Origins of Money and of Banking
The history of credit and banking goes back much further than the history of coins. Nevertheless the story of the origins of money goes back even further still.
The origins of money in its various forms, and of banking, are discussed in the book by Glyn Davies, on which this essay is based.
Davies, Glyn. A history of money from ancient times to the present day, 3rd ed. Cardiff: University of Wales Press, 2002. 720 pages. Paperback: ISBN 0 7083 1717 0. Hardback: ISBN 0 7083 1773 1.
See also Money in Fiction
What is Money?
At first sight the answer to this question seems obvious; the man or woman in the street would agree on coins and banknotes, but would they accept them from any country? What about cheques? They would probably be less willing to accept them than their own country's coins and notes but bank money (i.e. anything for which you can write a cheque) actually accounts for by far the greatest proportion by value of the total supply of money. What about I.O.U.s (I owe you), credit cards and gold? The gold standard belongs to history but even today in many rich people in different parts of the world would rather keep some of their wealth in the form of gold than in official, inflation-prone currencies. The attractiveness of gold, from an aesthetic point of view, and its resistance to corrosion are two of the properties which led to its use for monetary transactions for thousands of years. In complete contrast, a form of money with virtually no tangible properties whatsoever - electronic money - seems set to gain rapidly in popularity.
All sorts of things have been used as money at different times in different places. The alphabetical list below, taken from page 27 of A History of Money by Glyn Davies, includes but a minute proportion of the enormous variety of primitive moneys, and none of the modern forms.
Amber, beads, cowries, drums, eggs, feathers, gongs, hoes, ivory, jade, kettles, leather, mats, nails, oxen, pigs, quartz, rice, salt, thimbles, umiacs, vodka, wampum, yarns, and zappozats (decorated axes).
It is almost impossible to define money in terms of its physical form or properties since these are so diverse. Therefore any definition must be based on its functions.
Functions of MoneySpecific functions (mostly micro-economic)
- Unit of account (abstract)
- Common measure of value (abstract)
- Medium of exchange (concrete)
- Means of payment (concrete)
- Standard for deferred payments (abstract)
- Store of value (concrete)
- Liquid asset
- Framework of the market allocative system (prices)
- A causative factor in the economy
- Controller of the economy
Not everything used as money as all the functions listed above. Furthermore the functions of any particular form of money may change over time. As Glyn Davies points out on page 28:
"What is now the prime or main function in a particular community or country may not have been the first or original function in time, while what may well have been a secondary or derived function in one place may have been in some other region the original which gave rise to a related secondary function... The logical listing of functions in the table therefore implies no priority in either time or importance, for those which may be both first and foremost reflect only their particular time and place."
He goes on to conclude from this that the best definition is as follows:
Money is anything that is widely used for making payments and accounting for debts and credits.
Causes of the Development of Money
In his preface the author writes:
"Money originated very largely from non-economic causes: from tribute as well as from trade, from blood-money and bride-money as well as from barter, from ceremonial and religious rites as well as from commerce, from ostentatious ornamentation as well as from acting as the common drudge between economic men."
One of the most important improvements over the simplest forms of early barter was the tendency to select one or two items in preference to others so that the preferred items became partly accepted because of their qualities in acting as media of exchange. Commodities were chosen as preferred barter items for a number of reasons - some because they were conveniently and easily stored, some because they had high value densities and were easily portable, and some because they were durable. These commodities, being widely desired, would be easy to exchange for others and therefore they came to be accepted as money.
To the extent that the disadvantages of barter provided an impetus for the development of money that impetus was purely economic but archaeological, literary and linguistic evidence of the ancient world, and the tangible evidence of actual types of primitive money from many countries demonstrate that barter was not the main factor in the origins and earliest development of money.
Many societies had laws requiring compensation in some form for crimes of violence, instead of the Old Testament approach of "an eye for an eye". The author notes that the word to "pay" is derived from the Latin "pacare" meaning originally to pacify, appease, or make peace with - through the appropriate unit of value customarily acceptable to both sides. A similarly widespread custom was payment for brides in order to compensate the head of the family for the loss of a daughter's services. Rulers have since very ancient times imposed taxes on or exacted tribute from their subjects. Religious obligations might also entail payment of tribute or sacrifices of some kind. Thus in many societies there was a requirement for a means of payment for blood-money, bride-money, tax or tribute and this gave a great impetus to the spread of money.
Objects originally accepted for one purpose were often found to be useful for other non-economic purposes and, because of their growing acceptability began to be used for general trading also, supplementing or replacing barter.
Thus the use of money evolved out of deeply rooted customs; the clumsiness of barter provided an economic impulse but that was not the primary factor. It evolved independently in different parts of the world. About the only civilization that functioned without money was that of the Incas.
Primitive Forms of Money
The use of primitive forms of money in the Third World and North America is more recent and better documented than in Europe and its study sheds light on the probable origins of modern money. Among the topics treated are the use of wampum and the custom of the potlatch or competitive gift exchange in North America, disc-shaped stones in Yap, cowrie shells over much of Africa and Asia, cattle, manillas and whales teeth.
Manillas were ornamental metallic objects worn as jewelry in west Africa and used as money as recently as 1949. They were an ostentatious form of ornamentation, their value in that role being a prime reason for their acceptability as money. Wampum's use as money in north America undoubtedly came about as an extension of its desirability for ornamentation. Precious metals have had ornamental uses throughout history and that could be one reason why they were adopted for use as money in many ancient societies and civilizations.
In Fijian society gifts of whales teeth were (and in certain cases still are) a significant feature of certain ceremonies. One of their uses was as bride-money, with a symbolic meaning similar to that of the engagement ring in Western society. Whales teeth were "tambua" (from which our word "taboo" comes) meaning that they had religious significance, as did the fei stones of Yap which were still being used as money as recently as the mid 1960s.
