Improved investor sentiment particularly related to relatively strong growth outturns (India) and ongoing or new IMF stabilisation programmes. The report said South Asia appears to have escaped the worst effects of the crisis, with GDP growth in the region estimated at 5.7 percent in 2009, unchanged from 2008. The slowdown in GDP growth mainly reflected weaker investment and private sector demand, which were only partially offset by an increase in public expenditures. Several countries (Maldives, Pakistan and Sri Lanka) faced serious challenges financing large current account deficits.
The report said remittances to some South Asian countries such as Bangladesh and Pakistan have continued to record positive growth in 2009, where year-to-date remittances have increased 16 percent and 27 percent respectively. The latter is in part a result of measures by the Pakistani authorities to increase flows through formal channels including subsidies for marketing expenses to providers of remittance services (the Pakistan Remittance Initiative); in addition, some migrants are returning with accumulated savings. The report pointed out that the financial intermediation also rose strongly in South Asia. In India the ratio of bank credit to GDP increased by 15 percentage points and the stock market capitalisation nearly quintupled relative to GDP. Other countries in the region had more moderate increases (for example, the ratio of bank credit to GDP increased 12 percentage points in Bangladesh and 6 percentage points in Pakistan).
As a result, the cost of letters of credit was reported to have doubled or tripled for buyers in emerging countries, including Argentina, Brazil, Bangladesh, China, Pakistan, and Turkey.
The report highlighted that a number of regional economies also faced ongoing internal conflicts that continued to disrupt economic activity, notably Afghanistan, Pakistan, Sri Lanka (which ended a decades old civil war in mid-2009), and to a lesser extent Nepal (where warring factions reached a peace accord in late 2006 but are still vying for political control).
The stabilisation and progressive thawing of global financial markets in early 2009 and the rebound of world trade and output growth beginning in the second half of 2009 have contributed to improving conditions in South Asia. Since the second quarter of 2009, local equity markets and capital inflows to the region began to recover - largely in line with trends across developing countries. This process has been supported by improved investor sentiment on comparatively strong growth outturns (India and Bangladesh), ongoing or new International Monetary Fund stabilisation programmes (Pakistan, Sri Lanka and most recently the Maldives), steep reductions in interest rates, and improved political stability. Nevertheless as of August 2009, capital inflows to the region remained 28 percent below levels a year earlier.
The report said that the regional industrial activity, which did not contract as much as in most other developing regions, has shifted into positive growth, led by India, Bangladesh, and more recently Pakistan. It specified that the merchandise trade growth remains below previous-year levels for the region, with imports down much more sharply than exports, given the sharp compression of demand in Maldives, Pakistan and Sri Lanka in particular. Indeed, the 32 percent decline in South Asia's import volumes through July 2009 compared with the previous year is the second steepest among developing regions after that of Europe and Central Asia (39 percent).
Overall, the combination of a sharp fall in the value of imports, a somewhat less steep decline in exports (both reflecting favourable terms-of-trade developments), and resilient remittance inflows meant that current account balances generally improved in 2009. Regional external positions had come increasingly under strain from the multiyear boom in food and fuel prices before mid-2008. During 2009, the Maldives, Pakistan, and Sri Lanka posted the largest adjustments in their current account deficits.
The report further said that the moderation in inflationary pressures and falling international commodity prices also provided scope for regional central banks to introduce expansionary measures to support domestic demand in response to the crisis. Bangladesh, India, Pakistan, and Sri Lanka cut policy interest rates. Activity in Bhutan and Nepal, where the currencies are tied to the Indian rupee, was supported by India's expansionary monetary policy stance.
Pakistan also sought to stimulate its economy through an increase in its public sector development program. While these stimulus measures helped offset the negative effects of the global crisis, they also led to higher fiscal deficits in nearly all of the regional economies.
Even before the crisis, sizeable fiscal deficits were already a problem for many South Asian economies, where weak tax administration and structure, it maintained. The recovery path for the individual economies will vary substantially. Elsewhere in the region, conflict-affected countries-Afghanistan, Pakistan, and to a lesser extent, Nepal-are expected to face more.
Regional economies are projected to benefit from stronger remittance inflows over the forecast horizon, which in turn should boost private consumption and support growth - particularly in Bangladesh, Nepal and Pakistan, the report added.