In the declining interest rates scenario people
with small savings are very upset. Retired people and widows who have
been investing in various products offered by National Savings Scheme
(NSS) are feeling the brunt. The government has promised to offer
specific products for these disadvantaged groups. However, the
investment by nouveau riche in NSS has forced the government to review
its earlier decision. Till the government come up with a plausible
solution, the disadvantaged are expected to continue to suffer.
Until recently the average lending rates were high
because the GoP was the biggest borrower. Due to huge budget deficit,
heavy load of internal and external debt and ever-increasing
debt-servicing requirement, the GoP was forced to borrow at very high
interest rates. The level of uneasiness could be gauged from the fact
that at one time the cutoff yield on treasury bills went up to as high
as 12.75% per annum. It looks colossal when compared with the yields
being offered at present.
The exceptionally high return offered on government
securities, also offering the least risk, inculcated the negative
psyche in management of commercial banks. Instead of lending the funds
to industrial and commercial entities, the banks chose to invest in
government securities. To the extent that even at present, bulk of
their investment is still in these securities.
As the situation changed in the post 9/11 era and
government became lesser dependent on borrowing from commercial banks,
the interest rates started declining. With the improvement in foreign
exchange reserves, reprofiling of external debt and reduction in debt
servicing charges, the GoP also started retiring its expensive debts.
With the reduction in the GoP's appetite for borrowing, the central
bank also expressed its determination to bring down average lending
rates in the country.
While there was pressure on commercial banks to
bring down lending rates, they decided to curtail return on deposits
much sharply as compared to the reduction in average lending rates. At
present, the average return on deposits range from 1.5% to less than
5%, depending on the tenure, but average lending rates are still as
high as 8-10 per cent per annum. Depositors, particularly the smaller
ones, often complain about the disparity between borrowing and lending
rates of the banks. There seems to be no justification for keeping
spread (the difference between borrowing and lending rate) so high.
According to banking sector experts there are two
reasons for the higher spread. First, the nationalized commercial
banks are still carrying a heavy load of non-performing loans, they
need a thicker cushion to ensure appropriate provisioning. Second,
listed banks are busy in expansion and consolidation and need extra
funds. Therefore, it may not be wrong to say that while commercial
banks are cleaning their slate, expanding and upgrading their
infrastructure, depositors are being deprived of modest return. The
employees and shareholders are also benefiting from the growth of
The brunt becomes more pinching when commercial
banks distribute fabulous dividend among the shareholders and pay only
a meager return to depositors. According to a disgruntled depositor,
"The real money comes from small depositors running into
billions. The so-called large depositors are also the biggest
borrowers. While the banks are never tired of lending money to the big
fishes, the prudential regulations and collateral-based lending does
not allow small depositors to borrow even a penny from the
Another depositor says, "Looking at the
pathetic rate of return on deposits, I do not wish to keep my money
with any of the banks. However, I am forced to keep my money in a bank
due to precarious law and order situation. Therefore, I do not
hesitate for a second in saying that commercial banks take the fullest
advantage of the disadvantageous position of smaller depositors. The
bank employees get handsome salaries and maximum fringe benefits,
which often eats up bulk of the income of most of the banks. I would
not name the bank, but I was surprised when I found out from its
Annual Accounts that operating expenses ate up almost the entire
income. I believe, this is not fair either with the depositors or the
However, management of banks have their own
rationalization for paying return that doesn't commensurate with the
inflation rate in the country. The copy book reply is, "The
banking system in the country is going through a transitory period. We
are moving away from stand-alone branches to online banking and have
started offering a host of other banking related facilities. This
could not be achieved without making substantial investment in
technology and improving branch infrastructure. Therefore, operating
expenses seem to be on higher side. However, we are making the best
efforts to bring the mediation cost. The cost cannot be brought down
overnight because banks are still carrying the load of expensive
A large number of the depositors doesn't accept
this rationalization. They say, "It may be true that some of the
banks have invested heavily in technology and also succeeded in
improving the quality of services they offer, but the excuse of higher
mediation cost is totally unacceptable. The banks, particularly
nationalized commercial banks have billions of rupee in deposits,
which are cost free. The sole reason for their inability to pay a
modest return to depositors is heavy load of non-performing loans (NPLs).
The load of NPLs is the result of reckless lending in the past, either
due to political pressure or corruption. While only a few have
benefited, masses are still paying the cost through their noses."