The potlatch ceremonies of Native Americans were a form of barter that had social and ceremonial functions that were at least as important as its economic functions. Consequently when the potlatch was outlawed in Canada (by an act that was later repealed) some of the most powerful work incentives were removed - to the detriment of the younger sections of the Indian communities. This form of barter was not unique to North America. Glyn Davies points out that the most celebrated example of competitive gift exchange was the encounter, around 950 BC, of Solomon and the Queen of Sheba. "Extravagant ostentation, the attempt to outdo each other in the splendour of the exchanges, and above all, the obligations of reciprocity, were just as typical in this celebrated encounter, though at a fittingly princely level, as with the more mundane types of barter in other parts of the world." (page 13).
Cattle are described by the author as mankind's "first working capital asset" (page 41). The religious use of cattle for sacrifices probably preceded their adoption for more general monetary purposes. For sacrifice quality - "without spot or blemish" - was important but for monetary purposes quantity was of more significance since cattle, like coins, can be counted. Obviously there were very practical reasons for the association between cattle and wealth but anthropological evidence from Africa in very recent times shows that when cattle are regarded as a form of money, not only health cattle but also scrawny ones will be valued to the detriment of the environment supporting them and their owners.
Glyn Davies quotes linguistic evidence to show how ancient and widespread the association between cattle and money was. The English words "capital", "chattels" and "cattle" have a common root. Similarly "pecuniary" comes from the Latin word for cattle "pecus" while in Welsh (the author's mother tongue) the word "da" used as an adjective means "good" but used as a noun means both "cattle" and "goods".
The author also cautions that "one should not confuse the abstract concept of an ox as a unit of account or standard of value, which is its essential but not only monetary function, with its admittedly cumbersome physical form. Once that is realized (a position quickly reached by primitive man if not yet by all economists or anthropologists), the inclusion of cattle as money is easily accepted, in practice and logic." (Page 41). He also points out that until well into the present century the Kirghiz of the Russian steppes used horses as their main monetary unit with sheep as a subsidiary unit. Small change was given in lambskins.
The Invention of Banking and Coinage
The invention of banking preceded that of coinage. Banking originated in Ancient Mesopotamia where the royal palaces and temples provided secure places for the safe-keeping of grain and other commodities. Receipts came to be used for transfers not only to the original depositors but also to third parties. Eventually private houses in Mesopotamia also got involved in these banking operations and laws regulating them were included in the code of Hammurabi.
In Egypt too the centralization of harvests in state warehouses also led to the development of a system of banking. Written orders for the withdrawal of separate lots of grain by owners whose crops had been deposited there for safety and convenience, or which had been compulsorily deposited to the credit of the king, soon became used as a more general method of payment of debts to other persons including tax gatherers, priests and traders. Even after the introduction of coinage these Egyptian grain banks served to reduce the need for precious metals which tended to be reserved for foreign purchases, particularly in connection with military activities.
Precious metals, in weighed quantities, were a common form of money in ancient times. The transition to quantities that could be counted rather than weighed came gradually. On page 29 of A History of Money Glyn Davies points out that the words "spend", "expenditure", and "pound" (as in the main British monetary unit) all come from the Latin "expendere" meaning "to weigh". On page 74 the author points out that the basic unit of weight in the Greek speaking world was the "drachma" or "handful" of grain, but the precise weight taken to represent this varied considerably, for example from less than 3 grams in Corinth to more than 6 grams in Aegina. Throughout much of the ancient world the basic unit of money was the stater, meaning literally "balancer" or "weigher". The talent is a monetary unit with which we are familiar with from the Parable of the Talents in the Bible. The talent was also a Greek unit of weight, about 60 pounds.
Many primitive forms of money were counted just like coins. Cowrie shells, obtained from some islands in the Indian Ocean, were a very widely used primitive form of money - in fact they were still in use in some parts of the world (such as Nigeria) within living memory. "So important a role did the cowrie play as money in ancient China that its pictograph was adopted in their written language for money." (page 36) Thus it is not surprising that among the earliest countable metallic money or "coins" were "cowries" made of bronze or copper, in China.
In addition to these metal "cowries" the Chinese also produced "coins" in the form of other objects that had long been accepted in their society as money e.g. spades, hoes, and knives. Although there is some dispute over exactly when these developments first took place, the Chinese tool currencies were in general use at about the same time as the earliest European coins and there have been claims that their origins may have been much earlier, possibly as early as the end of the second millennium BC. The use of tool coins developed (presumably independently) in the West. The ancient Greeks used iron nails as coins, while Julius Caesar regarded the fact that the ancient Britons used sword blades as coins as a sign of their backwardness. (However the Britons did also mint true coins before they were conquered by the Romans).
These quasi-coins were all easy to counterfeit and, being made of base metals, of low intrinsic worth and thus not convenient for expensive purchases. True coinage developed in Asia Minor as a result of the practice of the Lydians, of stamping small round pieces of precious metals as a guarantee of their purity. Later, when their metallurgical skills improved and these pieces became more regular in form and weight the seals served as a symbol of both purity and weight. The first real coins were probably minted some time in the period 640 - 630 BC. Afterwards the use of coins spread quickly from Lydia to Ionia, mainland Greece, and Persia.
One of the smaller Greek coins was the silver obol. In the Attic standard of weights and coinage six silver obols were worth one silver drachma. It is interesting to note that before the development of coinage six of the pointed spits or elongated nails used as tool currency constituted a customary handful similar to that of the even earlier grain-based methods. Therefore one of the early Greek coins, the obol, was simply a continuation of a primitive form of money - the iron spit or pointed rod.
