Jan 28 - Feb 03, 2008

Credit supply to private sector took a nosedive during 2007 creating doubt about the economic growth at the desired rate of over seven per cent for 2007-08. The growth in private sector credit was broadly not in line with last two years comparable period figures and growth rate remained at 12.2%. A marked slowdown was evident not only in corporate loans but also in consumer financing and other areas. Credit off-take was below Rs356.3 billion at the end of the fiscal year, against the target of Rs390 billion. SBP sources say private sector credit growth in FY07-08 is likely to improve but will mainly reflect convergence to its long term trend, relative to the surge observed in FY05-06 due to several years of pent up demand and need for investments in BMR by the industry.

In FY07, the credit growth did not support the growth in real economic activity. The private sector was not rolling over their seasonal bank credit as fast as in the past. Banks also experienced retirement of credit by large borrowers who did not seek fresh credit later on. However it is expected that private sector credit disbursement this year will raise and hold up economic activity. Private sector credit is expected to pick up in second half of FY08 as investors launch the pending projects and various IPP (Independent Power Producers) projects are also in pipeline involving investment of around Rs100-120 billion. There has been a general agreement that the private sector credit has been impacted, among others by (i) banks adopting cautious lending stance given the experience with loan defaults in some sectors; and (ii) mergers and acquisitions have required banks to focus on restructuring, while adjusting their portfolios and rationalizing their branch network. However, banks after their restructuring and upgradation of credit policies and risk management systems are expected to be positioned better for credit delivery in the coming years.

Private sector credit has been classified into following sub sections and explained in detail.


The mightiest profit margins of banks are realized in consumer financing activities, which range somewhere between 16-22 per cent and in some cases, like credit cards, can go even higher. During 2007 consumer loans also experienced sharp decline mainly due to higher interest rates. During first half of the year 2007 consumer financing expanded just 15 per cent compared against 34 per cent during the same period in 2006. And within consumer loans portfolio, car loans showed the sharpest fall in growth rate from 44 per cent to 10.2 per cent. Bankers are of the view that the downward trend in auto financing, which is partly due to higher prices of automobiles, might be compensated by a faster growth in personal loans and housing finance. The Middle Eastern countries, walling in cash on the back of oil prices boom are capitalizing the opportunities of unsaturated mortgage market and have started taking up big town housing and land development projects in Pakistan. That might spur demand for housing financing during this fiscal year and beyond.

Another major component of consumer financing is credit card business. But apparently there is little scope for boosting it. In FY07 the growth rate of credit card business fell to 27 per cent from 68 per cent in the year-ago period. Bankís mark-up including hidden charges on credit card business ranges between 24-30 percent and in certain instances even more. This high mark-up is the biggest impediment to growth in this business.

There are many reasons for a sharp decline in consumer loans. The number one is a rise in interest rates. Weighted average lending rate has been close to 11.29 per cent in 2007 from 10.40 per cent in 2006. Accordingly, the effective interest rates on consumer loans shot up, thus shrinking the demand for these loans. Cost ineffectiveness compelled middle income groups stop servicing their car loans or other personal loans. This shook confidence of others around them to seek consumer loans. In some instances people who had got cars on bank loans transferred the lease documents to others after they failed to service high-priced loans. Thus, fresh demand for auto loans was met but the volume of loans and the number of borrowers remained intact.

During July-March FY07, disbursement of auto loans declined to Rs7.6 billionóor about one third of the Rs23.2 billion loans distributed in July-March FY06. Apart from high interest rates and low demand for local and imported automobiles, increased prices of domestic cars and higher insurance charges also led to decline in demand of consumer credit. In addition, the slowdown in consumer loans was also a natural reversal of very high growth in these loans in the last two fiscal years. In July-March FY05, consumer loans had grown 70 per cent and in July-March FY06 they still grew 32 per cent.

Another reason for a fall in consumer loans, loans is that from 2006, banks started establishing borrowing limits for their clients after netting their aggregate take-home income by the total financing availed from other banks. Moreover, the SBP’s guidelines issued to curb the misuse of personal loans in speculative activity in the real estate and the stock market also slowed down disbursement of these loans. These guidelines ceased banks from financing premiums on car deliveries; required them to offer housing loans against a construction schedule and barred subscription of Initial Public Offerings from personal loans. Disbursement of housing loans also remained a bit slower but it was somewhat on track if compared with previous financial year. It is expected that since international investors are venturing into building new housing schemes, housing loans would pick up in the next fiscal year. Besides, as the interest rates may not rise, as fast in the next fiscal year as this year, that would likely spur the demand for auto loans and other consumer loans as well. In the next fiscal year, interest rate increase would be modest, as the policy makers are likely to contain inflation more by raising food supplies and less through monetary tightening. As far as credit card business is concerned bankers admit that credit cards business fell due to very high interest rates and poor post-selling services. If interest rates remain stable and banks improve after-sale services, the business would increase in the next fiscal year or at least remain intact.


In the year 2006-07 the growth in corporate loans remained low but agricultural loans experienced growth at a reasonably high rate. The main reason for a faster growth in farm loans is that the Zarai Taraqiati (Agricultural Development) Bank has re-emerged as a strong lender. And other banks also have started lending more to the agricultural sector to earn higher returns. In the FY 2005-06, ZTBL disbursed Rs56 billion farm loans against the target of Rs48 billion. Overall agri lending at Rs168 billion also burst through the target of Rs160 billion. Farmers have been borrowing more during this fiscal year mainly because the recent floods ruined them financially. Due to the loss of standing crops in the recent floods, farmers need money immediately for sowing other crops or for saving the standing ones from being completely ruined. Banks were charging a minimum of 13 per cent mark-up on agricultural loans in the last fiscal year and pleaded that the rate should be lowered to help the floods-affected farmers but the mark-up remained unchanged. The reason is that agri loans run the highest risks of defaults. Besides, the cost of disbursing agri loans is pretty high.

