha Lodhi (New York: Columbia University Press, 2011),

169.


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T a b l e o C o n t e n t s

Table o Contents

Introduction ......................................................2

Potential Constraints on Pakistans

Economic Advancement and

Entrepreneurial Activity...................................5

Potential Competitiveness Constraints ............5

Limited Institutional

Development: Governance .............................8

Voice and Accountability ...........................10

Political Stability/Absence o Violence ........ 10

Government Eectiveness ......................... 11

Regulatory Quality .................................... 12Rule o Law ............................................... 13

Control o Corruption ............................... 13

Potential Economic Reorm Constraints ........ 14

Limited Progress in Economic Freedom ......... 15

Defciencies in

Entrepreneurial Access to Capital ................. 16

Constraints on Pakistans Growth

Potential and Entrepreneurship .................... 19

Key Dimensions o Growth

Potential and Entrepreneurship ..................... 21

Discriminant Analysis

Key Constraints on Group Advancement ...... 28

Regression Analysis

Key Linkages Surrounding

Entrepreneurship ..........................................30

Factors Contributing to

Increased Entrepreneurship .......................31

Entrepreneurship and Governance.............32

Entrepreneurship, Governance, and

the Shadow Economy ...............................38

Implications of the Model forPakistans New Growth Framework

and Expeditionary Economics .......................41

The Failure o Foreign Aid ............................ 42

Entrepreneurial Development and

the New Growth Framework ........................43

The Application o Expeditionary

Economics to Pakistan ..................................46

Policy Implications .......................................... 48

Trade Policy .................................................. 48

Inrastructure Policy ..................................... 50

Business Freedom/Removing

Constraints on Entrepreneurship .................. 51

Assessment Mancur Olsons Coalitions ..... 52

Conclusion ......................................................54

1


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2

I n t r o d u c t i o n

Introduction

As one o the central countries in the UnitedStates War on Terror, Pakistans stability has

global import. Unortunately, this stability is

increasingly threatened by the restlessness o tribal

groups in areas bordering Aghanistan, the

continued dispute with India over Kashmir, and

internal discontent among various actions within

the government and population. Without sustained

economic growth and major improvements to its

security and institutions, Pakistans situation will

likely continue to deteriorate, impairing eorts to

bring stability to Aghanistan and to South Asia as

a whole.2

Most observers are pessimistic about Pakistans

near-term uture. A leading expert, Stephen

Cohen, suggests that: Over the next fve years,

Pakistans success as a stable state, measured

along any dimension, is ar rom guaranteed, and

in act, the normalization o Pakistan remains

doubtul.3 Cohen concludes that, under the most

probable scenario, Pakistan will continue to

struggle with a chronically deteriorating economy

and ever-pressing political and regional security

challenges.

A recent Rand report echoes Cohens

assessment, concluding that the near-term uture

will see a Pakistan that muddles along, neither

ailing outright nor managing to right its course.4

According to the report, uture scenarios range

rom the emergence o an increasingly technocratic

state, to an Islamist state, to the breakup o the

state along regional and actional linesany o

which would exacerbate regional instability. In themost likely scenario, Pakistan will evolve into an

authoritarian state tightly under the control o the

military and intelligence agencies.5

Shahid Javed Burki sees direct links between

the recent rise o extremism in Pakistan and

rapid increases in population, coupled with

economic mismanagement. He suggests that the

governments ocus should have been not only on

getting the economy to grow rapidlywhich it did

on occasions and during the periods when the

military was in chargebut also on ensuring that

the rewards o rapid growth were widelydistributed.6 The ailure to do so has spawned

millions o alienated youth with little aith in their

uture. They have been successully recruited to

jihadist causes. The latest o these is the

destruction o the Pakistani state.7

Failure to prudently distribute the rewards o

growth has been only one o many weaknesses in

Pakistans development policies. Pakistan is

plagued by a long-term pattern o economic stops

and starts8 and ailed takeos,9 in which rapid

growth is ollowed by periods o relativestagnation.10 Contributing to this pattern is a lack

o eective governance, in which reorms are

stied by entrenched elites who beneft rom the

status quo.11 Unless governance can be improved,

2. Robert Looney and Robert McNab, Pakistans Economic and Security Dilemma: Expanded Deense Expenditures and the Relative Governance

Syndrome, Contemporary South Asia (March 2008): 63.

3. Stephen Cohen, Keeping Pakistan From Falling Apart, World Politics Review(May 2011): 1.

4. C. Christine Fair, et al., Pakistan: Can the United States Secure an Insecure State?(Santa Monica, CA: Rand, 2010), xv.

5. Ibid.

6. Shahid Javed Burki, Roots o Terrorism, Dawn, December 15, 2009.

7. Ibid.

8. Robert Looney, Pakistans Economy: Achievements, Progress, Constraints and Prospects in Pakistan: Founders Aspirations and Todays

Remedies, ed. Haeez Malik (Karachi: Oxord University Press, 2001), 196243.

9. Looney, Failed Economic Take-os and Terrorism in Pakistan: Conceptualizing a Proper Role or U.S. Assistance,Asian Survey(November/

December 2004): 77193.

10. Looney, Failed Take-O: An Assessment o Pakistans October 2008 Economic Crisis, Pakistan Security Research Unit (PSRU), Brie No. 46,

University o Bradord, April 21, 2009.

11. Burki, Pakistans New Political Economy, Business Standard, April 22, 2011.



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12. Looney and McNab, Pakistans Economic and Security Dilemma: Expanded Deense Expenditures and the Relative Governance Syndrome,

Contemporary South Asia (March 2007): 6382.

13. Gri Witte, U.S. Aid Buys Little Goodwill: Pakistanis Say They See Scant Evidence o the Billions Spent, The Washington Post, August 24, 2010,

A1.

14. Fair, A Better Bargain or Aid to Pakistan, The Washington Post, May 30, 2009.

15. Ibid.

16. Ben Arnoldy and Assam Ahmed, U.S. Cuts Aid to Pakistan: Six Key Questions, The Christian Science Monitor, July 11, 2011.

17. Nancy Birdsall and Molly Kinder, The U.S. Aid Surge to Pakistan: Repeating a Failed Experiment? Lessons or U.S. Policymakers rom the World

Banks Social-Sector Lending in the 1990s (Working Paper No. 205, Center or Global Development, March 2010); Burki, Living Without Foreign

Assistance, Dawn, May 23, 2011.

18. Carl J. Schramm, Expeditionary Economics, Foreign Aairs (May/June 2010).

19. Ibid.

20. Nadeem ul Haque in Adil Najam, Devising A New Growth Strategy or Pakistan (7): New Growth Framework Approved, All Things Pakistan,

May 29, 2011.