Inflation was a problem even in the early days of coin production. In 407 BC Sparta captured the Athenian silver mines at Laurion and released around 20,000 slaves. As a result Athens was faced with a grave shortage of coins and in 406 and 405 BC issued bronze coins with a thin plating of silver. The result was that the shortage became even worse. Good coins tended to disappear from circulation since people naturally kept them and used the new coins instead in order to get rid of them.
This gave rise to what is probably the world's first statement of Gresham's law, that bad money drives out good, in Aristophanes' play, The Frogs, produced in 405 BC. Aristophanes wrote "the ancient coins are excellent...yet we make no use of them and prefer those bad copper pieces quite recently issued and so wretchedly struck." These base coins were demonetized in 393 BC.
Considerable rivalry developed between different currencies. "In coinage as in other matters the Greek city-states strove desperately for predominance, as did their arch-rivals the Persian emperors."
City-states with strong and widely accepted currencies would have gained prestige. In the 1960s newly independent countries in the Third World took pride in the trappings of nationhood - their own airlines, national banks, and currency. The city states of ancient Greece took a similar pride in their currencies - as is suggested by the beauty of their coins. Glyn Davies quotes another author, J. Porteous, who wrote " the fifth century saw the minting of the most beautiful coins ever made." He also quotes two historians, Austin and Vidal-Naquet, who claimed that "in the history of Greek cities coinage was always first and foremost a civic emblem. To strike coins with the badge of the city was to proclaim one's political independence."
Coercion played a role in establishing monetary uniformity. In 456 BC Athens forced Aegina to take Athenian 'owls' and to stop minting her own 'turtle' coinage and in 449 BC Athens issued an edict ordering all 'foreign' coins to be handed in to the Athenian mint and compelling all her allies to use the Attic standard of weights, measures and money. The conquests of Alexander the Great brought about a large degree of monetary uniformity over much of the known world. His father, Philip, had issued coins celebrating his triumph in the chariot race in Olympic games of 356 BC - an example of the use of coins as propaganda.
The Roman emperors made even more extensive use of coins for propaganda, one historian going so far as to claim that "the primary function of the coins is to record the messages which the emperor and his advisers desired to commend to the populations of the empire."
On pages 85-86, Glyn Davies points out that "coins were by far the best propaganda weapon available for advertising Greek, Roman or any other civilization in the days before mechanical printing was invented."
Money Exchange and Credit Transfer
The great variety of coinages originally in use in the Hellenic world meant that money changing was the earliest and most common form of Greek banking. Usually the money changers would carry out their business in or around temples and other public buildings, setting up their trapezium-shaped tables (which usually carried a series of lines and squares for assisting calculations), from which the Greek bankers, the trapezitai derived their name, much as our name for bank comes from the Italian banca for bench or counter. The close association between banking, money changing and temples is best known to us from the episode of Christ's overturning the tables in the Temple of Jerusalem (Matthew 21.12).
Money changing was not the only form of banking. One of the most important services was bottomry or lending to finance the carriage of freight by ships. Other business enterprises supported by the Greek bankers included mining and construction of public buildings. The most famous and richest of all was Pasion who started his banking career in 394 BC as a slave in the service of two leading Athenian bankers and rose to eclipse his masters, gaining in the process not only his freedom but also Athenian citizenship. In addition to his banking business he owned the largest shield factory in Greece and also conducted a hiring business lending domestic articles such as clothes, blankets, silver bowls etc. for a lucrative fee.
When Egypt fell under the rule of a Greek dynasty, the Ptolemies (323-30 BC) the old system of warehouse banking reached a new level of sophistication. The numerous scattered government granaries were transformed into a network of grain banks with what amounted to a central bank in Alexandria where the main accounts from all the state granary banks were recorded. This banking network functioned as a giro system in which payments were effected by transfer from one account to another without money passing. As double entry booking had not been invented credit transfers were recorded by varying the case endings of the names involved, credit entries being in the genitive or possessive case and debit entries in the dative case.
Credit transfer was also a characteristic feature of the services provided in Delos which rose to prominence in banking during the late second and third centuries BC. As a barren offshore island its inhabitants had to live off their wits and make the most of their two great assets - the island's magnificent natural harbour and the famous temple of Apollo - around which their trading and financial activities developed. Whereas in Athens banking, in its early days, had been carried on exclusively in cash, in Delos cash transactions were replaced by real credit receipts and payments made on simple instructions with accounts kept for each client.
The main commercial rivals of Delos, Carthage and Corinth, were both destroyed by Rome and consequently it was natural that the Bank of Delos should become the model most closely imitated by the banks of Rome. However their importance was limited by the Roman preference for cash transactions with coins. Whereas the Babylonians had developed their banking to a sophisticated degree because their banks had to carry out the monetary functions of coinage (since coins had not been invented), and the Ptolemaic Egyptians segregated their limited coinage system from their state banking system to economise on the use of precious metals, the Romans preferred coins for many kinds of services which ancient (and modern) banks normally provided. After the fall of the Roman Empire banking was forgotten and had to be re-invented much later.
Banking re-emerged in Europe at about the time of the Crusades. In Italian city states such as Rome, Venice and Genoa, and in the fairs of medieval France, the need to transfer sums of money for trading purposes led to the development of financial services including bills of exchange. Although it is possible that such bills had been used by the Arabs in the eighth century and the Jews in the tenth, the first for which definite evidence exists was a contract issued in Genoa in 1156 to enable two brothers who had borrowed 115 Genoese pounds to reimburse the bank's agents in Constantinople by paying them 460 bezants one month after their arrival.
The Crusades gave a great stimulus to banking because payments for supplies, equipment, allies, ransoms etc. required safe and speedy means of transferring vast resources of cash. Consequently the Knights of the Temple and the Hospitallers began to provide some banking services such as those already being developed in some of the Italian city states.
