Apr 20 - 26, 2009

The overall profitability of commercial banks (24 banks as financials of Bank of Punjab are not available) for the year 2008 shows a decline of 24% to Rs50.64 billion as compared to Rs66.89 billion in 2007. This was mainly due to provisioning against non-performing loans and advances, impairment cost, and administrative expenses.

Provisioning against non-performing loans amounted to Rs62 billion for 2008 as compared to Rs50 billion for 2007. The increase in provisioning was due to hike in interest rates. The State Bank of Pakistan provided the benefit of 30% forced sales value to banks for 2008.

Nine out of 24 banks posted loss after tax for the year 2008. NIB bank posted huge loss of Rs7.47 billion for 2008 as compared to loss of Rs0.48 billion for 2007. Non-performing loans of NIB skyrocketed to Rs8.83 billion as compared to Rs1.49 billion up by 491%. Other losses were of Saudi Pak Commercial Bank (Rs2.01 billion), Atlas Bank (Rs1.01 billion), KASB (Rs972 million), Samba (Rs742 million), RBS (Rs517 million), Mybank (Rs350 million), Arif Habib Bank (Rs191 million), and BankIslami (Rs52 million).

Combined balance sheet of 24 banks as on December 31, 2008 did not show a significant growth over last year. The total deposits of the banking sector increased by 10% to Rs3.84 trillion for 2008 as compared to Rs3.49 trillion for 2007.

Net advances posted growth of 18% to reach Rs2.81 trillion as compared to Rs2.37 trillion. In addition, net investments reflected substantial decline due to volatile situation. Investments came down by 12% to Rs1.01 trillion as compared to Rs1.14 trillion. Total assets size of the industry augmented by 9% to Rs5.01 trillion as compared to Rs4.59 trillion during this period.

Tenor of deposits continued to show gross mismatch with advances. Over 90% deposits of banks were of less than one year maturity. In the absence of DFIs in the country commercial banks have become a key source for medium term financing. They are undertaking this business mostly under leasing. The low cost of big banks due to very low cost of funds and greater outreach allows them to benefit from substantial spread. According to banking sector experts, despite many odds the spread still remains above 7%, which is very high as compared to regional and global average. This must be kept in mind that banks enjoy this spread despite very huge administrative expenses.

One of the reasons for the reduced profit of the banks was huge impairment cost due to the excessive investment in equities market. It is estimated that investment of some of the banks in equities market has been around 20% of the shareholders equity. Some of the experts have been demanding hike in permissible limit to provide support to the bearish equities market, while others have been resisting this mainly because in India this limit is as low as 5%. The proponents of this policy say that commercial banks already have substantial stake in equities market mainly because they are often the key sponsors of mutual funds.

As the private sector credit demand is on the decline and government's borrowing is on the rise, commercial banks found investing in Treasury Bills high yielding as well as more secure. Fearing decline in discount rate, banks are funding in six and twelve month tenor. Some analysts often say that average yield on treasury bills is still lower than the discount rate, which does not bode well. However, they forget that approaching discount windows is only to meet short term requirement. Such banks approach discount window only in distress and not in routine, because the treasuries are required to manage the funds in the best possible manner.

The average spread of banking sector is still above 7%, despite mandatory requirement to pay 5% return to the depositors. The banks have found ways and means to contain such mandatory payment by changing terms from average daily balance to minimum balance. It is also being expressed that in case the central bank reduces the discount rate, banks would demand withdrawal of mandatory payment.

Until recently, yield on 6-month Treasury Bills was used as benchmark. However, it has lost some relevance because now banks follow Kibor plus lending approach. The recent outcome of Treasury Bills has created some confusion because there is a deliberate effort to de-link treasury bills yield from interest rate. Now the ministry of finance, instead of the central bank decides size of auction as well as the cutoff yield. This policy is being followed to separate debt management from monetary management. However, it will take some time to understand the implications of the new policy.

It is evident that the impact of high interest rates has been adverse on the commercial banks. Not only that private sector credit off-take has declined but delinquent loans are on the rise, the worst hit is the consumer banking segment. Reducing of car sales to nearly half as compared to the previous year has adversely affected auto financing business. The banks have also become overcautious and are avoiding consumer-financing under one or the other pretext. Now average rate for auto finance hovers around 20%.

Another key reason affecting profitability of banks is steep rise in administrative expenses. Many analysts fail to understand this phenomenon because now most of the services are provided at very high cost, worst being deductions for not maintaining minimum balance. It is interesting to note that while most of the banks have fixed a minimum balance requirement of Rs10.000 some of the banks have no minimum requirement. This condition must be abolished at the earliest to encourage small savers to keep their money in the banks.