21. Ibid.

3


it will continue to pose a ormidable barrier to

sustained growth.12

It is becoming increasingly clear that traditional

oreign aid is not the solution. Not only havemassive inusions o oreign aid ailed to bring

stability to Pakistan or buy goodwill or the

United States,13 but the way these programs

are managed has corrupted and corroded the

countrys institutions.14 The top-down nature

o traditional aid programs has encouraged

corruption and rent seeking, while lessening the

need or the government to orge a bond with

its citizens by raising revenues and redistributing

those unds as services.15 Civilian aid programs

have little eect on the overall Pakistani economy,

as illustrated by a recent estimate that U.S.

withdrawal o these unds would have only a

0.14 percent impact on the GDP growth rate.16

The outcomes o oreign aid have been so

unsatisactory that both donor and recipient

groups agree that, in many respects, Pakistan

would have been better o without them.17

While ew hold out hope that traditional U.S.

oreign aid can change the direction o events

in Pakistan, the new area o Expeditionary

Economics could potentially provide a basis

or cooperation between the two countries in

their mutual quest or stability. As describedin Carl J. Schramms pathbreaking article,

Expeditionary Economics begins with the

premise that economic growth is critical to

establishing social stability, which is the ultimate

objective ocounterinsurgency campaigns and

disaster-relie eorts.18 As Schramm notes,

proven methods or achieving such economic

growth already exist in the entrepreneurialmodel practiced in the U.S. and elsewhere.19

Nadeem ul Haque o Pakistans Planning

Committee laments that the gyrations o

politics and security have kept everyone ully

engagedin act, more than ullyand issues

o long-term development planning have been

neglected not only by the media but in the public

imagination.20 He sees this situation as particularly

ironic given that the state o the economy and

its advancement are ar more likely to aect

politics and security than vice versa.21 One o a

growing number o Pakistani economists who,like Schramm, champions the replacement o

the countrys inefcient, state-run policies with

entrepreneur-led growth, ul Haque observes:

An unintended consequence o our pastpolicies has been the stiing o internal

markets, cities and communities, whichplay a critical role in ostering productivity,

innovation and entrepreneurship and

ultimately promote growth, prosperity anddevelopment. ... In the new development

ramework, the private sector should be the

growth-driver in open market environmentthat rewards efciency, innovation andentrepreneurship, while the government is

acilitator that protects public interests and



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4


rights, provides public goods, enorces laws,

punishes exploitative practices, and operates

with transparency and accountability.22

This sentiment lies at the core o the PakistaniPlanning Commissions New Growth Framework,

which was ormally adopted by the National

Economic Council in May 2011. The ramework

represents a paradigm shit in Pakistans

approach toward the economy. It proposes

that the country move rom the current state-

led model o development to one that relies

on reely unctioning markets with dynamic

entrepreneurship playing the leading role in

expanding investment, developing new areas

o economic activity, and providing productive

employment or the countrys rapidly burgeoninglabor orce. While the ramework is intuitively

appealing to proessional economists, it is

admittedly theoretical at this point and, as such,

has drawn criticism that it oers a list o what

to do, as opposed to how to do.23 Critics also

note that it is vague regarding the sequencing o

its policies and reorms24 and question whether

Pakistans government has the ability and political

will to implement such an ambitious agenda.25

Criticisms aside, the key assumptions o the

ramework are basically sound. In act, countrieswhose circumstances resembled those o Pakistan

have implemented similar programs that initiated

a cumulative process o growth and reorm.26

Many Central and Eastern European countries

that successully transitioned rom communism

ollowed programs that shared key assumptions

and elements espoused by both the New Growth

Framework and Expeditionary Economics.

Pakistans New Growth Framework emphasizes

theory, while Expeditionary Economics ocuses

on the nuts-and-bolts implementation o these

economic principles by the military in conict

and post-conict settings. However, in their

basic philosophies and economic approaches,

the two are essentially complementary. Bothstress the importance o growth as a means

to achieving objectives such as stabilization.

Both see the entrepreneur as a key fgure in the

process o growth, with the state remaining in the

background as a supporting player. Integrating

the two approaches could potentially provide

a blueprint or stimulating entrepreneurship-

led growth to improve stability and security

in Pakistan and other developing countries.

Key to integrating the New Growth Framework

with Expeditionary Economics is the developmento a model that places both on a sound empirical

ooting. As previously noted, the New Growth

Framework is vague with regard to the proper

sequencing o policies and reorms. Similarly,

much o the literature on entrepreneurship, a key

component o Expeditionary Economics, is vague

or anecdotal in linking policy actions to new frm

startups and increased entrepreneurial activity,

making it difcult to transer its strategies to

dierent settings.

A major goal o the present study is to developan empirical model to serve as a starting point or

designing development strategies or countries like

Pakistan, where aid has produced ew tangible gains

and the economy has not been able to generate

sustained periods o growth. More generally,

the model seeks to integrate into Expeditionary

Economics several related but diverse strands o

research: the literature on governance and economic

growth, actors underpinning entrepreneurship,

and the diverse orces contributing to terrorism/

extremism. Ultimately, it is hoped that the analysis

22. ul Haque, Devising a Growth Strategy or Pakistan (2): Towards a New Development Approach,All Things Pakistan, February 5, 2011.

23. Abid Hasan, An Unorthodox Path to Prosperity, The News, July 4, 2011.

24. Safya Atab, The Elusive Quest or Sustainable Growth, The Friday Times, May 6, 2011.

25. Pervez Tahir, A New Growth Strategy, The Express Tribune, February 11, 2011.

26. See, or example, Oleh Havrylyshyn and Thomas Wol, Determinants o Growth in Transition Countries, Finance & Development(June 1999);

and Pradeep K. Mitra and Marcelo Selowsky, Lessons rom a Decade o Transition in Eastern Europe and the Former Soviet Union, Finance &

Development(June 2002).



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5

P o t e n t i a l C o n s t r a i n t s o n P a k i s t a n s E c o n o m i cA d v a n c e m e n t a n d E n t r e p r e n e u r i a l A c t i v i t y

will yield a plan o action and a way o identiying

the sequencing o reorms that will be applicable

to a wide variety o conict/post-conict settings in

the developing world.

To that end, this report begins with an

overview o the various elements constraining

Pakistans growth, as well as the actors leading

up to Pakistans current crisis. Next, it oers

a model that integrates the principles o the

New Growth Framework with Expeditionary

Economics and tests whether and how

entrepreneurship-led development could initiate

a virtuous circle o economic growth, reorm,

and reduced violence in Pakistan. Finally, it

examines two contrasting solutions: expanded

oreign aid programs and implementation othe New Growth Framework discussed above.

Potential Constraintson Pakistans EconomicAdvancement andEntrepreneurial Activity

To develop an analytical ramework or applying

Expeditionary Economics to Pakistan and other

conict/post-conict countries, it is frst necessary

to identiy the constraints with the greatest

potential to impede the countrys progress at

each stage o development. In Pakistans case,

the list is long. A cursory survey o the literature

suggests a myriad o inhibiting actors. Those

most requently identifed as key development

constraints include (1) lack o competitiveness due

to limitations in actors ranging rom inrastructure

to education to technological capacity, (2) limited

governance in areas such as rule o law and

anticorruption, and (3) insufcient economic

reorms that hinder open markets and trade.

Each o these broad categories is made up

o a number o individual variables, which are

explored in depth below. The examination o

the variables is instructive, both in illuminating

the wide range o constraints the Pakistani

economy aces and in illustrating the diversity

o opinion as to the paramount actor or actors

that inhibit Pakistani growth and development.

Potential

Competitiveness ConstraintsThe World Economic Forums Global

Competitiveness Index (WEF GCI) provides an

excellent starting point or examining Pakistans

inability to sustain long-term growth. Drawing

on the work o Harvards Michael Porter,27 the

index provides a benchmark or identiying

impediments to a countrys competitiveness.28

The GCI takes into account macroeconomic as

well as the core microeconomic oundations

o national competitiveness, which it defnes

as the set o institutions, policies, and actors

that determine the level o productivityand thus income o a country.29

The WEFs approach depicts global

competitiveness as a weighted average o many

dierent components, each o which aects some

aspect o competitiveness. These components

all into twelve main groups, or 12 pillars o

competitiveness.30 These pillars are: Institutions,

Inrastructure, The Macroeconomic Environment,

Health and Primary Education, Higher Education

27. See, or example, Michael Porter, Enhancing the Microeconomic Foundations o Prosperity: The Current Competitiveness Index, in The

Global Competitiveness Report 20012002, ed. Klaus Schwab (Geneva: World Economic Forum, 2001); and Michael Porter, The Microeconomic

Foundations o Prosperity: Findings rom the Business Competitiveness Index, in The Global Competitiveness Report 20072008, ed. Klaus

Schwab (Geneva: World Economic Forum, 2007).