The Royal Monopoly of Minting
One of the reasons for the rapid spread of the use of coins was their convenience. In situations where coins were generally acceptable at their nominal value there was no need to weigh them and in everyday transactions where relatively small numbers were involved counting was quicker and far more convenient than weighing. By the Middle Ages monarchs were able to use this convenience as a source of profit.
On page 168 Glyn Davies writes, "because of the convenience of royally authenticated coinage as a means of payment, and with hardly any other of the general means of payment available in the Middle Ages being anything like as convenient, coins commonly carried a substantial premium over the value of their metallic content, more than high enough to cover the costs of minting. Kings could turn this premium into personal profit; hence ... the wholesale regular recall of coinage... first at six yearly, then at three-yearly intervals, and eventually about every two years or so. In order to make a thorough job of this short recycling process it was essential that all existing coins should be brought in so as to maximize the profit and, in order to prevent competition from earlier issues, the new issues had to be made clearly distinguishable by the authorities yet readily acceptable to the general public."
These recoinage cycles were far more frequent than was justified by wear and tear on the coins but the profits from minting, known as seigniorage, supplemented the revenue that English monarchs raised from the efficient systems of taxation introduced by the Normans. However, revenue from minting depended on public confidence in the coinage and consequently an elaborate system of testing was introduced.
"Anyone who had occasion to handle coins of silver or gold in any volume, whether merchants, traders, tax collectors, the King himself, the royal treasury, or the sheriffs, required reliable devices for testing the purity of what passed for currency." (Page 144). One of these methods was rough and ready - the use of touchstones which involved an examination of the colour trace left by the metal on the surface of a schist or quartz stone. The other, the Trial of the Pyx, was a test held in public before a jury. This Trial involved the use of 24 "touch needles", one for each of the traditional gold carats, with similar test pieces for silver.
Thus, despite the challenge of counterfeiters, governments controlled coin production and hence the money supply. Not until the rise of commercial banking and the widespread adoption of paper money was this monopoly broken, with profound consequences for the growth of democracy.
In China the issue of paper money became common from about AD 960 onwards but there had been occasional issues long before that. A motive for one such early issue, in the reign of Emperor Hien Tsung 806-821, was a shortage of copper for making coins. A drain of currency from China, partly to buy off potential invaders from the north, led to greater reliance on paper money with the result that by 1020 the quantity issued was excessive, causing inflation. In subsequent centuries there were several episodes of hyperinflation and after about 1455, after well over 500 years of using paper money, China abandoned it.
Bills of Exchange
With the revival of banking in western Europe, stimulated by the Crusades, written instructions in the form of bills of exchange, came to be used as a means of transferring large sums of money and the Knights Templars and Hospitallers functioned as bankers. (It is possible that the Arabs may have used bills of exchange at a much earlier date, perhaps as early as the eighth century). The use of paper as currency came much later.
During the English Civil War, 1642-1651, the goldsmith's safes were secure places for the deposit of jewels, bullion and coins. Instructions to goldsmiths to pay money to another customer subsequently developed into the cheque (or check in American spelling). Similarly goldsmiths' receipts were used not only for withdrawing deposits but also as evidence of ability to pay and by about 1660 these had developed into the banknote.
In England's American colonies a chronic shortage of official coins led to various substitutes being used as money, including, in Viriginia, tobacco, leading to the development of paper money by a different route. Tobacco leaves have drawbacks as currency and consequently certificates attesting to the quality and quantity of tobacco deposited in public warehouses came to be used as money and in 1727 were made legal tender.
Although paper money obviously had no intrinsic value its acceptability originally depended on its being backed by some commodity, normally precious metals. During the Napoleonic Wars convertibility of Bank of England notes was suspended and there was some inflation which, although quite mild compared to that which has occurred in other wars, was worrying to contemporary observers who were used to stable prices and, in accordance with the recommendations of an official enquiry Britain adopted the gold standard for the pound in 1816. For centuries earlier silver had been the standard of value. The pound was originally an amount of silver weighing a pound. France and the United States were in favour of a bimetallic standard and in 1867 an international conference was held in Paris to try and widen the area of common currencies based on coins with standard weights of gold and silver. However when the various German states merged into a single country in 1871 they chose the gold standard. The Scandinavian countries adopted the gold standard shortly afterwards. France made the switch from bimetallism to gold in 1878 and Japan, which had been on a silver standard, changed in 1897. Finally, in 1900, the United States officially adopted the gold standard.
With the outbreak of the First World War in 1914 Britain decided to withdraw gold from internal circulation and other countries also broke the link with gold. Germany returned to the gold standard in 1924 when it introduced a new currency, the Reichsmark and Britain did the following year, and France in 1928. However the British government had fixed the value of sterling at an unsustainably high rate and in the worldwide economic crisis in 1931 Britain, followed by most of the Commonwealth (except Canada) Ireland, Scandinavia, Iraq, Portugal, Thailand, and some South American countries abandoned gold.
The United States kept the link to gold and after the Second World War the US dollar replaced the pound sterling as the key global currency. Other countries fixed their exchange rates against the dollar, the value of which remained defined in terms of gold. In the early 1970s the system of fixed exchange rates started to break down as a result of growing international inflation and the United States abandoned the link with gold in 1973.
The break with precious metals helped to make money a more elusive entity. Another trend in the same direction is the growing interest in forms of electronic money from the 1990s onwards. In some ways e-money is a logical evolution from the wire transfers that came about with the widespread adoption of the telegraph in the 19th century but such transfers had relatively little impact on the everyday shopper.
The evolution of money has not stopped. Securitisation, the turning of illiquid assets into cash, developed in new directions in the 1990s. One much publicised development was the invention of bonds backed by intangible assets such as copyright of music, e.g.Bowie bonds, named after those issued by the popstar David Bowie. (See also Something Wild, the first novel dealing with Bowie bonds).
