View from Islamabad: Market will not be able to ignore Islamic groups

The Pakistani stock market has given its immediate verdict on last Thursday's elections. Share prices on the Karachi Stock Exchange tumbled by more than three per cent on Friday in a visible disapproval of the election results.

For many analysts, the large scale and unexpected victory of Islamic groups may well put Pakistan at odds with the western world, as the Bush administration continues to flex its muscles in the build up to an attack on Iraq.

The leaders of Pakistan's Islamic coalition who now have the opportunity to taste power in an unprecedented way, having won clear control of one of the four provinces, with major influence in another province and the centre, are determined to press ahead with their call for an immediate end to the country's support to the so called war on terror.

General Pervez Musharraf, Pakistan's military ruler, is indeed in a fix, now having to respond to fears that Islamic groups would influence official policy significantly. Just as there are no easy answers to Pakistan's political predicament, so too, there are no easy answers to the dilemma facing equity investors.

The Karachi market has been the best performer among the world's emerging markets, having risen by almost a staggering 60 per cent this year. Part of that lift has been driven by the appreciation of the rupee which has risen almost nine per cent since last year's terrorist attacks.

Those attacks prompted many Pakistanis with money parked in offshore accounts to send it all home, rather than risk being faced with the fear of getting caught in investigations linked to terrorist financing.

Consequently, the spectacular rise in Paki-stan's liquid foreign currency reserves which at more than $8 billion are the highest ever witnessed, has been partially helped by the fast rise in remittances from Pakistanis with money parked abroad.

However, the market's future must ultimately be driven by two important considerations. First, despite the assurances from senior government figures over the continuity of economic policies, much depends on how issues such as the future of banking emerge in Pakistan.

For years, Islamic groups have lobbied in favour of Islami-sation of the economy, ending practices such as interest-based regimes in banks and their replacement by Islamic banking practices.

However, Pakistan's financial community and investors in the past have had many misgivings over ways in which such Islamisation could take place. Many believe that a switch to an Islamic system of banking, which is likely to be opposed by international financial institutions, would also send unprecedented jitters across the stock market.

Second, much now depends on the future of Pakistan's political environment in a way which is fundamentally different from the regime as it existed before last week's elections.

For the past three years, General Pervez Musharraf has remained in charge of Pakistan, driving all important aspects of policy without any challenge. To a large extent, the past environment suited many investors who did not have to worry about the implications of embracing change.

But now, with a new political environment well underway, it would be difficult for investors to ignore the complexities of Pakistani politics. Statements from individual members of parliament as well as political groups, no matter how impractical in real life, would set the pace for the market's trends.

The alliance of Islamic groups which are now the third largest force in the new parliament have a unique chance to make waves in an unprecedented way, even if their words do not translate in to policy choices.

In the new environment after elections, the Karachi market may well find it tough to ignore what many previously looked upon as largely peripheral political groups.