Author: Natalya Naqvi

Summary

Among our case study countries, Pakistan has the highest level of adoption and implementation of Basel standards. The impetus for Basel adoption has come from different actors over time. Pakistan was a domestically oriented country during the pre-1980 era, and the adoption of Basel I in the 1980s was driven by the World Bank and IMF. In the 1990s and early 2000s, the adoption of Basel II was driven first by a policy of promoting financial services, and then by banking sector regulators. Most recently, as banks have internationalised, they have championed the implementation of Basel III. Pakistan is one of the few cases where all three major actors – politicians, regulators and banks – have become internationally oriented, leading to substantive compliance with international banking standards (Type 5).

Political economy background

Pakistan is a lower-middle income country with a high degree of external vulnerability, due to periodic balance of payments crises and a development model that prioritised attracting foreign investment. While Pakistan is no longer a primarily agricultural economy, industrial growth has stagnated since the 1980s, and the economy has become increasingly reliant on services. After the late 1980s, Pakistan’s development model began changing whole-scale, from a ‘developmentalist’ state-led model based on import substitution industrialisation, to a ‘neoliberal’ model based on Washington consensus principles. One of the key tenets of Pakistan’s new development model is the promotion of services exports, especially financial services through the internationalisation of its banking sector. Since the 2000s, ‘outward-oriented’ development strategy has envisioned a financial sector that is highly profitable and internationally competitive, in order to contribute to GDP and in particular to increase financial services exports.

Note: All data is from 2016 unless otherwise indicated

Source: FSI Database, IMF (2018); GDI Database, World Bank (2017a); Polity IV (2014)

Basel implementation to date

Pakistan adopted Basel I and the Core Principles as a result of IMF and World Bank conditionality in the 1990s. Pakistan was very quick to adopt Basel II, adopting almost all components of the global standard. Basel III adoption has also been high, with Pakistan implementing four out of eight components by 2015. Initially, compliance by banks with Basel I and II lagged due to capacity constraints, especially among small banks. However, since the mid-2000s, compliance with Basel II and III standards has been largely substantive.

Politics of Basel implementation

From the 1980s to the 2000s, Pakistan’s development strategy shifted from a ‘developmentalist’ state-led model based on import substitution industrialisation, to a ‘neoliberal’ model based on Washington consensus principles. A liberalised, privatised and internationalised banking sector was seen as vital to the government’s development strategy. Even though the specifics of Basel adoption fell under the politicians’ radars and were not as politically salient as other reforms like bank privatisation, this policy environment was conducive for the implementation of Basel standards.

In the eyes of the regulators, the adoption of international banking standards was important for internationalising the banking sector, but they also made instrumental use of the Basel standards to force bank consolidation.

The 2007/8 global financial crisis largely discredited Basel II among Pakistani regulators, but highly internationalised domestic private banks were keen to push ahead with Basel II and III implementation. They were driven both by the sunk costs of internal compliance with prudential standards, and the utility of Basel as a signalling mechanism to sustain their expansion abroad. The private banks successfully lobbied the central bank to continue its pursuit of Basel adoption after 2008, despite the central bank’s more cautious approach.

All the key actors in Pakistan are now outward-oriented, resulting in high adoption, implementation and voluntary enforcement of the Basel standards by banks.