Jan 26 - Feb 01, 2009

It is often said that commercial banks in Pakistan enjoy around 7.5% spread. It is mainly because over the years there has been persistent increase in lending rates but no corresponding increase in return to depositors. When banks paid no heed to the demands of depositors, the central bank had to intervene and make it mandatory for the commercial banks to pay a minimum return of 5%. However, the methodology for calculating the return was left at the discretion of the banks and the result was payment of disappointing low return to depositors, when compared with the average lending rates.

In an attempt to contain inflation in the country, till recently the central bank under the guidance of Dr. Shamshad Akhtar had been following stringent monetary policy. The single line agenda was to follow persistent hike in interest rates. While the policy failed in containing inflation, it certainly added to the delinquencies. On top of this hike in yield on treasury bills also encouraged the banks to invest in government securities rather than extending credit to the private sector.

In the recent past banks were least interested in improving return on deposit because of ample money supply in the country. However, when the situation changed lately, some of the banks published advertisements in the local newspapers offering very high return on deposits. Some of these were alleged to be incorrect, because of inadequate disclosure or inappropriate wording. The purpose was to mobilize as much money as possible but pay the least.

Before further deliberation on spread it is necessary to look at the prevailing commercial banking scenario in the county. Though, there are more than two dozen banks operating in the country, bulk of the market share pertains to five big banks. Most of these banks enjoy access to very low cost funds. Deposits flow to these banks without much effort because of their outreach and ages old relationship.

Relatively smaller banks have to offer higher return on deposits but transition seems a little slow. However, among these banks some give more attention to account holders but other try to fleece them as much as possible. With the separation of ownership and management in the commercial banks, a new breed of executives has emerged which wants to avail as much benefits as possible for themselves but does not wish to pay any return to the depositors. They have found new ways of fleecing the customers in the name of service charges and minimum balance requirement.

The difference in the psyche of a 'Seth' and hired managers is visible. A large number of banks have fixed the minimum deposit limit of Rs 10,000 and in case the amount goes below this limit a penalty is charged. However, there as still some banks which have no minimum balance requirement and no penalties. The service charges are also substantially low. Therefore, the depositors have a right to ask the central bank to order the commercial banks to abolish minimum deposit requirement at the earliest.

While it is being boosted that now foreign investors have substantial stake in Pakistan's commercial banking, its potential threat is completely ignored. These investors have come to Pakistan only to earn because such a fabulous spread is hardly available anywhere in the world. However, it must also be kept in mind that such investors may not be keen in operating in Pakistan if conditions change, may God forbid. This apprehension is not because their commitment to Pakistan is doubted but because of their business model, which is simply driven by profit motive. It is on record that when economic sanctions were imposed on Pakistan in late nineties a large number of foreign banks operating in the country chose to sell their local operations.

It may be said that there is nothing wrong because every investment is driven by profit motive. However, it goes without saying that banks in Pakistan have been operating in 'sellers market' where clients do not have much choice. For example banks have been issuing ATM cards mainly to contain customer traffic at branches but also collecting various charges from annual renewal fees to transaction cost, if an ATM of another bank is used. One fails to understand the logic behind this because integration of various networks ultimately benefits the banks in saving capital expenditure and generating more transactions per machine. Therefore, this cost should also be abolished at the earliest.

Till recently banks were earning huge profit on consumer finance. This included leasing of cars and other consumer durables. However, with the hike in interest rates the percentage of delinquent loans increased. According to some banking sector experts, consumer finance include many hidden costs and consumers are still being fleeced because central banks allows the financial institutions to fix service charges in the name market driven policies, even if these are unjustified.

Dr. Shamshad Akhtar strongly believed that inflation can be contained by increasing lending rates. With the appointment of new governor, it is expected that the central bank will also bid farewell to this policy and bring down the lending rates. Is it not strange that the government boasts of increasing lending to SMEs, micro enterprises and agriculture sector but interest rates being charged from them are excessively high and the objective is completely defeated?

As the apex regulators it is the responsibility of the central bank to not only bring down the interest rate but also reduce the spread. The policy of keeping interest rates high is hurting the trade and industry and huge spreads inculcating inefficiencies in the commercial banks. Pakistan's central bank must also learn a lesson from other central banks that in time of economic turmoil keeping interest rates at the lowest rate acts as catalysts for investment.