Sep 15 - 21, 2008

Commercial banking sector in Pakistan is experiencing a paradigm shift and some radical but often opposite phenomenon seem to be going on, intentionally or unintentionally. This feeling emerges while looking at the ground realities and the regulatory framework being proposed.

Pakistan's financial system has grown rapidly in the recent past. According to the State Bank of Pakistan, total financial assets of the country have reached $175 billion (110% of GDP). The banking system constitutes 95% of the total assets of financial institutions and bank shares constitute 40% of the stock market capitalization.

The banking sector has gained dynamism, profitability, respectability and strength. Deposit base has risen to $60 billion and advances to $47 billion. Supported by growing financial intermediation process, banks aggregate profitability rose to $1.8 billions. Recapitalization and prudent lending has lowered net non-performing loans (NPLs) to below one percent of assets. Banks capitalization and quality of assets have helped in improving the risk weighted capital adequacy ratio to 13.2 per cent.

Commercial banks are de facto moving into conglomerate modes by venturing into other sectors. Some banks have acquired entities like investment banks, brokerage houses, asset management companies and insurance companies, which have either merged or become fully owned subsidiaries of these banks. Conglomerates evolve as banks broaden their product offerings and seek cross-selling opportunities.

Presently, 5 banks and one DFI own shares in insurance companies, 12 banks have interests in asset management companies and mutual funds, and many are involved in other areas like leasing, financial advisory and brokerage services, modaraba management and foreign exchange businesses.

Emerging financial conglomerates present a major challenge for the central bank as the apex regulator. It is often said that financial conglomeration makes good business sense, and that these developments should be regulated but not stifled by regulation.

The main challenges that financial conglomerates pose for regulators are: 1) unless there is strict implementation of sound banking practices, there is a danger that a bank can become a cheap source of finance to the other members of a group without proper recognition and management of the risks involved. 2) Failures elsewhere in the group can expose the bank to contagion risk. 3) Where the conglomerate group includes commercial businesses, there is a risk that the bank depositors end up carrying the residual risk for non-financial businesses.

Keeping in view the emerging challenges the central bank has launched a ten year Financial Sector Strategy. This strategy has been developed based on 1) a comprehensive assessment and evaluation of the banking system, 2) Pakistan's economic development strategy; and 3) learning from the emerging changes in global and regional financial architecture and financial advancement and innovation.

The objective of the financial sector strategy is to broaden and deepen the financial system to help Pakistan: 1) achieve higher and sustainable economic growth, 2) develop a dynamic, robust and stronger system, 3) mobilize the domestic and foreign resources for private investment, and 4) deepen financial penetration for poor and underserved regions.

In Pakistan the level of financial exclusion is very steep as only 17% of the population (30 million) has bank accounts and less than 4% (5.5 million) are borrowers. Moreover only 25% of the total bank deposits and 17% of the total borrowers are from rural areas. In value terms their shares are even smaller, 10% and 7% of the total value of deposits and advances, respectively.

Limited access to banking services is mainly due to the low level of branch penetration, especially in rural areas. This has held back the growth of savings and impacted credit distribution system. To address this issue the central bank has developed a comprehensive Financial Inclusion Program that aims at promoting access to development finance for all small and underserved markets.

In Pakistan's context there is need to encourage shift in banks' focus away from large companies to smaller companies and the household sector. Most credit to the enterprise sector goes to manufacturing, which receives a disproportionately large share of bank credit compared with this sector's contribution to GDP (20%). Aggregate data for all credit by borrower size shows an extremely skewed distribution: 22,000 or 0.4% of all 5.2 million banks' borrowers account for 65% of all bank credit-and the remaining 5 million borrowers for the remaining one third. At the very top there is even more concentration; the largest 50 borrowers account for 37%1 of all credit outstanding. Given that the manufacturing sector is the predominant recipient of credit, it is safe to assume that most of the large borrowers are concentrated in that sector.


The central bank had set an indicative credit disbursement target of Rs 250 billion for agriculture sector for the current fiscal year. The banks have played a significant role in surpassing the target set for the last fiscal year. During 2007-08 banks extended Rs 212 billion to the farming community which was 25% higher than the target of Rs 169 billion.

The sector-wise agriculture credit disbursements during the last fiscal year showed diversification of the credit to non-farm sector as its share in the total credit disbursement increased. Similarly, recoveries of agriculture loans have shown significant improvement during last financial year as banks recovered 92% of their recoverable amounts.

The recently developed crop loan insurance scheme would be implemented from this Rabi crop. To facilitate small farmers, the government has agreed to share the premium cost of subsistence farmers.

The initiative would facilitate government efforts to alleviate poverty and also increase access to credit to rural/ farming community, besides banks can contribute to enhancing agriculture credit disbursement through a network of microfinance institutions.


Lately, the central bank announced raising the minimum capital requirement for all banks and development financial institutions (DFIs) to Rs 23 billion to push the sector for consolidation and to encourage a second-round of mergers and acquisitions. The central bank has also increased capital adequacy ratio to 10%. The foreign banks operating in Pakistan will also be required to increase their assigned capital to Rs 23 billion (net of losses) within the prescribed timelines. According to new requirement banks would have to raise their capital to Rs 23 billion by end 2013 in phases.

It is believed that raising minimum capital requirement would help the banks in reorganizing branch network. This demands different strategies for urban and rural areas. Increasing branches in the urban areas may be not be necessary because of introduction of 'branchless' banking. The banks have already invested huge amounts in technology and creating 'information highway, which is being used by all the banks. One such example is ATM network.

As of 30th June 2008 the number of online branches was about 5,300 and number of ATMs exceeded 3,100 in the country. Using these machines account holders conducted more than 19 million transactions amounting to about 130 billion rupees. This clearly shows that account holders are exploiting technology advantage. However, these facilities are confined to big cities because people living in the rural areas really cannot take advantage of these facilities due to low level of literacy and also lack of such facilities in these areas.

Keeping the situation in the urban areas in view the commercial banks, as per approved plan, would open 600 branches during 2008, out of these 120 would be in the rural areas. Some of the critics are of the opinion that opening large number of branches may not be a prudent approach. To some extent they are right because in the past banks had opened large number of branches, which had to be closed down as they were not profitable.