BANKS: BLUE EYED BOYS OF FINANCIAL SECTOR

BANKS EARN RS.102.8 BN PROFIT IN JULY-SEP 2007-08

SHAMSUL GHANI (shams_ghani@hotmail.com)
Feb 18 - 24, 2008

State Bank's coy reluctance to discipline the handsome rowdy boys of financial sector ˝ the banks ˝ has made the other economy sectors shrink in traumatic disbelief. Carrying 33 per cent of total market capitalization weight, this segment of financial sector seems taken aback by some recent developments. Supreme court's sue motto action demanding the detail of 54 billion write offs and the State Bank's directive for 100 per cent provisioning of non-performing loans have come as bolts from the blue to the monopolistic swaggerers. As if it was not enough, the aftermath of December 27 tragedy is also staring in their faces. A loss of Rs.1.2 billion caused from looting and burning of 700 bank branches is definitely going to disfigure a few bank balance sheets.

The interest based economy is notoriously known to have bestowed the banks with infinite power to rule the roost. This power ensues from their ability to generate credit based money stock so avidly needed by the growing economies. Huge fiscal deficits require fresh stock of money in the shape of external assistance or national debt blow up. The governments, instead of creating their own money, empower banks to generate credit based money and then borrow from them. This process continues indefinitely making the banks stronger.

Prior to 9/11, our banking sector was struggling in the era of sagging equity values. The economic opportunities created after 9/11 saw our banks flourish in real style. The aggregate bank equity of Rs.500 billion is quoted on stock exchange at Rs.1,738 billions. The last week figures of December, 2007 show total bank assets at Rs.4,829 billions; total bank deposits at Rs.3,566 billions and total bank loans at Rs.2,633 billions. The banking sector has grown due mainly to favorable environment created partly by world events and partly by the controlling bodies who have till recent allowed the banks to operate on their own terms in total disregard of the canons of equity and justice.

Banks Raking in the Profits

Banks' profitability has increased manifolds during the recent past, but their main business partners - the depositors-have been left high and dry. With the each upward revision of discount rate, the banks not only raise their future lending rates but also, swiftly and dutifully, scale up their rates for existing borrowers taking advantage of the floating rate system. A corresponding increase in the rate of return to the depositors never takes place with the result that the bank's spread keeps moving up to the targeted double digit level.

The banks earned an aggregate before tax profit of Rs. 102.8 billion and an aggregate after tax profit of Rs.68.4 billion during the quarter July-September, 2007.

The following table shows the return on asset and return on equity position of banks during two successive quarters of 2007.

TABLE - RETURN ON ASSETS AND RETURN ON EQUITY (%)

BANKS

BEFORE TAX % RETURN ON ASSETS, JUNE-2007

BEFORE TAX % RETURN ON ASSETS, SEPT 2007

BEFORE TAX % RETURN ON EQUITY, JUNE-2007

BEFORE TAX % RETURN ON EQUITY, SEPT 2007

Public sector comm. banks

3.8

4.1

30.4

32.2

Local private banks

3.0

2.9

31.1

29.5

Foreign banks

2.3

2.0

23.3

18.0

Commercial banks

3.1

3.1

30.5

29.7

All banks

3

3

31

30.1

The return on average equity is quite high and at variance with the return from other sectors of economy. It will be observed that local banks are earning a high return as compared to foreign banks.

THE GROWTH SCENARIO

With the constant inflow of foreign remittances, banks deposits are likely to grow at a sustained pace till such time some really drastic change in the geo political situation takes place. With the SBP directive for 100 per cent provisioning for non performing loans, the banksÝ loan portfolio is certainly going to change its contours. The banks have already started to shift their focus from risky business loans to the safer investment in government securities ˝ simply to ward off the danger of losing a sizeable chunk of profits through provisioning under new rules. This factor coupled with the recent discount rate hike will give rise to a credit crunch situation which will be a bad influence on country's economic growth.

The credit growth during the entire year 2007 has been erratic and sluggish. The credit dole-out era is over and the banks have started experiencing difficult recovery situation. The following table shows the non-performing loans (NPLs) position during the two successive quarters of 2007.

BANKS

NPLS TO TOTAL LOANS% JUNE-2007

NPLS TO TOTAL LOANS % SEPT-2007

Public sector comm. banks

8.3

9.1

Local private banks

3.7

6.1

Foreign banks

1.1

1.2

Commercial banks

6.9

6.5

All banks

7.1

7.7

The incidence of non-performing loans is assuming higher proportions. Public sector commercial banks have a high ratio of 9.1 per cent. This ratio in case of local private banks was low in June 2007, but it recorded a jump-increase during the next quarter. A very low non-performing loan ratio in case of foreign banks should be an eye opener for the local bankers who should learn from their foreign counterparts the techniques to develop a good quality loan portfolio. The universally recognized maximum non-performing loans ratio is 5 per cent. Our banks have already stretched this ratio to a high mark of 7.7 percent as of September, 2007. The times ahead might well see this ratio swell a bit more. Switching over from business loaning to investment in government papers is not the solution. The banks will have to learn the art of swimming through the turbulent waters of business and industrial loaning with the minimum possible risk.