Noteworthy Points Regarding the Origins of Money
Some of the points stressed by Glyn Davies in his book are:-
- Money did not have a single origin but developed independently in many different parts of the world.
- Many factors contributed to its development and if evidence of what anthropologists have learned about primitive money is anything to go by economic factors were not the most important.
- Money performs a variety of functions and the functions performed by the earliest types were probably fairly restricted initially and would NOT necessarily have been the same in all societies.
- Money is fungible: there is a tendency for older forms to take on new roles and for new forms to be developed which take on old roles, e.g. (this is my example) on English banknotes such as the 5 pound notes it says "I promise to pay the bearer on demand the sum of five pounds" and below that it carries the signature of the chief cashier of the Bank of England. This is a reminder that originally banknotes were regarded in Britain, and in many other countries, as a substitute for money and only later did they come to be accepted as the real thing.
Relevance of History
One of Glyn Davies's main motives for writing the book was that, as he writes in his preface around the next corner there may be lying in wait apparently quite novel problems which in all probability bear a basic similarity to those that have already been tackled with varying degrees of success or failure in other times and other places. Furthermore he is of the opinion that economists, especially monetarists, tend to overestimate the purely economic, narrow and technical functions of money and have placed insufficient emphasis on its wider social, institutional and psychological aspects.
These issues aren't simply of academic interest. Economists still argue about how to measure and control the money supply and numerous different measures, corresponding to slightly different definitions have been proposed. These disputes have implications for the material well-being of everyone, especially now that thanks to the development of computer networks, new forms of money are coming into existence. Hence the importance of learning from history.
Päritolu raha ja pangandus a translation of this article into Estonian by Catherine Desroches.
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Since the country's independence in 1947, the economy of Pakistan has emerged as a semi-industrialised one, based heavily on textiles, agriculture and food production, though recent years have seen a surge towards technological diversification. As of 2014, agriculture accounts for more than one-fifth of output and two-fifths of employment. Textiles account for most of Pakistan's export earnings, and inflation has increased rapidly, climbing from 7.7% in 2007 to almost 12% for 2011, before declining to 10% in 2012 and to 2.11 percent in April 2015. Inflation Rate in Pakistan averaged 7.99 percent from 1957 until 2015, reaching an all-time high of 37.81 percent in December 1973 and a record low of -10.32 percent in February 1959. Pakistan suffered its only economic decline in GDP between 1951 and 1952.
The land forming modern-day Pakistan was home to the ancient Indus Valley Civilisation from 2800 BC to 1800 BC; historical evidence suggests that the civilisation relied on and carried trade through the Indus River, and its inhabitants were some of the most resourceful traders. Since independence the economic growth has meant an increase in average income of about 150 percent over 1950–96. But Pakistan, like many other developing countries, has not been able to narrow the gap between itself and rich industrial nations which have grown faster on a per head basis. Per capita GNP growth rate during 1985–95 was only 1.2 percent per annum, substantially lower than India (3.2), Bangladesh (2.1), and Sri Lanka (2.6). Growth was slow during the 1950s averaging 3.1 percent per annum but accelerated to 6.7 percent during the sixties and remained generally close to 6 percent per annum till the early 1990s.
Indus Valley civilisation, the first known permanent and predominantly urban settlement that flourished between 3500 BC to 1800 BC boasted of an advanced and thriving economic system. Its citizens practised agriculture, domesticated animals, made sharp tools and weapons from copper, bronze and tin and traded with other cities. Evidence of well laid streets, layouts, drainage system and water supply in the valley's major cities, Harappa, Lothal, Mohenjo-daro and Rakhigarhi reveals their knowledge of urban planning.
Though ancient India had a significant urban population, much of India's population resided in villages, whose economy was largely isolated and self-sustaining. Agriculture was the predominant occupation of the populace and satisfied a village's food requirements besides providing raw materials for hand based industries like textile, food processing and crafts. Besides farmers, other classes of people were barbers, carpenters, doctors (Ayurvedic practitioners), goldsmiths, weavers etc.
In the joint family system, members of a family pooled their resources to maintain the family and invest in business ventures. The system ensured younger members were trained and employed in the family business and the older and disabled persons would be supported by the family. The system, by preventing the agricultural land from being split ensured higher yield because of the benefits of scale. Such sanctions curbed the spirit of rivality in junior members and made a peculiar sense of obedience.
During the Maurya Empire (c. 321–185 BC), there were a number of important changes and developments to the Indian economy. It was the first time most of India was unified under one ruler. With an empire in place, the trade routes throughout India became more secure thereby reducing the risk associated with the transportation of goods. The empire spent considerable resources building roads and maintaining them throughout India. The improved infrastructure combined with increased security, greater uniformity in measurements, and increasing usage of coins as currency enhanced trade.
Under the Mughal Empire
During the Mughal period (1526–1858) in the 16th century, the gross domestic product of India was estimated at about 25.1% of the world economy.
An estimate of India's pre-colonial economy puts the annual revenue of Emperor Akbar's treasury in 1600 at £17.5 million (in contrast to the entire treasury of Great Britain two hundred years later in 1800, which totaled £16 million). The gross domestic product of Mughal India in 1600 was estimated at about 24.3% the world economy, the second largest in the world.
By the late 17th century, the Mughal Empire was as its peak and had expanded to include almost 90 per cent of South Asia, and enforced a uniform customs and tax-administration system. In 1700 the exchequer of the Emperor Aurangzeb reported an annual revenue of more than £100 million. In the 18th century, Mughals were replaced by the Marathas as the dominant power in much of Indian, while the other small regional kingdoms who were mostly late Mughal tributaries such as the Nawabs in the north and the Nizams in the south, declared an autonomy. However, the efficient Mughal tax administration system was left largely intact.