According to a banking sector expert, "One of
the prime reasons for poor rate of return on deposits is the
prevailing psyche of management of commercial banks. They continue to
earn, whatever they could, from investing in government securities.
They are either shy or afraid of investing in other lucrative
investment options. It may be true that investment in government
securities is virtually risk free, but it is not the only option. If
banks start playing proactive role in exploring new options their
income can improve and they can also distribute improve return on
deposits. However, to do this they have to take pains for which no one
seems to be ready."
A closer look at the profit and loss statement of
commercial banks show that only those banks have succeeded in
improving their income where management took the initiative of
exploring new options. Some managed to increase their profit by
improving fees-based income and others by increasing their exposure in
equities market. Increase in fee-based income could only be achieved
by offering prompt and superior quality services and return on
investment in equities could be improved by hiring the new expertise.
However, the most disappointing fact is that despite improved income
these banks were not ready to offer better return to depositors.
According to a banking sector expert, "Despite
improved profit the banks are not ready to improve return on deposits.
The unwillingness seems to be due to 1)
they don't want to receive more deposits and 2)
their perception that the earning from fees-based services and
investment portfolio are more like windfall." However, such
thinking is not only highly unprofessional but also shows the lack of
their confidence in their own capabilities and the strength of
According to a seasoned banker, "Despite such
a large influx of funds in the banking system, we are not sure how
long the money will stay in the system. First, the amounts may be huge
but the period for which they stay in accounts are highly
unpredictable. Second, it is often not possible to find where the
large withdrawals/transfers go. It is often said that the funds are
going to equities market or real estate markets but no one can say
about the ultimate destination with full confidence. The quick and
large deposits and withdrawals do not allow the management to make
long-term commitments. Therefore, despite improvement in the bottom
line, banks are not willing to increase return on deposits."
THE GOP POLICIES
There is general complaint that masses are not
benefiting from huge foreign exchange reserves or current account
surplus. Some of the economists have been suggesting that the elected
government should come up with some 'popular policies' and initiate
dispersion of funds at concessional rates to those who cannot borrow
under the prevailing prudential regulations. However, they tend to
forget the colossal damage caused to commercial banks by 'Yellow Cab'
and 'Green Tractor' schemes.
The banking sector experts strongly believe that
the successive governments in Pakistan have often misused depositors'
money. The nationalized commercial banks were often used to provide
employment for 'party supporters and favorites', loans were extended
as political bribe and bankers were forced to create economic
justification for lending to an unviable business or industrial
project. These practices not only caused damage to the financial
health of these institutions but also proliferated corruption among
the professional bankers.
Yet another blatant misuse of depositors' money was
utilization of foreign currency deposits by the successive
governments. When economic sanctions were imposed on Pakistan in May
1998, the then elected government of Mian Mohammad Nawaz Sharif froze
the foreign currency accounts fearing massive withdrawal. The fact was
that the various governments have already utilized bulk of these
deposits and the only face saving was to freeze these accounts. The
freezing of foreign currency accounts has caused the worst damage to
depositors' confidence in local banking system.
The lack of confidence in banking system is also
exhibited from the nature of deposits maintained with the banks, bulk
of these comprise of short-term deposits. The very nature of deposits
does not allow the banks to make any long-term commitment. While the
bankers attribute the present situation to lack of confidence of
depositors in banking system, depositors have their own reasons for
not depositing funds for longer tenure. The worst complaint is,
"Banks thrive on small savings but offer hardly any regard to
this 'pressureless' group. The latest attempt to keep the small
depositors away from banks is the imposition of service charges for
not maintaining the stipulated minimum balance in the accounts."
The other common complaint is that banks are
penalizing the depositors under the grab of 'use of technology'.
Depositors are pursued to acquire ATM/Debt Cards offering tremendous
convenience. These cards can only be acquired at cost and there is a
fee for each transaction. The fact is that banks want to retain money
for as longer a period as possible but at the same time do not like
accountholders visiting branches for withdrawal of small amounts.
Accountholders are also told to use an ATM of a network, in case they
cannot find a dedicated machine in close proximity. However, very few
people know that they pay Rs 15 per transaction being the service
charge for using the network machines.