28. Xavier Sala-i-Martin, et. al., The Global Competitiveness Index: Measuring the Productive Potential o Nations, in The Global Competitiveness

Report, 20072008, ed. Klaus Schwab (Geneva: World Economic Forum, 2007), 3.

29. Klaus Schwab, preace to The Global Competitiveness Report 20102011, ed. Klaus Schwab (Geneva: World Economic Forum, 2010), 4.

30. Ibid.



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6

P o t e n t i a l C o m p e t i t i v e n e s s C o n s t r a i n t s

and Training, Goods Market Efciency, Labor

Market Efciency, Financial Market Development,

Technological Readiness, Market Size, Business

Sophistication, and Innovation.

Following Porters31 earlier work, the WEF

urther assumes that countries progress through

three distinct stages: (1) actor driven, (2)

investment driven, and (3) innovation driven.

Using regression analysis, the orum has ound

that certain pillars are more important at one

stage than at others. Institutions, Inrastructure,

Macroeconomic Stability, and Health and

Primary Education are key in the actor-driven

stage. Higher Education and Training, Goods

Market Efciency, Labor Market Efciency,

Financial Market Sophistication, TechnologicalReadiness, and Market Size predominate

during the efciency-driven stage. Business

Sophistication and Innovation play a critical

role in the innovation-driven stage.

Drawing on this ramework, the WEF is able

to classiy individual countries into one o these

three stages. Each country is assigned to a

development stage based on (1) its level o GDP

per capita measured at market exchange rates

a proxy or wages (used by the WEF because

internationally comparable data on wages andpurchasing power parity are not available or all

countries covered)and (2) the extent to which

countries are actor driven, as proxied by the share

o exports o primary goods in total exports.

The orum deems countries alling between

two stages as in transition. As these countries

develop, increasingly more weight is given to

the pillars that will assure their competitiveness

when they move on to the next development

stage. In this way, the GFI rewards countries that

do what is needed to ensure a smooth transition

and penalizes those that ail to prepare or

the next stage. Table 1 provides a summary o

the latest (2010) World Economic Forum stage

classifcations. For the purposes o this report and

its empirical model, the WEF stages have been

relabeled as Groups 1 through 5, as indicated in

parentheses under the main headings on Table 1.

As illustrated in Fig. 1, Pakistans progress

toward improved competitiveness has been

limited. According to the WEFs 20102011

Global Competitiveness Report:

Pakistan alls to 123rd place, weakening across

most areas measured by the GCI. Still at an

early stage o development, the country will

require eorts in particular to improve the

basic determinants o its competitiveness,

namely its institutions (112th), inrastructure

(110th), and macroeconomic environment

(133rd) as well as education at all levels.32

31. Porter, Enhancing the Microeconomic Foundations o Prosperity.

32. The Global Competitiveness Report 20102011 (Geneva: World Economic Forum, 2010), 30.


Fig. 1. Pakistans Progressin Improved Competitiveness

Stage of Development

1 2 3Transition12Transition

23

FactorDriven

Factor-Driven Economies

EfficiencyDriven

InnovationDriven

Institutions

Labor MarketEfficiency

Infrastructure

Goods MarketEfficiency

Innovation

FinancialMarketDevelopment

BusinessSophistication

TechnologicalReadiness

HigherEducation and

Training

MacroeconomicEnvironment

Health andPrimary

EducationMarket Size

1

0

2

3

4

5

6

7

Pakistan

Source: World Economic Forum, TheGlobal Com etitiveness Re ort 20102011, 268.


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Stage 1

(Group 1)

Bangladesh

Benin

Bolivia

Burkina Faso

Burundi

Cambodia

Cameroon

Chad

Cote dlvoire

Ethiopia

Gambia, The

Ghana

HondurasIndia

Kenya

Kyrgyz Republic

Lesotho

Madagascar

Malawi

Mali

Mauritania

Moldova

Mongolia

Mozambique

Nepal

NicaraguaNigeria

Pakistan

Philippines

Rwanda

Senegal

Tajikistan

Tanzania

Timor Leste

Uganda

Vietnam

Zambia

Zimbabwe

TransitionFrom 1 to 2(Group 2)

Algeria

Armenia

Azerbaijan

Botswana

Brunei

Egypt

Georgia

Guatemala

Guyana

Indonesia

Iran, Islamic Rep.

Jamaica

KazakhstanKuwait

Libya

Morocco

Paraguay

Qatar

Saudi Arabia

Sri Lanka

Swaziland

Syria

Ukraine

Venezuela

Stage 2

(Group 3)

Albania

Argentina

Bosnia

Brazil

Bulgaria

Cape Verde

China

Colombia

Costa Rica

Dominican Republic

Ecuador

El Salvador

JordanLebanon

Macedonia

Malaysia

Mauritius

Mexico

Montenegro

Namibia

Panama

Peru

Romania

Russian Federation

Serbia

South AricaThailand

Tunisia

Turkey

TransitionFrom 2 to 3(Group 4)

Bahrain

Barbados

Chile

Croatia

Estonia

Hungary

Latvia

Lithuania

Oman

Poland

Puerto Rico

Slovak Republic

Taiwan, ChinaTrinidad and Tobago

Uruguay

Stage 3

(Group 5)

Australia

Austria

Belgium

Canada

Cyprus

Czech Republic

Denmark

Finland

France

Germany

Greece

Hong Kong SAR

IcelandIreland

Israel

Italy

Japan

Korea, Rep

Luxembourg

Malta

Netherlands

New Zealand

Norway

Portugal

Singapore

SloveniaSpain

Switzerland

United Arab Emirates

United Kingdom

United States

7

P o t e n t i a l C o m p e t i t i v e n e s s C o n s t r a i n t s


Table 1. Countries at Various Stages o Development 20102011

Source: Xavier Sala-i-Martin, et al., The Global Competitiveness Report 2010 2011: Looking Beyond the Economic Crisis inThe Global Competitiveness Report 20102011, ed. Klaus Schwab (Geneva: World Economic Forum, 2010) , 11.


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8

L i m i t e d I n s t i t u t i o n a l D e v e l o p m e n t : G o v e r n a n c e

On this basis, Pakistan alls into Group 1, the

initial, actor-driven stage o development.

Since the early to mid-1990s, Pakistans

competitive shortcomings have resulted in slowedeconomic growth relative to other developing

countries in Asia (see Fig. 2). While the country

managed to achieve a short spurt o growth in

the early to mid-2000s, this expansion was largely

consumption-demand-driven, rather than the result

o a major increase in investment-led productivity.

Even worse, this period o growth appears

to have compounded many o the problems

plaguing Pakistan today. While no detailed studies

o income distribution are available or the last

several years o Musharras regime, Burki estimates

that around 10 million Pakistanis beneftted

rom the economic growth and restructuring, 25

million would have entered the system had it not

been disrupted, and 45 million were completely

ignored.33 Furthermore, he notes that regional

inequality emerged rom the Musharra era, whose

benefts were largely confned to the central and

northern Punjab and large cities such as Islamabad,

Lahore, Karachi, Faisalabad, and Gujranwala.34

In addition to global competitiveness, the recent

literature on ailed states notes that development

may be aected by deeper determinants o

growth, including governance variables such as

corruption, political stability, and the rule o law.35

Another body o literature observes that the

various dimensions o economic reedom (or thelack thereo) have had a proound eect on the

progress o Pakistan and many other countries.36

Such studies suggest that, besides the WEFs twelve

competitiveness components, there are additional

actors that must be addressed beore Pakistan

can embark on a path o sustained growth.