By this time, India had fallen from the top rank to become the second-largest economy in the world. A devastating famine broke out in the eastern coast in early 1770s killing 5 per cent of the national population. Economic historians in the 21st century have found that in the 18th century real wages were falling in India, and were "far below European levels."
Main articles: Economy of India under Company rule and Economy of India under the British Raj
After gaining the right to collect revenue in Bengal in 1765, the East India Company largely ceased importing gold and silver, which it had hitherto used to pay for goods shipped back to Britain. In addition, as under Mughal rule, land revenue collected in the Bengal Presidency helped finance the Company's wars in other part of India. Consequently, in the period 1760–1800, Bengal's money supply was greatly diminished; furthermore, the closing of some local mints and close supervision of the rest, the fixing of exchange rates, and the standardization of coinage, paradoxically, added to the economic downturn. During the period, 1780–1860, India changed from being an exporter of processed goods for which it received payment in bullion, to being an exporter of raw materials and a buyer of manufactured goods. More specifically, in the 1750s, mostly fine cotton and silk was exported from India to markets in Europe, Asia, and Africa; by the second quarter of the 19th century, raw materials, which chiefly consisted of raw cotton, opium, and indigo, accounted for most of India's exports. Also, from the late 18th century British cotton mill industry began to lobby the government to both tax Indian imports and allow them access to markets in India. Starting in the 1830s, British textiles began to appear in—and soon to inundate—the Indian markets, with the value of the textile imports growing from £5.2 million 1850 to £18.4 million in 1896.
The British colonial rule created an institutional environment that stabilized law and order to a large extent. The British foreign policies however stifled the trade with rest of the world. They created a well-developed system of railways, telegraphs and a modern legal system. The infrastructure the British created was mainly geared towards the exploitation of resources in the world and totally stagnant, with industrial development stalled, agriculture unable to feed a rapidly accelerating population. They were subject to frequent famines, had one of the world's lowest life expectancies, suffered from pervasive malnutrition and were largely illiterate.
Pakistan’s population has grown rapidly from around 30 million in 1947 to over 130 million in 1996. The rate of annual growth has averaged 3 percent since 1960.
Pakistan's average economic growth rate since independence has been higher than the average growth rate of the world economy during the same period. Average annual real GDP growth rates were 6.8% in the 1960s, 4.8% in the 1970s, and 6.5% in the 1980s. Average annual growth fell to 4.6% in the 1990s with significantly lower growth in the second half of that decade. See also
During the 1960s, Pakistan was seen as a model of economic development around the world, and there was much praise for its economic progression. The capital Karachi was seen as an economic role model around the world, and there was much praise for the way its economy was progressing.[who?] Many countries sought to emulate Pakistan's economic planning strategy and one of them, South Korea, copied the city's second "Five-Year Plan"; the World Financial Centre in Seoul is modeled after Karachi.
1950s and 1960s: Initial Decades
Between 27 October 1958 and 25 March 1969 under Ayub Khan Pakistan economic growth averaged 5.82% growth during his eleven years in office. Manufacturing growth in Pakistan during this time was 8.51%, far outpacing any other time in Pakistani history. It was the time when Pakistan first got an automobile industry, a cement industry and few other heavy manufacturing industries. However tax collection was low averaging less than 10% of GDP. The Export Bonus Vouchers Scheme (1959) and tax incentives stimulated new industrial entrepreneurs and exporters. Bonus vouchers facilitated access to foreign exchange for imports of industrial machinery and raw materials.
Tax concessions were offered for investment in less-developed areas. These measures had important consequences in bringing industry to Punjab and gave rise to a new class of small industrialists. Land reform, consolidation of holdings, and stern measures against hoarding were combined with rural credit programs and work programs, higher procurement prices, augmented allocations for agriculture, and, especially, improved seeds were introduced as part of the green revolution. However, academics have argued that while the HYV technology enabled a sharp acceleration in agricultural growth, it was accompanied by social polarization and increased inter personal and inter regional inequality.
Mahbub ul Haq blamed the concentration of economic power to 22 families which were dominating the financial and economic life of the country controlling 66% of the industrial assets and 87% of the banking. During the same period there were construction of several infrastructure projects (notably Tarbela Dam and Mangla Dam), including canals, dams and power stations, began Pakistan's space programme.
In 1959 the country began the construction of its new capital city. A Greek firm of architects, Konstantinos Apostolos Doxiadis, designed the master plan of the city based on a grid plan which was triangular in shape with its apex towards the Margalla Hills. The capital was not moved directly from Karachi to Islamabad; it was first shifted temporarily to Rawalpindi in the early sixties and then to Islamabad when the essential development work was completed in 1966.
Economy of East Bengal in Pakistan
Main articles: East Pakistan and Economy of Bangladesh
The partition of British India and the emergence of India and Pakistan in 1947 severely disrupted the economic system. The united government of Pakistan expanded the cultivated area and some irrigation facilities, but the rural population generally became poorer between 1947 and 1971 because improvements did not keep pace with rural population increase. Pakistan's five-year plans opted for a development strategy based on industrialization, but the major share of the development budget went to West Pakistan, that is, contemporary Pakistan. The lack of natural resources meant that East Pakistan was heavily dependent on imports, creating a balance of payments problem. Without a substantial industrialization program or adequate agrarian expansion, the economy of East Pakistan steadily declined. Blame was placed by various observers, but especially those in East Pakistan, on the West Pakistani leaders who not only dominated the government but also most of the fledgling industries in East Pakistan.