During 2006, non-performing agri loans constituted 18.5 per cent of the overall NPLs of the banking system. This denominated a very high default ratio because the share of agri loans in bankís overall lending was slightly less than six per cent


State Bank of Pakistan announced first ever policy on Small & Medium Enterprises (SMEs) which is likely to lead to increased lending to this sector. The SME policy was given on August 15 envisages spending of Rs13 billion till 2009 for the promotion of SMEs and setting up of small business development centers in six major cities. These centers would improve supply of the skilled workforce for SMEs.

There is a huge potential of lending to SMEs because not only their current share in overall lending is low but also because SMEs operations are growing pretty fast. At end-December 2006 SMEs share in overall bank loans waswere 17 per centóalmost one third of the 53 per cent share of corporate finance. Like agriculture, SMEs also provide an ideal opportunity to banks to earn higher interest rates. They are currently lending funds at 12-16 per cent to SMEs.


Textile companies including bed-wear manufacturers have minimized borrowings from banks. They are keeping bank credit to bare minimum because of rising interest rates. This is truer in case of sub- sectors of the textiles whose exports are falling. Pakistanís textile exports grew only 5.3 per cent in the last fiscal year but exports of bed-wear declined four per cent. Exporters link their poor performance partly to high interest rates and the fear that the recent tightening of monetary policy would hit them even. The incentives announced by SBP to encourage banks to raise long-term deposits and the streamlining of foreign currency financing procedures would also enable corporate borrowers to tap alternative avenues at lower costs.

But business leaders say and bankers directly involved in credit disbursement confirm that private sector credit is not picking up. Expensive bank credit has forced many businessmen to borrow less. There are several other reasons for a fall in the private sector credit. Large-scale manufacturing is not growing fast; weaker textile spinning mills are closing down; expansion work in textile sector has almost stopped and input cost of various industries for production has begun to shrink for a host of reasons.

On bankís part, the reasons for a slowdown in private sectorís lending are manifold. In addition to higher interest rates and reduced appetite for bank credit in textiles, sugar, cement and other industries, a higher-than targeted borrowing by the government also squeezed flow of credit towards the private sector. Between July 1, 2006-May 19, 2007 the government sectorís borrowing for budgetary support totaled Rs212 billion, exceeding the full fiscal year target of Rs120 billion. This factor crowded out the private sector, borrowing.

With gradual tightening of the monetary policy, the return on banksí investment in treasury bills has increased. Average yields on the bills are now as high as nine per cent for three months; 9.14 per cent on six months and 9.40 per cent on one-year. These are good returns on the most secured risk-free investment. (Average lending rate of banks stood at 11.33 per cent at the end of June 2007).

Bankers involved in credit disbursement beleivebelieve that the demand for corporate credit may remain depressed till June 2008 before the announcement of the new monetary policy. But it would happen not only because of high interest rates. Actually interest rates would only crawl up in response to the tightening of the monetary policy. Besides, the inter-bank market is liquid to allow any big increase in lending rates. Private sector credit has declined not only due to high interest rates and crowding out by the government but also because of other factors. These include private sectorís increased borrowing from non-bank financial institutions and foreign bonds and its enhanced use of retained earnings. Besides, internal restructuring of large privatized banks and acquisitions and mergers in the banking industry also extended the time lag between loan approvals and actual disbursement of loans. Although overall private sector credit flow remained subdued in 2007, some sub-sectors witnessed robust growth. Manufacture of food items, for example, consumed bank credit of Rs30.1 billion, up from Rs16.9 billion in a year-ago period. Likewise, borrowing for manufacture of iron and steel rose to Rs7.9 billion and borrowing for manufacture of domestic appliances to Rs6.9 billion against Rs3.4 billion and Rs1.4 billion respectively. Private sector credit to electricity, gas and water supply sub-sectors shot up to Rs12.3 billion in July-March FY07 from Rs2.4 billion in July-March FY06. Bank credit for transport and communications also jumped to Rs13.9 billion from Rs5.7 billion. And borrowings of petroleum refining sector shot up to Rs5.4 billion in nine months to March 2007 from a net retirement of Rs0.2 million in a year-ago period.

Even within the textile sector whose borrowings from banks fell drastically, borrowing for manufacture of wearing apparel rose to Rs8 billion from Rs1.4 billion. The borrowing for overall manufacture of textiles, however, slumped to Rs21.6 billion in July-March FY07 from Rs69.5 billion in July-March FY06. The slowdown in the private sector credit had a dampening impact on the performance of the large-scale manufacturing which grew 8.8 per cent in nine months of this fiscal year, against 10.7 per cent in the same period of last year.


In FY08, private sector credit seems to gain its lost momentum broadly for two reasons. First, large privatized banks that collectively control 35 per cent of the total advances market would accelerate loan disbursement after completing their internal restructuring.

And secondly, companies would have to borrow more from banks after using up their retained earnings. If the efforts to revive the textile sector bear fruitsóand chances are they would, there would be increased credit demand from textiles as well. Moreover, as the government is likely to offer incentives for encouraging exports in the non-conventional sectors, the borrowing appetite of these sectors would rise.

The State Bank has identified chemicals, agricultural products, seafood and fruits as the items whose growth potential in export is enormous. It has also identified office and telecom equipment, machinery, automotive products and pharmaceuticals as other items whose export market is expanding fast. In the next fiscal year, the private sector credit is expected to increase also because the government is expected to reduce its bank borrowings and increase non-bank borrowing. The government will do this primarily to help the central bank achieve the inflation target of 6.7 per cent, after failing this year in keeping inflation within the target.