Limited InstitutionalDevelopment: Governance

While rating countries on the basis o their relative

progress in improving governance is inherentlysubjective, the World Bank37 regularly provides a

set o rankings incorporating the ull extent o our

knowledge about this phenomenon. The World

Bank dataset estimates six dimensions o

governance or 213 economies over the period

19962009. These dimensions are: Voice and

Accountability, Political Stability and Absence o

Violence, Government Eectiveness, Regulatory

Quality, Rule o Law, and Control o Corruption.

The values or each o the governance fgures

range rom a low o -2.5 to a high o +2.5, with a

country sample mean o zero.

The means or the fve-group sample or

2009 (Table 2) show a airly steady progression

on each governance dimension, rom low

or Group 1 to high or Group 5. The one

notable exception to the pattern is a drop in

the Voice and Accountability dimension as

countries move rom Group 1 to Group 2.

Pakistan scores low relative to other Group 1

countries on most governance dimensions: -0.997

on Voice and Accountability versus a Group 1

average o -0.547; -2.756 on Political Stability/

33. Burki, Arithmetic o Discontent, Dawn, December 11, 2007.

34. Burki, Reaching the Disadvantaged, Dawn, December 18, 2007.

35. Dani Rodrik and Mark Rosenzweig, Development Policy and Development Economics: an Introduction, in Handbook o Development

Economics, Vol. 5, eds. Dani Rodrik and Mark Rosenzweig (Amsterdam: North Holland, 2009).

36. See, or example, J. Gwartney, J. Hall, and R. Lawson, Economic Freedom o the World 2000 Annual Report(Vancouver: Fraser Institute, 2000).

37. World Bank Governance Indicators.


Developing AsiaPakistan

Source: World Economic Forum, TheGlobal Competitiveness Report 20102011.

5,000

4,000

3,000

2,000

1,000

01980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008

Fig. 2. Per-Capita Income inPakistan and Developing Asia

GDP (PPP) Per Capita (Intl $), 1980200 9


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9

L i m i t e d I n s t i t u t i o n a l D e v e l o p m e n t : G o v e r n a n c e

Absence o Violence versus -0.685; -0.934 on

Government Eectiveness versus -0.714; -0.925 on

Rule o Law versus -0.761; and -1.097 on Control

o Corruption versus -0.731. Pakistan surpasses the

Group 1 mean only in its Regulatory Quality, onwhich it scored -0.499 versus -0.562 or Group 1

countries as a whole. This score notwithstanding,

poor governance places severe constraints on

Pakistans growth.

These constraints are urther exacerbated by

Pakistans high deense spending. Looney and

McNab ound that countries with high levels o

governance and institutional quality, whose deense

expenditures make up a relatively low share o

GDP, may experience increased rates o growth

i deense spending is expanded. Conversely, in

countries like Pakistan with poor institutional

quality as proxied by governance indicators

such as voice and accountability, expanding

already high levels o deense expenditures

has a negative growth impact.38 As a result,

without governance reorms, increased securityspending to combat domestic terrorism could

hamper Pakistans growth even more severely.

Interestingly, one school o thought contends

that Pakistans defcient governance structures

may themselves be a major contributing actor

to terrorism and instability. In an early study o

terrorism, Alan Krueger and Jitka Maleckova

came to the surprising conclusion that a reduction

in poverty in and o itsel, or an increase in

educational attainment, would not meaningully

reduce terrorism. Their main fnding was that

any connection between poverty, education, and

38. Looney and McNab, Pakistans Economic Security Dilemma.


World EconomicForum Stages

Voice PoliticalStability

GovernmentEectiveness

RegulatoryQuality

Rule o Law Control o Corruption

1 MeanNumber o CountriesStd. Deviation

-0.54738

0.557

-0.68538

0.813

-0.71438

0.389

-0.56237

0.443

-0.76130

0.451

-0.73138

0.388

Pakistan -0.997 -2.756 -0.933 -0.499 -0.925 -1.097


-0.73925

0.649

-0.30025

0.787

-0.26725

0.582

-0.27822

0.710

-0.41522

0.552

-0.40225

0.723


0.01529

0.620

0.17529

0.666

0.06129

0.412

0.13729

0.453

0.22323

0.545

0.16529

0.442


0.65715

0.680

0.59815

0.320

0.80215

0.303

0.90215

0.331

0.72013

0.378

0.57215

0.456


1.12732

0.547

0.76132

0.558

1.46232

0.430

1.35832

0.350

1.44328

0.454

1.48832

0.661

Total MeanNumber o CountriesStd. Deviation

0.051139

0.932

-0.038139

0.882

0.183139

0.932

0.240138

0.886

0.109116

0.989

0.097139

1.006

Table 2. Group Means on Governance Dimensions,World Economic Forum Development Stages, 20102011

Source: World Economic Forum: The Global Competitiveness Report, 2010 2011 (Geneva: World Economic Forum, 2010) .


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10

V o i c e a n d A c c o u n t a b i l i t y

terrorism is indirect, complicated, and probablyquite weak. Instead o viewing terrorism as adirect response to limited market opportunitiesor ignorance, they suggest that terrorism isa response to political conditions and long-standing eelings, either perceived or real, oindignity and rustration.39 While subsequentstudies have refned this position, Kruegerand Maleckovas fndings are still the startingpoint in country-by-country assessments othe actors contributing to terrorism.40

Voice and AccountabilityIn the critical area o Voice and Accountability,Pakistan scores the lowest o the South Asiancountries (see Fig. 3). Despite steady improvementin the post-Musharra years, which saw the countryrise rom the 11th percentile in 2000 to 21st by2009, it still lagged below the 2009 Asian average41o 36th percentile and Indias 60th percentile.

Pakistans inability to achieve greater voiceand accountability no doubt contributes to the

countrys current economic malaise. Burki42contends that, as a result, the political systemhas not been able to fnd a way to reconcile thedierent economic interests o the countrysvarious competing groups. For example, theruling Pakistan Peoples Party opposes the levyingo taxes on its strong agricultural base, whilethe Karachi-based Muttahida Qaumi Movementargues against taxing urban services, and thePakistan Muslim League (Nawaz) avors taxprotection or the merchant class. The resultingpolitical stalemate means that no new orms odirect taxation are available to the country.43

Political Stability/Absence of ViolencePakistan, like the other South Asian countries,

is especially defcient in political stability/absenceo violence (see Fig. 4). While all our SouthAsian countries score considerably below theAsian average (which is not particularly high byinternational standards), Pakistans score wasby ar the worst. From the 16th percentile in2000, Pakistan experienced a steady decline

39. Alan Krueger and Jitka Maleckova, Education, Poverty, Political Violence and Terrorism: Is there a Causal Connection?(Cambridge, MA: NationalBureau o Economic Research, July 2002).

40. See also Krueger and Maleckova, Education, Poverty and Terrorism: Is there a Causal Connection?Journal o Economic Perspectives (Fall

2003): 11944.