1970s: Nationalization and Command Economy
Main articles: Nationalization in Pakistan and Socialist economics
Economic mismanagement in general, and fiscally imprudent economic policies in particular, caused a large increase in the country's public debt and led to slower growth in the 1990s. Two wars with India - the Second Kashmir War in 1965 and the Bangladesh Liberation War in 1971 - and the resultant separation of Bangladesh from Pakistan also adversely affected economic growth. In particular, the latter war brought the economy close to recession, although economic output rebounded sharply until the nationalisations of the mid-1970s. The economy recovered during the 1980s via a policy of deregulation, as well as an increased inflow of foreign aid and remittances from expatriate workers.
According to Muhammad Abrar Zahoor, nationalization of industries was concerned, it can be divided into two phases. The first phase started soon after the PPP came into power and the motivation behind it was distributional concerns — to bring under state control the financial and physical capital controlled by a tiny corporate elite. However, in 1974, influence and authority of the left wing within the party significantly decreased: they had either been marginalized or purged.5 The second phase began in 1974 and the motives and effects of the secondary phase of nationalizations differed from the initial phase. While the first phase was the result of a well thought out strategy motivated by ideological forces, the subsequent phase was the outcome of ad hoc responses to various situations.6 During 1974-76, the style of economic management Bhutto adopted reduced the role of Planning Commission as well as its capacity to offer advice to the political decision-makers. Corruption grew exponentially and access to state corridors became a primary avenue of accumulating a private fortune. In the way, groups and individuals in command of state institutions used public intervention in the "economy as a means for extending their wealth and power."
Bhutto introduced socialist economics policies while working to prevent any further division of the country. Major heavy mechanical, chemical, and electrical engineering industries were immediately nationalised by Bhutto, and all of the industries came under direct control of government. Industries, such as KESC were under complete government control with no private influence in KESC decision. Bhutto abandoned Ayub Khan's state capitalism policies, and introduced socialist policies in a move to reduce the rich get richer and poor get poorer ratio. Bhutto also established the Port Qasim, Pakistan Steel Mills, the Heavy Mechanical Complex (HMC) and several cement factories.However, the growth rate of economy relative to that of the 1960s when East Pakistan was still part of Pakistan and large generous aid from the United Statee declined, after the global oil crises in 1973, which also had a negative impact on the economy.
Economic growth slowed in the wake of nationalisation. This is corroborated by the fact that whereas during 1960s, Pakistan's economy grew on average at 6.8 per cent per annum, during 1970s, growth rate fell to 4.8 per cent per annum on average. It is also true that most of the nationalised units went into loss, because decisions were not market-based. However, rapid economic growth is not the only macro-economic objective of a government. The government has also distributional objectives so as to reduce economic disparities. During 1960s rapid economic growth was accompanied by concentration of resources in a few hands.
1980s-1999: Era of Privatization and Stagnation
Main articles: Privatization in Pakistan and Economic liberalisation in Pakistan
|Periods||GDP Growth Rate↓|
(according to Sartaj Aziz)
(according to Sartaj Aziz)
According to Sushil Khanna, professor at the Indian Institute of Mass Communication, the Pakistani economy under Muhammad Zia-ul-Haq benefited from a number of special factors, both domestic and external. The completion of the long gestation period Tarbela Dam helped unleash an unprecedented agricultural growth, while fertilizer and cement investments undertaken under Bhutto contributed to the industrial growth. Tremendous boost to economic activity was provided by rising worker remittances, which rose to a peak of US $3 billion in 1982-83. In 1982-83, these remittances were equivalent to 10% of the gross national product of Pakistan. Zia also successfully negotiated with USA for larger external assistance, unprecedented in the history of Pakistan. In addition to direct assistance to Pakistan, the United States and allies funneled about US $5–7 billion to the Afghan Mujahedins through Pakistan, providing further boost to the local economy. Similarly, the narcotic trade which gathered momentum in the 1980s strongly supported the service sector of the economy. Under Zia, the economic policies became market oriented. Buoyant remittances and aid eased the foreign exchange constraints on the economy.
As an aftermath of the 1990 general elections, the right-wing conservatives under the leadership of Nawaz Sharif came to the power for the first time in the history of Pakistan. Nawaz Sharif strike the stagflation with full force after forcefully implementing the Privatization and economic liberalization programmes. The stagflation was temporarily ended in the country. However, Sharif's programmes were widely criticized by Pakistan Peoples Party in state media and the growth did not contain the sustainability. The privatization programme under the economic liberalisation programme came with largely surrounded controversies and reckless by Nawaz Sharif to implement his programme.According to the Pakistan Peoples Party, Nawaz Sharif's government arbitrarily fixing the reference prices of the (privatized) state units and ignoring those suggested by the evaluations; though, Sartaj Aziz strongly dismissed the claims.
After returning to power with heavy margins, Nawaz Sharif made several attempts to end the stagflation in the country. Overall, the conditions had been worsened and a year after being elected, Sharif ordered the nuclear tests in a response to India's nuclear aggression. Despite the Asian financial crises in 1997 and Russian financial crises in 1998, and amid economic sanctions in the wake of nuclear tests, the foreign exchange increased to $1.5 billion, the stock market improved and inflation was contained at 3.5% as opposed to 7% in 1993-96. Sharif's second government restored the GDP growth to 3.49% in 1997, tough inflation remains high at 11.80%. Little progress was made by Sharif in 1998, and his reforms only leveled up the GDP growth to 4.19%, while retaining the inflation and unemployment at 7.8%.