Many disgruntled depositors have started looking
for new options to earn a modest return on their life savings. During
the last couple of years lots of funds have found their destination in
equities market. Some investors have made a killing (unbelievable
profit) but many have lost their entire amount. Lately a lot has been
propagated about the benefits of investing in equities. However, it is
regrettable that all those who have lost the money read the first line
of the story and never bothered to know about the potential pitfalls.
Depositing the amount in a bank for a specified
time period is very simple but picking up the right scrip is an uphill
task. While it is said that return on equities, at present, is far
higher than the return on deposits it may prove totally incorrect if a
wrong investment decision is made. Most of the time investment
decisions go wrong because these are based on partial information or
inadequate homework. For example, a credible dividend payment record
does not provide a guarantee that the company would not incur loss in
future. The dividend pay out percentage without looking at quoted
price is totally meaningless.
Investing in equities demand reasonably good
knowledge about the company, the sector or industry, the company
belongs to, management and above all dividend payment ability of the
company. Since it is almost difficult for an individual investor to
acquire so much information, investors normally look towards a
brokerage house enjoying integrity and credibility. The common saying
is that the investor must consult more than one broker but should
always make his/her own decisions.
Some investment advisors are of the view that small
investors should not invest directly in shares of companies. Since the
amount is small, an individual can buy shares of one or a couple of
companies. In case the said company faces any problem the entire
investment can be at stake. They suggest that small investors should
preferably invest in shares of mutual funds. The mutual funds are
managed by professionals and have a diversified portfolio. Therefore,
these are better hedged against market volatility, poor performance of
one of few companies can continue to pay dividend even in difficult
For people enjoying larger amounts at their
disposal, they suggest maintaining a diversified portfolio comprising
of equities and fixed income securities (term finance certificates).
The underlined caution is that investors should not fall pray to
traders' modus operandi. Traders normally buy/sell shares on
speculation. The investor should chose scrip only on the basis of
economic fundamentals and earnings potential. Another advice is that
investors should only buy shares that are registered at Central
Depository Company (CDC) and should also maintain their Investor
Account with the depository.
Equities may offer attractive yield but till such
time investors develop the required expertise, depositing money with
banks would continue to be a preferred choice. Therefore, banks should
follow what they have been preaching to depositors, "one should
not discontinue banking during good days".
It may be true that banks are sitting on tonnes of
deposits but should not follow the policy of discouraging the small
savers to keep their money in banks. It is heartening to note that
central bank has now made it mandatory for the banks to lend certain
percentage of their total advances to agriculture sector, small and
medium enterprises and also being pursued to actively participate in
consumer finance and housing finance.
Auto leasing, consumer finance and loans for
purchase/construction of housing units are normally provided at
interest rates ranging from 8-12 per cent per annum. Whereas,
depositors are being paid around 1.5 to 5 per cent return annually.
This shows that the spread is very high. Therefore, if the banks
reduce their investment in low yielding government securities and more
actively pursue consumer and housing finance they can improve their
earnings and also afford to pay higher return to depositors.
The successful experience of some of the banks
making investment in equities and term finance certificates suggest
that other banks should also develop their investment portfolio and
expand, if they already have. However, it is a rather tricky business
and may lead to loses if the person heading investment portfolio
management also starts trading in his/her account. Though, monitoring
is difficult but one thing can always be ensured that he/she does not
'park' the bad investment in bank's portfolio.
Last but not the least, the management must not
discourage people from keeping their money with the banks. They should
rather try to expand their advances, develop and expand investment
portfolio to earn higher return on the deposits available with them.
Once upon a time the job of development officers, working for a bank,
was to solicit new deposits. Their new role should be to increase
lending by the banks. However, no bank should indulge in reckless
The ongoing phenomenon of mergers and acquisitions
in banking sector is best explained by Aquib Memboob Elahi, Head of
Research, ADK Securities. He said' "We expect the death of
commercial banks as we know them and bid welcome to 'financial
supermarkets'. The concept of financial super markets is not the
brainchild of Aquib. Mohammad Ali Khoja, Chairman, PICIC is the
pioneer of this concept. Following this strategy PICIC took over Gulf
Commercial Bank, established Leasing Division within PICIC and
acquired management control of some of the ICP mutual funds. Others
following the strategy are Pak Kuwait Investment Company, Khadim Ali
Shah Bukhari & Company and Faysal Bank. The concept has already
been accepted and yielding positive results. It is expected to further
proliferate to achieve greater synergy. More mergers and acquisitions
are expected in the days to come.