41. Asian countries included in the World Bank governance data set are: Bangladesh, Brunei, Cambodia, China, Hong Kong, India, Indonesia,

Japan, North Korea, South Korea, Laos, Malaysia, Myanmar, Pakistan, Papua New Guinea, Philippines, Singapore, Sri Lanka, Taiwan, Thailand, and

Vietnam.

42. Burki, Pakistans New Political Economy, Business Standard, April 22, 2011.

43. Ibid.


Total AsiaPakistan

India Bangladesh Sri Lanka

Source: World Bank, Worldwide Governance Indicators,http://info.worldbank.org/governance/wgi/index.asp.

70

60

50

40

30

20

10

1996 2000 2003 2005 2007 2009

Fig. 3. Voice and Accountability Fig. 4. Political Stability, Absence o Violence

Total AsiaPakistan



45

40

35

30

25

20

15

10

5

01996 2000 2003 2005 2007 2009


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11

G o v e r n m e n t E e c t i v e n e s s

on this measure until it eventually leveled o at

the 1st percentile in 2007. Bangladesh rankedin the 8th percentile and Sri Lanka in the 12th.

As might be anticipated, empirical evidence44

suggests that addressing the countrys politicalinstability is a prerequisite or urther economic

advancement. In addition, political instability

and policy instability (see Fig. 5) ranked secondand third (ater corruption) as major concerns

o businessesno doubt contributing to thecountrys low rates o private capital ormation

and inows o direct private investment.

Government Effectiveness

As shown in Fig. 6, Pakistan also scores low

in government eectiveness, a key measure o

the ability o countries to carry out development

programs and eectively implement budgets.Ater averaging in the high thirties rom20032007, the country had allen to the 19th

percentile by 2009, considerably below the Asian

average o 51st and Indias 54th percentile.

Economist Safya Atab notes some o the

economic shortcomings that have stemmed

rom the lack o government eectiveness

and decision making in recent years:

There is no energy plan (not even a

conservation strategy) and little attempt toresolve the circular debt issue that plagues

44. Muhammad Nadeem Qureshi, Karamat Ali, and Imran Raf Khan, Political Instability and Economic Development: Pakistan Time-Series

Analysis, International Research Journal o Finance and Economics (2010).


Fig. 6. Government Eectiveness

Fig. 5. Pakistan: The Most Problematic Factors or Doing Business

Percent of responses

Note: From a list of fifteen factors, respondents were asked to select the five most problematic for doing business in their country and to rank thembetween 1 (most problematic) and 5. The bars in the figure show the responses weighted according to their rankings.

Corruption 18.4

Government instability/coups 16.4

Policy instability 9.8

Inflation 9.6

Inefficient government bureaucracy 8.9

Crime and theft 7.9

Access to financing 5.2

Tax rates 5.0

Inadequate supply of infrastructure 4.7

Inadequately educated workforce 3.6

Tax regulations 3.6

Poor work ethic in national labor force 3.1

Foreign currency regulations 1.8

Poor public health 1.3

Restrictive labor regulations 0.6

Source: World Bank, Worldwide Governance Indicators, http://info.worldbank.org/governance/wgi/index.asp.

0 5 10 15 20 25 30

Total AsiaPakistan



60

55

50

45

40

35

30

25

20

151996 2000 2003 2005 2007 2009


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12

R e g u l a t o r y Q u a l i t y

the sector. Worst o all, there seems to be no

planning or criseswhat happens i crude

oil prices spike in the short run, or example?

Agricultural policy is supposed to be aprovincial subject but the ederal government

doesnt seem to have even a guiding

ramework or the sector. Its not clear

what the priorities areis the priority to

get the support price right or to invest in

storage, or instance? Is the attempt to

deregulate agricultural markets and set

up commodity exchanges going to go

anywhere, or has it been quietly shelved?

There is no attempt to introduce new

orms o direct taxation. I there is anybackground work on the pros and

cons o imposing agricultural income

tax, or dierent orms o capital gains

taxes, it has not been made public.

Cuts in expenditures have been made since

the oods, but it is mainly development

spending that has been axed, not

nonsalary current expenditures.

Cutting the Public Sector Development

Projects (PSDP) is probably the rightway to go, but the government

needs to be more transparent about

what its going to axe and why.

In spite o the obvious fscal crisis, there has

been little attempt to restructure loss-making

state-owned enterprises. The government

has given in to pressure on at least two

occasions when such attempts were made in

the Karachi Electric Supply Company (KESC),

though the government has a minority share

in the utility and Pakistan International Airlines(PIA). For the KESC, the governments action

was unpardonable. Imposing on a private

entity in order to reemploy sta on the basis

o a 26 percent shareholding is absurd.45

The precipitous drop in government

eectiveness in recent years has led StephenCohen to conclude that the bureaucracy and

other state structures are largely incapacitated and

unable to respond to the countrys demographic

and economic challenges. As a result, the

countrys eective governance and ultimate

viability now depend on a combination o massive

oreign assistance and remittances o overseas

Pakistanis.46 Pointing to Pakistans inclusion in

the Top 10 o the Failed State Index, he predicts

that the consequences will be disastrous or

uture stability and governance, translating into a

chronic incapacity to integrate security, political,

economic, and administrative requirements in a

central and long-term decision-making process.47

Regulatory Quality

Pakistans perormance (see Fig. 7) in improving

regulatory quality has been somewhat better than

its eorts in other governance areas. Starting rom

a low o the 18th percentile in 2004, the country

had increased its score to the 33rd percentile by

2009 (albeit down rom 39th in 2006). This score

was still somewhat below the Asian average othe 50th percentile and Indias 44th percentile.

Burki notes that, even though Pakistan has done

relatively well in improving regulatory quality in

recent years, Pakistans regulatory system remains

seriously underdeveloped or a country o its size.

He argues that this situation stems rom the act

that regulation in Pakistan has evolved more in

response to special interests rather than to citizen

needs and demands. While this pattern may

change with the devolution o authority to the

provinces, Burki cautions that the weaknesses inthe existing regulatory system could complicate

eorts to distinguish between unctions that can

45. Atab, Democracy, Three Years Later, The Friday Times, April 1, 2011.

46. Stephen Cohen, Keeping Pakistan From Falling Apart, World Politics Review(May 2011): 1.

47. Ibid.



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48. Burki, Devolution and Regulatory Changes, Dawn, April 25, 2011.

49. Nadeem-ul-Haq Links High Growth Rate to Economic Reorms,Associated Press o Pakistan, July 6, 2011.

50. Hassan Abbas, Pakistan 2020: A Vision or Building a Better Future,Asia Society Pakistan Study Group Report, May 2011.

13

C o n t r o l o C o r r u p t i o n

only be perormed at the ederal level and those

that can be more efciently handled locally.48

Nadeem ul Haque cites regulatory quality

as key to improving Pakistans productivity.Ul Haque notes that state enterprises like

PIA, Pakistan Railways, and power sector

organizations could improve productivity

signifcantly, and thus contribute to national

economic growth, through regulatory reorms.49

Rule of Law

In the critical area o rule o law, Pakistan again

alls short o other South Asian countries (see

Fig. 8). The country ranked in the 31st percentile

in 1996, declined to the 20th percentile in 2004,

improved slightly to the 22nd percentile, then

dipped to the 19th percentile by 2009. In 2009,

the average or Asian countries as a whole was

the 48th percentile, with India ranking in the

56th, and Sri Lanka the 53rd. Between 2004

and 2009, Bangladesh was able to increase its

ranking rom the 17th to the 28th percentile.

