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June 28, 2011

Another economic debacle


June 28, 2011

Yet another debacle has occurred on the economic front, with the government failing to float its exchangeable bond in the international debt-capital market. In an act of desperation, the Pakistani economic manager had decided to launch a $500-million exchangeable bond with 10 percent shares of Oil and Gas Development Corporation (OGDC) attached to this transaction, the proceeds of which were to come by the end of the current fiscal year. It was the intention of the government to use these proceeds for retiring its State Bank debt and reducing its budget deficit to that extent.
The Pakistani team was informed by the global investors during the road show that they had little appetite for Pakistani paper at the moment, particularly in the presence of the Greek debt crisis and the unresolved issue of increase in the debt limit of the US administration. The Pakistani team did not pitch for the bond and returned empty-handed.
Why did Pakistan have to abandon its transaction? Are the economic managers aware of the consequences of such a colossal failure for the country? One thing is clear from the perspective of the economic managers: who cares about the country? They are there to improve their resumes.
What is an exchangeable bond? The country issues a normal sovereign bond with an option that the bondholder can convert the bond into common shares. The transaction under discussion provided an option to bondholders to convert their bonds into OGDC shares. The advantageous thing about such a bond is that it has the option for conversion of debt into portfolio investment.
There are many reasons for the failure of this transaction. Firstly, the timing for floating the bond was highly inappropriate. This is summertime, when investors close their books and go for vacations. Secondly, the international economic environment, particularly the persistence of the Greek debt crisis and the emergence of issue pertaining to enhancing the debt limit of the US

administration have created severe uncertainty in the international debt-capital market.
Thirdly, Pakistan’s own economic fundamentals are weak. Why would anyone invest in a country’s paper whose debt is rising, budget deficit is averaging over six percent of the GDP, high double-digit inflation continuous persists for the last 45 months, and growth is slowing to an average of 2.6 percent per annum over the last four years. Fourthly, Pakistan’s relations with the IMF and other development financial institutions (DFIs) are not smooth. Fifthly, Pakistan’s relations with the United States are also on a bumpy ride. For an emerging market country, its relationships with the US, the IMF and the DFIs are critical in attracting global investors to invest in its paper.
Sixthly, Pakistan’s domestic political and security environment are not conducive to attract global investors to invest in Pakistani paper. Seventhly, the Pakistani team involved in this transaction, barring one member, was quite immature and had no idea whatsoever about the transaction. All these factors have contributed to the failure of the transaction, damaging the reputation of the country and OGDC. In order to save face, the economic team could call this transaction “non-deal road show.” But the international capital market participants are not novices. Word has already travelled across the globe that Pakistan has failed to find takers for its paper.
I am positive that Pakistan’s economic mangers are still unaware of the consequences of such a colossal failure for the country. They have no idea how they have damaged the country’s reputation in the eyes of global investors. The failure of this transaction has injected franchise risk as international fund managers will not take Pakistan seriously should it decide to float another bond. Once a country’s reputation is hurt it takes years for it to regain the confidence of global investors.
Who should be held responsible for such a debacle? Should there be accountability for the damage to the country’s reputation? The prime minister should look into this debacle. If his economic team fails to read the market and goes on to damage the credibility of the country, should he trust his own team?
Floating of sovereign bonds in the international capital market enables the country to showcase its improving credit fundamentals before global investors. It also enables international investors, credit-rating agencies, and research analysts to observe Pakistan’s economic performance on a permanent basis and allows its success to be effectively projected to global investors. It also helps the country to establish a pricing benchmark which serves as a gauge of economic and financial health of the country for a range of investors. This can also be a beacon for other investments into the country.
It is in this perspective that Pakistan floated its paper from February 2004 to May 2007. Each time the Pakistani paper was oversubscribed substantially. Pakistan emerged as one of the few countries which successfully floated a 30-year bond. This simply reflected the confidence of global investors in Pakistan’s economic management.
Floating of sovereign paper is serious business. It requires a core team at the ministry of finance, which is fully conversant with global market developments and the intricacies of the transaction. The team must know when to go to the market and how to deal with the press. Unfortunately, the timing for this transaction was not right. The team also did not handle the press properly. Failure of the transaction was predictable. Those responsible for damaging the country’s reputation must be held accountable.
The writer is principal and dean of NUST Business School, Islamabad. Email: [email protected]

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