LIGHT AT THE END OF TUNNEL FOR CONSUMER FINANCING
TARIQ AHMED SAEEDI
Oct 17 - 23, 2011
Collective cuts of 200 basis points in last two monetary policies are expected to encourage monetary aggregations in the economy. Especially, experts are of the views that reduction in discount rates would divert the flow of banking money from government securities to the productive economic activities.
The consecutive declines brought interbank lending rate down by 144 basis points to 12 per cent for three-week period, a considerable stimulus for the private sector under the straits due mainly to high cost of borrowing as well as consumer financing that is on the downward trend owing to prohibitive interest rates.
For the last couple of months before July, State bank of Pakistan used the interest rate tool to contain spiking inflation, measures that were popularly criticised by majority affected by high cost of capital.
Business community has been calling for reduction in discount rate in order to get hold of much required funds for industrial expansions and developments. Nonetheless, the central bank remained inflexible.
High lending rate at which the bank lends money to commercial banks pull up credit costs for the borrowers.
Banks are risk aversive when it comes to extending financial helps to private sector and consumer financing that is a proven agent of growth in auto and construction sectors.
Non-performing loans or infected assets make commercial banks look for alternative avenues of investments. Profitability of government papers at the time of high interest rate regime happens to be unmatchable attraction for banking funds. Banks park their money into the government papers as they earn good payouts from them.
Non-performing loans discourage banks to extend finances to nongovernment customers. NPLs stood at not less than Rs250 billion until July.
SBP recently relaxed its tight policy in view of decline in inflation. In its latest monetary policy released in October, the central bank said year on year inflation dropped to 10.5 per cent in September from 13.3 per cent in June. Decline in government borrowing was also mentioned as a reason of cutting policy rate.
Low interest rates are likely to give private companies breather to restructure loans and fund-seeking ventures to apply for fresh loans, experts believe. In fact, the central bank suggested in the policy announcement soft stance is expected to have positive impact on inflation in the medium term. Following July decline of 50 basis points, ì6-month T-bill and 10-year PIB rates in the secondary market have decreased by 114 and 136 basis points between 1st August 2011 and 7th October 2011î, it noted.
InvestCap in its report released following the second cut observed, "A decrease in return on government securities and lower cost of advances will attract the private sector enterprises to restructure or reconsider loans from banks, which is going to improve the economic indicators as interest rates are moving downwards".
While private sector remained the prime victim of greed of the government for funds, as almost 80 per cent of liquidity was consumed by the government for deficit financing, consumer financing sector has also been affected by the cash crunch.
Auto financing, home loans, durable credits, leasing, almost all credit lines related to consumers have been witnessing sharp decline since the interest rate has been used to control liquidity flows in the market.
Although overall sale of automobile has not been affected by high interest rate, sale in urban centres underwent cut. Growth in sale of cars was mainly recorded because of improving rural incomes.
The central bank continued to inject money in the economy through open market operation. Government borrowing is considered highly inflationary especially since the credits are used to meet non-development expenditures.
Credit cards are thriving consumer banking segment in other parts of the developed world. In Pakistan, the business has not been appreciated as better mode of financial intermediation. Critics do not consider usage of credit cards something needful in the underdeveloped economy. Credit cards are wastage of money and spoil saving culture, they comment.
However, auto financing was something that reignited the growth of automobile sector in the country. Similarly, soft home loans gave rise to construction sector besides reducing housing backlogs. Under affordable interest rate, consumer financing can act as catalyst of economic activities since it encourages consumers in droves towards banking channels. Subsequently, market demands grow and thereby pushing up manufacturing growth.
Significant drop in consumer financing was recorded in July 2011 to Rs216 billion as compared to Rs240 billion in the same month preceding year, according to the State bank of Pakistan. Auto loans also fell to Rs49 billion from Rs62 billion while housing finance slid to Rs47 billion in July in contrast to Rs53 billion in the comparable period.
A month data is sufficient to indicate the present state of consumer financing sector in Pakistan. High interest rate was the main reason of underperforming sector.
Obviously, when banks could earn attractive profits on investment in securities, they would not take risks in private sector or consumer financing.
Media reports said that leasing sector has nearly collapsed in view of exorbitant cost of borrowing. Leasing companies have to buy funds from banking channels, as they don't have their own sources of money unlike banks that generate deposits from a wide branch network. The specialised financial institutions banking on project and auto financing for their survival were hit twice firstly by high capital costs and secondly banks infringing on their businesses.
Experts are of the view that interest rate has to be curtailed further to renew anaemic economic growth.