A study by the Asian Society highlights the

importance o Pakistans improving its rule o

law. The Asia Societys Pakistan 2020 Study

Group concluded that seven core issues needed

to be addressed to ensure a sound uture or

the country by 2020. The recommendations

included (1) strengthening democraticinstitutions, (2) strengthening the rule o law,

(3) improving human development and social

services, especially in health and education,

(4) developing the energy inrastructure, (5)

assisting the victims o the 2010 ood in their

recovery, (6) improving internal security, and

(7) advancing the peace process with India.50

Control of Corruption

Corruption, the fnal World Bank measurement

o governance, has ollowed an erratic pattern in

Pakistan during the past two decades (see Fig. 9).

Starting in the 7th percentile in 1996, Pakistan

gradually improved its score to the 30th percentile

in 2003, declined again to the 14th and 15th

percentiles in 2004 and 2005 respectively, and

rose to the 26th percentile in 2007. Since then the

countrys ranking has allen (2009) to the 13thpercentile, the lowest rank among the South Asian

countries. For reerence, the Asian average in 2009


Total AsiaPakistan



65

60

55

50

45

40

35

30

25

20

151996 2000 2003 2005 2007 2009

Fig. 7. Regulatory Quality Fig. 8. Rule o Law

Total AsiaPakistan



65

60

55

50

45

40

35

30

25

20

151996 2000 2003 2005 2007 2009


20/64

14

was the 42nd percentile with India slightly higher at

the 47th percentile. Ominously, the perception o

corruption in Pakistan is worsening, with the police,

land administration institutions, the judiciary,

education, and local governments regarded asthe most corrupt public-sector institutions.51

As shown in Fig. 5, businesses cite corruption

as their major concern in doing business in

Pakistan. Furthermore, according to Transparency

Internationals 2009 report, corruption prevents

the poor rom participating equally in political

decisions, rom enjoying equality under the law,

rom seeing their needs reected in policies and

budgets and rom accessing public goods and

services Decisions on ood and energy security,

natural resources, technology and investments

are oten compromised by corruptionwith atalconsequences.52 Signifcantly, the government

o Pakistan has barred Transparency International

rom conducting surveys in the country or

the organizations next annual report.53

Potential EconomicReorm Constraints

In addition to arguments linking poor growth

and development, instability, and even terrorismto governance ailures, an equally valid claim

can be made that these processes stem rom a

poor country record in economic reorms and

associated progress toward economic reedom.

Jennier Bremer and John Kasardas terrorism

and economic transitions model suggests that

ailure to enact needed economic reorms can

result in inefciencies and a lack o incentives or

entrepreneurship while preventing more dynamic

growth patterns. The resulting economic malaise

spurs a vicious circle o instability, low investment,

low growth, and urther widespread discontent.54

Bremer and Kasarda view transition as occurring

in three phases (see Fig. 10). The frst phase

typically begins when a low-income country

rapidly begins to industrialize, launching an

agrarian-industrial transition and the complex

transormations in urbanization, income growth,

and economic diversifcation that accompany it.

A process similar but not identical to Rostows55

takeo occurs. I growth is sustained or a decade

or more, the country may reach the second

transition phase, in which industrial production

per capita can increase as much as threeold,

growth in low-value-added manuacturing israpid and sustained, and rising incomes lead to

the emergence o a middle class. Assuming this

middle phase is successul, the country will likely

reach the advanced phase in ten to twenty years.

Countries that are currently in the advanced phase

include Brazil, Poland, Russia, and Turkey.56

In contrast, Pakistan remains stalled in the

frst stage o this model, along with countries


P o t e n t i a l E c o n o m i c R e o r m C o n s t r a i n t s

51. Heritage Foundation, Economic Opportunity and Prosperity: The 2011 Index o Economic Freedom (Washington, D.C.: Heritage Foundation,

2011).

52. Transparency International, Transparency International Corruption Perceptions Index, (Berlin: Transparency International, 2009).

53. Siddiqi Hammad, No Corruption Survey in Pakistan This Year, Center or International Private Enterprise Development Blog, July 7, 2011, http://

www.cipe.org/blog/?p=8649.

54. Jennier Bremer and John Kasarda, The Origins o Terror: Implications or U.S. Foreign Policy, Milken Institute Review(Fourth Quarter 2002):

3448.

55. W.W. Rostow, The Stages o Economic Growth: A Non-Communist Maniesto (Cambridge: Cambridge University Press, 1960).

56. Bremer and Kasarda, The Origins o Terror.

Total AsiaPakistan



60

50

40

30

20

10

01996 2000 2003 2005 2007 2009

Fig. 9. Control o Corruption


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57. Ibid.

58. Gwartney, et al., Economic Freedom o the World 2010 Annual Report.

59. Heritage Foundation, The 2011 Index o Economic Freedom.

60. Ibid.

15E n t r e p r e n e u r s h i p a n d t h e P r o c e s s o f D e v e l o p m e n t :


L i m i t e d P r o g r e s s i n E c o n o m i c F r e e d o m

like Egypt, Iran, and Saudi Arabia. According to

Bremer and Kasarda, these countries are trapped

in this stage due to their ailure to adopt choice-

based systems encompassing both market-based

economic reorms and democratic politicalinstitutions and organizations. Without the

adoption and proper sequencing o such reorms,

they cannot progress up the ladder to more

sophisticated production structures and, as a result,

will ace rising popular discontent and instability,

along with the threat o terrorist insurrection.57

Limited Progress inEconomic Freedom

No indices o the prevalence o choice-based

systems exist. However, the Fraser Institutes

Economic Freedom o the World58 and the Heritage

Foundation and The Wall Street Journals Index

o Economic Freedom59 are good proxies in that

they measure the relative progress o countries in

moving toward a deregulated, limited government,

ree-market environment. The Heritage Foundation

dataset was chosen or this study because

it contains a larger sample o countries.

To measure economic reedom, the Heritage

Index takes ten dierent actors into account:(1) trade policy, (2) fscal burden o government,

(3) government intervention in the economy, (4)

monetary policy, (5) banking and fnance, (6)

capital ows and oreign investment, (7) wage

and prices, (8) property rights, (9) regulation,

and (10) the inormal market. These actors are

designed to measure the openness o countries

to competition, the degree o state intervention

in the economy, and the ability o the courts to

enorce rules and property rights. The Heritage

Foundation emphasizes that countries must score

well in all ten o the actors in order to improve

their economic efciency and, consequently,the living standards o their people.60

In the 2011 Heritage Foundation Index o

Economic Freedom, Pakistans score was 55.1,

compared to highest-ranking Hong Kong at

89.7. Pakistan ranked twenty-ourth o orty-

one countries in the Asia-Pacifc region, with

an overall score that was below both the

Source: Robert Looney, Failed Economic Take-Offs andTerrorism in Pakistan,Asian Survey(November/December 2004).

10+ Years 1020 Years

Proper Management,Increased Globalization

Institutional Development

Sustained Growth, LowValue-Added Manufacturing

Industrialization, IncomeGrowth, Economic

Diversification

Turkey

Malaysia, Brazil

Korea, Singapore

Argentina

IndonesiaIndia, China

P ak is ta n E gy pt , Ir an

Saudi Arabia

Market Reforms

Increased EconomicFreedom

Weak Governance

Financial Crisis

Despair, ViolenceTerrorism

Institutional Rigidities

Command-Based Systems

Rent-Seeking

Improvement in Standardof Living/Quality of Life of

Large Segments of the Population

Choice-Based Systems

First Phase

Middle Phase

Advanced PhaseFirst World

Third Phase Stalled

Transition

First Phase Stalled

Transition

Growth-Limiting Policies

Fig. 10. Transitions and Institutional Constraints

Fig. 11. Overall Economic Freedom Score

Pakistan


Source: Heritage Foundation, Index of Economic Freedomdatabase, 2011.