2000s: Economic Liberalization, Growth and Re-stagnation
Under Shaukat Aziz's government, the country's national economic growth improved at the rate range by 6.4% to 9.0% a year. All revenue collection targets were met on time for the first time in the history of Pakistan, and allocation for development was increased by about 40%. However, this economical success is attributed largely to debt reduction and securing of the billion dollars worth US aid to Pakistan in return for the support in the US-ledwar on terror. Moreover, despite a series of internal and external distresses, economic situation of Pakistan improved significantly and reserves increased to US$10.7bn on 30 June 2004 as compared to US$1.2bn October 1999. Exchange Rate became stable and predictable; the inflation rate dropped to 3.5% last 3 years as against 11–12% in 1990.
The administration of Yousaf Raza Gillani oversaw the dramatic high rise in suicide, corruption, national security, high unemployment, and without the sustainable economic policies along with compilation of other factors, the country's economy re-entered in the "era of stagflation" (a virtual period that country had seen in 1990s earlier). The Pakistan economy slowed down dramatically to ~4.09% as compared to 8.96%—9.0% presided under his predecessor, Shaukat Aziz in 2004–08; while the yearly growth rate has come down from a long-term average of 5.0% to ~2.0%, though it did not reached to negative level. Calculation performed by the Pakistan Institute of Development Economics, it pointed out that the "nation's currency in circulation as a percentage of total deposits is 31%, which is very high as compared to India", where 40.0% of the population fell under the line of poverty, with 16.0% rise in the inflation during his four years of presiding over the country. The new strict and tight monetary policy could not tame the soaring inflation, it did stagnate the economic growth. One economist maintained that stagflation took place when the tight monetary policy did not encourage the strong private sector to play a key part in growth. Analyzing the stagflation problem, the PIDE observed that a major cause of continuous era of stagflation in Pakistan was lack of coordination between fiscal and monetary authorities.
Since 2013: Privatization and Liberalization
Main article: Nawaz_Sharif § Third_term_as_Prime_Minister_.282013_.E2.80.93_Present.29
Sharif inherited an economy crippled with many challenges including energy shortages, hyperinflation, mild economic growth, high debt and large budget deficit. Shortly after taking power in 2013, Sharif won a $6.6 billion loan from the International Monetary Fund to avoid a balance-of-payments crisis. Lower oil prices, higher remittances and increased consumer spending are pushing growth toward a seven-year high of 4.3 percent in the fiscal year of FY2014-15. Pakistan's GDP growth rate for FY 2012-2013 was down to 3.59% with estimates suggesting that it will only reach 3.65% by the end of 2013 however the government expects to increase it to 5.8% for FY 2014-2015. Business confidence in Pakistan is at a three-year high in May 2014 largely backed by increasing foreign reserves to $10b while it is expected that they will cross $15 billion by mid-2014. Along with that, in May 2014 IMF claimed that Inflation has dropped to 13 per cent compared to 25% in 2008, foreign reserves are in a better position and the current account deficit has come down to 3 per cent of GDP for 2014. Standard & Poor's and Moody's Corporation changed Pakistan's ranking to stable outlook on the long-term rating.
On 5 May 2015, Standard & Poor's revised projections for Pakistan's average real Gross Domestic Product (GDP) growth for 2015 to 2017 to 4.6 per cent from 3.8 per cent and also upped its outlook on Pakistan's long-term 'B-' credit rating to ‘positive’ from ‘stable’. S&P attributes the largely positive projections to diversification in income generation, the government's efforts towards fiscal consolidation, improvement in external financing conditions and performance, and stronger capital inflows and remittances.Forbes on 4 March 2016, termed Pakistan's economy is on track to become an emerging market in Asia. Claiming that Pakistan’s growing middle class, which will expand from an estimated 40 million people in 2016 to 100 million people by 2050 is ket to countries economic prospects. On Jun 19, 2016, Reuters claimed that Pakistani stocks are soaring, improved security is fuelling economic growth and the South Asian nation will be upgraded to "emerging market" status by index provider MSCI.
Pakistan's GDP is projected by the World Bank to grow by 4.5%. In its South Asian Growth report, the World Bank said, "In Pakistan, gradual recovery to around 4.5 per cent growth by 2016 is aided by low inflation and fiscal consolidation. Increases in remittances and stable agricultural performance contribute to this outcome. But further acceleration requires tackling pervasive power cuts, a cumbersome business environment, and low access to finance. " In FY2016, the current account deficit has widen marginally due to increase in trade deficit. Nevertheless, exports are expected to increase only slightly after 2 years of stagnation, as manufacturing continues to suffer under energy shortages and low cotton prices saw only a modest increase. In his 2016 book, The Rise and Fall of Nations,Ruchir Sharma termed Pakistan’s economy as on a 'take-off' stage and the future outlook till 2020 has been termed ‘Very Good’. Sharma termed it possible to transform Pakistan from a "low-income to a middle-income country during the next five years."
On Oct 31, 2016, Standard & Poor's, by citing improved policymaking resulting in improved macroeconomic stability, raised Pakistan's rating to B from B-. It also revised upward its forecast of average annual GDP growth to five per cent over 2016-2019 from its earlier estimate of 4.7 per cent. In response to S&P's upgrade, PSX's benchmark-100 index posted its largest gain in history, increasing 1,406.03 points (or 3.52%) over a single day. On November 1, 2016, hundreds of Chinese trucks loaded with goods rolled into the Sost dry port in Gilgit-Baltistan as the first shipment of China–Pakistan Economic Corridor. On 3 November 2016, the Sharif government announced that Renault is expected to start assembling cars in Pakistan by 2018, a source earlier in May 6, 2016 had told Reuters that Pakistan was under consideration for new production investment. On November 7, 2016, Bloomberg News claimed that the economy is expected to grow around five percent annually for the next three years and claimed that "Pakistan is on the verge of an investment-led growth cycle." On January 10th, 2017, The Economist forecasted Pakistan's GDP to grow at 5.3% in 2017, making it the fifth fastest growing economy in the world and the fastest growing in the Muslim world.
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