70

65

40

55

50

45

401995 1997 1999 2001 2003 2005 2007 2009 2011


22/64



L i m i t e d P r o g r e s s i n E c o n o m i c F r e e d o m

world and regional averages. While Pakistans

aggregate Economic Freedom ranking compared

relatively avorably to those o Bangladesh, Sri

Lanka, and India (see Fig. 11), the country made

ew gains in the overall liberalization o theeconomy, as indicated by the act that its score

in 2011 was slightly lower than in 1995.61

On the positive side, Pakistan has pursued

reorms to improve its entrepreneurial environment

and acilitate private-sector development. In

addition, the country made signifcant gains in

recent years in liberalizing restrictions on trade (see

Fig. 12), although its progress in this area lagged

behind Indias by a wide margin. However, in other

areas, Pakistans progress lags considerably. Its tax

system is complex and inefcient, though reorms

have been undertaken to cut tax rates, broaden thetax base, and increase transparency. The judicial

system suers rom a serious backlog and poor

security, and corruption taints both the judiciary

and civil service. In addition, restrictions on oreign

investment and state involvement in the economy

are serious drags on economic dynamism.62

An examination o the group means by World

Economic Forum groupings (Tables 3 and 4) shows

a pattern similar to that ound in the governance

dimensions: countries show steady progress in

economic reorms as they move rom Group 1 to

Group 5. The one major exception is in the fscal

area, where lower levels o government spending

and taxes are considered reer. Given the expansion

o government spending in the advanced countries,Groups 4 and 5 score low on this dimension.

In contrast with the governance indicators,

Pakistan compares slightly avorably with other

Group 1 countries. Overall, it scored 55.1 versus

54.3 or Group 1 countries. For Business Freedom

it scored 70.9 versus 55.5; or Fiscal Freedom,

80.5 versus 77.1; and or Government Spending,

88.8 versus 75.2. It should be noted, however,

that the Heritage Foundation considers low

government spending and minimal tax rates

as a sign o economic reedom. While many

would agree that this measure makes sense

or developed economies, critics o Pakistans

economic management contend it is precisely these

attributes that have created the countrys current

crisis o growing income inequality, crumbling

inrastructure, and an educational system incapable

o meeting the needs o a modern economy.

On the negative side, Pakistan scores below

the Group 1 norm in the areas o Trade Freedom

(67.0 versus 69.5 or Group 1 countries), Monetary

Freedom (63.6 versus 70.0), Investment Freedom

(40.0 versus 41.2), Financial Freedom (40.0versus 43.3), Property Freedom (30.0 versus

30.2), Freedom rom Corruption (24.0 versus

27.0), and Labor Freedom (46.3 versus 57.6).

Defciencies in EntrepreneurialAccess to Capital

The Milken Institutes Capital Access Index (CAI)

provides an additional perspective on Pakistans

progress in supporting entrepreneurship and a

modern economy. This index scores the ability o

entrepreneurs to gain access to fnancial capital

in countries around the world. The CAI measures

not only the breadth, depth, and vitality o capital

markets, but also openness in providing access

61. Ibid.

62. Ibid.

Pakistan


Source: Heritage Foundation, Index of Economic Freedomdatabase, 2011.

80

70

60

50

40

30

20

101995 1997 1999 2001 2003 2005 2007 2009 2011

Fig. 12. Trade Freedom


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D e i c i e n c i e s i n E n t r e p r e n e u r i a l A c c e s s t o C a p i t a l

Source: Heritage Foundation, Index o Economic Freedom database, 2010.

Source: Heritage Foundation, Index o Economic Freedom database, 2010.

World EconomicForum Stages

OverallFreedom

Score

BusinessFreedom

TradeFreedom

FiscalFreedom

GovernmentSpending

MonetaryFreedom


54.30038

5.867

55.46038

11.605

69.53738

7.503

77.05137

9.418

75.16837

15.816

69.88637

5.591

Pakistan 55.2 71.7 67.0 80.5 88.8 69.4


57.26024

9.639

65.15024

16.136

74.79224

10.320

82.20424

11.229

71.66724

15.905

66.32924

7.024


61.89029

6.263

67.11029

9.410

78.09029

7.970

80.51729

7.884

71.89329

16.450

71.92829

4.942


68.91014

4.936

72.55014

9.822

84.13614

7.166

80.69314

9.408

63.22914

17.512

72.87914

4.184


73.19032

6.899

85.47032

10.272

86.39132

3.562

64.23432

14.439

49.12832

19.451

78.61332

3.810


62.330137

10.057

68.380137

15.860

77.696137

9.818

76.059138

12.693

66.496136

19.661

72.055138

6.649

World EconomicForum Stages InvestmentFreedom FinancialFreedom PropertyRights FreedomromCorruption

LaborFreedom


54.30038

5.867

55.46038

11.605

69.53738

7.503

77.05137

9.418

75.16837

15.816

Pakistan 55.2 71.7 67.0 80.5 88.8


57.26024

9.639

65.15024

16.136

74.79224

10.320

82.20424

11.229

71.66724

15.905


61.89029

6.263

67.11029

9.410

78.09029

7.970

80.51729

7.884

71.89329

16.450

4 Mean

Number o CountriesStd. Deviation

68.910

144.936

72.550

149.822

84.136

147.166

80.693

149.408

63.229

1417.512


73.19032

6.899

85.47032

10.272

86.39132

3.562

64.23432

14.439

49.12832

19.451


62.330137

10.057

68.380137

15.860

77.696137

9.818

76.059138

12.693

66.496136

19.661

Table 3. Group Means on Economic Freedom Dimensions l,World Economic Forum Development Stages, 20102011

Table 4. Group Means on Economic Freedom Dimensions II,World Economic Forum Development Stages, 20102011


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63. Farhan Bokhari, Pakistan Stability Hinges on Reorm,gulnews.com, April 24, 2011.



D e i c i e n c i e s i n E n t r e p r e n e u r i a l A c c e s s t o C a p i t a l

without discrimination, a measure o global

progress in the democratization o capital.

The seven components o the CAI are:

Macroeconomic environment: the avorableness

o conditions or running and fnancing a

business, based on such variables as ination,

interest rates, tax rates, and fnancial

sophistication relative to international norms;

Institutional environment: the extent to

which institutions support and enhance

business fnancing activities, based on

variables that include the enorceability

o property rights, the impartiality o the

judicial system, the efciency o bankruptcy

procedures, and the levels o corruption;

Financial and banking institutions: the

involvement o deposit-taking institutions

in fnancing businesses, based on such

variables as the extension o credit to the

private sector, the soundness o fnancial

institutions, the ease o access to bank loans,

and the efciency o the banking system;

Equity market development: the importance

o equity fnancing o business operations,

based on such variables as stock market

capitalization relative to GDP, stock market

liquidity, and changes in the number o listings;

Bond market development: the importance

o bond fnancing or businesses, based

on variables such as the value o private

and public bonds relative to GDP and

securitized asset issuance relative to GDP;

Alternative sources o capital: the level o usage

o diverse fnancing sources, such as venture

capital, credit cards, and nonpublic stock

oerings or other private placements; and

International unding: the availability o oreign

capital to businesses in a particular country,

based on such variables as the volatility o

exchange rates, international reserve holdings,

portolio and oreign direct investment, capitalinows and outows, and sovereign ratings.

According to the 2009 CAI, Pakistan ranked

seventy-ourth out o 122 countries with a scoreo 3.93. In contrast, India ranked orty-ourth, witha score o 5.51, Sri Lanka ranked seventy-second,and Bangladesh ranked eighty-fth. While Pakistanshowed some progress rom 2002 to 2006, itsscores have since been in decline, whereas India hashad a airly dramatic increase over time in this keymeasure (see Fig. 13). Pakistan did, however, makerelatively good progress in several o the CapitalAccess subcomponents (Table 5), including equitymarket development (ranked ortieth) and bondmarket development (ranked orty-fth). On theother hand, the country was considerably behind

in macroeconomic environment (ranked 110th)and international unding (ranked ninety-third).

In sum, the progress made by Pakistanin the critical areas o competitiveness,governance, economic reorm, and capital accessremains disappointing, with retrogressionsoccurring in several key areas. Even duringperiods o rapid growth, the country wasunable to make signifcant gains.

I the models o economic stagnation andterrorism developed by Bremer and Kasarda

play out along expected lines, the countrysuture is dire. The situation has been bestsummed up by long-time Financial Timescolumnist Farhan Bokhari. Observing thecountrys ever-shiting political alliances andinfghting, he notes that such developments:

only work to reinorce the largely taintedview o Pakistans prevailing political order,built to protect and promote the countrysvested interests across its urban and ruralbelts. Pakistans survival, prosperity and

stability depend undamentally on the

ability o its ruling class to reorm thecountry on multiple ronts. Without givinga new direction to Pakistans economybacked by reorms surrounding internalmanagement and governance, the countrysoutlook will largely remain unchanged.63


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Capital Access Index: Summary Rank Score

Pakistan 74 3.93

India 44 5.51

Sri Lanka 72 3.96

Bangladesh 85 3.48

Macroeconomic Environment

Pakistan 110 3.75

India 63 5.83

Sri Lanka 113 3.50

Bangladesh 99 4.17

Institutional Environment

Pakistan 70 4.82

India 71 4.76

Sri Lanka 56 5.35

Bangladesh 110 3.24

Financial and Banking Institutions

Pakistan 72 3.90

India 46 5.10

Sri Lanka 62 4.40

Bangladesh 69 4.00

Equity Market Development Rank Score

Pakistan 40 5.17

India 14 6.50

Sri Lanka 40 5.17

Bangladesh 33 5.50

Bond Market Development

Pakistan 45 4.25

India 33 5.25

Sri Lanka 76 2.50

Bangladesh 62 3.50

Alternative Sources o Capital

Pakistan 74 1.75

India 18 6.25

Sri Lanka 72 2.00

Bangladesh 86 0.75

International Funding

Pakistan 93 2.75

India 25 5.50

Sri Lanka 76 3.42

Bangladesh 97 2.50



C o n s t r a i n t s o n P a k i s t a n s

G r o w t h P o t e n t i a l a n d E n t r e p r e n e u r s h i p

I the country is to move ahead, where should

the emphasis lie in developing a reorm strategy

to overcome the impediments posed by the

countrys governance/institutional structures?

The next section addresses this issue through

the development o an empirically based model

structured to identiy the nature and sequencing othe most urgent reorms.

Constraints on PakistansGrowth Potential andEntrepreneurship

It is unrealistic to expect that the Pakistani

government, or any government or that matter,

could address all the potential constraints identifed

in the previous section. Hausmann, Rodrik,

and Velasco suggest that a better approach is

Pakistan


Source: The Milken Institute, Capital Access Index, 2010.

6.0

5.5

5.0

4.5

4.0

3.5

3.02001 2002 2003 2004 2005 2006 2007 2008 2009

Fig. 13. Progress inEntrepreneurial Access to Capital

Source: Compiled rom: James R. Barth, Tong Li, Wenling Lu, and Glen Yago, Capital Access Index 2009 : Best Markets or Business Access to

Capital(Santa Monica, CA: Milken Institute, April 2010).

Table 5. Financial Sector Development


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64. Ricardo Hausmann, Dani Rodrick, and Andres Velasco, Getting the Diagnosis Right: A New Approach to Economic Reorm, Finance &

Development(March 2006).

65. Preliminary analysis suggested that, while the Milken Institute Capital Access dataset provided some interesting insights to the Pakistani

situation, because o its relatively narrow ocus it did not contribute a signifcant amount o inormation over and above that provided by theother three datasets.

66. World Bank, Enterprise Snapshots (WBGES), 2010, which comprises the number o newly registered limited liability companies per 1,000

working-age people (ages 1564).

67. Data compiled in Friedrich Schneider and Andreas Buehn, Shadow Economics and Corruption All Over the World: Revised Estimates or 120

Countries, Economics: the Open Access, Open-Assessment E-Journal(October 27, 2009).

68. Ibid.

69. Friedrich Schneider with Dominik Enste, Hiding in the Shadows: The Growth o the Underground Economy(Washington, D.C.: International

Monetary Fund, 2002).



to identiy and address the one or two most

binding present constraints. To this end, they

propose that each country use a decision tree

methodology (see Fig. 14) to identiy binding

constraints and policy options. Their rameworkocuses on the short term, identiying constraints

as they emerge rather than attempting to

anticipate uture impediments to growth.64

While this approach provides a good starting

point, the goal o the present study is to develop

a model that addresses both entrepreneurship

and growth, which are unlikely to ace the

same constraints simultaneously. Furthermore,

given Pakistans history o stalled growth and

ailed takeos, it is crucial to identiy the correct

sequence o reorms necessary to frmly set the

country on the path to development and keep itthere. It is hoped that the model that emerges can

oer direction, not only to Pakistan, but to broad

classes o countries acing similar circumstances.

As the basis or the model, the World Economic

Forum Competitiveness Indicators (WEF), theWorld Bank Governance Indicators (WB), and the

Heritage Foundation Index o Economic Freedom

(EF) were merged into a single database.65

Added to this were the World Banks database

on entrepreneurial activity66 and the size o the

shadow economy (percent o GDP) in individual

countries.67 The shadow economy is relatively

large in Pakistan, averaging around 37.1 percent o

GDP.68 It is included in part to track the countrys

movement toward an efcient competitive

economy, since the literature on entrepreneurship

and growth stresses the necessity o transorming

inormal/shadow activities into ormal entities withhigher productivity and taxpaying potential.69

C o n s t r a i n t s o n P a k i s t a n s

G r o w t h P o t e n t i a l a n d E n t r e p r e n e u r s h i p

Source: Ricardo Hausmann, Dani Rodrik, and Andres Velasco, Getting the Diagnosis Right, Finance and Development(March 2006).

Low human capital

Low social returns

Government failures

Low appropriability High cost of finance

Low return toeconomic activity

Possible causes

Market failures Bad local financeBad international

financePoor geography Bad inf rast ructure

Micro risks:property rights,

corruption, taxes

Macro risks:financial, monetary,

fiscal instability

Informationexternalities:

self-discovery

Coordinationexternalities

Low domestic saving Poor Intermediation

Fig. 14. Growth Constraint Decision Tree

Time for a checkup

A decision tree, such as the one below, can help identify the biggest obstacles to growth.

Problem: Low levels of private investmentand entrepreneurship


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70. See the classic work by Irma Adelman and Cynthia Tat Morris, A Factor Analysis o the Interrelationship Between Social and Political Variables

and Per Capita Gross National Product, Quarterly Journal o Economics (November 1965) or a

Documents

Entrepreneurship and the Process of Development: A Framework for Applied Expeditionary Economics in Pakistan