Dec 26, 2011 - Jan 1, 20

Within commercial banking, Islamic banks have been able to post outstanding performance this year evident from rise in overall deposit size and financing. However, conventional banks have been victim of circumstances.

There has been growth in deposits, advances and investments but the massive increase in non-performing loans and heavy provisioning remain a cause of concern. Though in the second half of 2011 there has been modest reduction in discount rates, yet the move failed in whetting private sector's appetite for bank loans.

Massive investments in government securities by the commercial banks are affecting lending to the private sector. However, experts say the blame should not go to the banks because 1) the government is borrowing excessively to bridge the growing budget deficit and 2) private sector credit offtake remains low.

They also say that energy crisis remains the biggest obstacle, as no entrepreneur seems interested in making fresh investments for creating new productive facilities.

Addressing the participants in a seminar on Islamic Banking jointly organized by the State Bank of Pakistan (SBP) and Islamic Research and Training Institute (IRTI), Kamran Shehzad, Deputy Governor SBP said Islamic banking industry constitutes about 7.3 per cent of the overall banking system in Pakistan at present.

He observed that the growth trend in Islamic banking industry is likely to gather further momentum with increasing awareness level and expansion of Islamic banking network in second and third tier cities of the country.

Lately, it was said that shortage of trained workforce in Islamic banking had become a constraint.

The deputy governor informed a number of initiatives have been taken to build the industry's human resource capacity and skills.

The financial and technical support of reputed national and international institution like IRTI and Islamic Financial Services Board (IFSB) is also being mobilized to organize training and capacity building programs.

Pakistanís membership and active engagement with IFSB, accounting and auditing organization for Islamic financial institutions (AAOIFI) and the international Islamic financial market (IIFM) is also helping the central bank in undertaking awareness and capacity building initiatives. This is evident from operation of five full-fledged Islamic banks and 12 conventional banks having Islamic banking branches with a network of over 840 branches in more than 70 districts across the country.

Islamic banking industry has maintained strong growth momentum with over 30 per cent average annual growth during the last 6-7 years.

It has been observed that high inflation and poor state of economy has led to a decline in deposits as well as the numbers of small accountholders.

While the central bank wants to see an increase in the number of accountholders, persistent double digit inflation affected their savings and deposits. It seems that small account holding is deliberately discouraged. Many bankers believe that there is no benefit of retaining these accounts as it increases the administrative cost of the banks.

The available data shows that bank deposits started declining with the beginning of current fiscal year.

The deposits in June 2011 were around Rs5.6 trillion, which dwindled to Rs5.4 trillion at end September. Some experts say declining bank deposits reflect the declining purchasing power of masses, mainly hit by high inflation, sources said.

In the past, the central bank advised the banks to facilitate small accountholders. While the state aims at facilitating small accountholders, banks usually consider them a burden.

Bankers are seen chasing the high net worth clients and in that course ignoring the small depositors.

Now, banks continue to face liquidity crunch. The situation is likely to further deteriorate because of recent reduction in lending rates, which do not allow many of the banks to offer attractive return to depositors.

The data released by the central bank shows that non-performing loans (NPLs) of banks and development financial institutions (DFIs) grew more than Rs38 billion in 3QCY11 (third quarter calendar year 2011).

The real cause of concern was that the increase was much higher as compared to an addition of less than Rs2.5 billion during 2QCY11.

Major increase in NPL was contributed by the public sector banks with their share rising by significant 15.8 per cent quarter on quarter (QoQ) in 3QCY11 (over Rs23 billion) as against a decline of two per cent QoQ during 2QCY11. NPLs of local private banks were up by 2.4 per cent QoQ or around Rs9 billion.

The cumulative number for all commercial banks shows that NPLs during 3QCY11 were up by 6.6 per cent.

Subdued industrial production amid acute energy shortages, high interest rates, and double-digit inflation coupled with overall economy being adversely affected by floods for the second consecutive year had dealt a blow to borrowers' repayment ability.

NPLs of the commercial banks grew at an alarming rate during 3QCY11 when compared with the previous quarter. During 2QCY11, NPLs were up by a mere Rs17 million whereas during 3QCY11, the quantum was close to Rs36 billion.

Advances of the scheduled banks witnessed a decline of 2.6 per cent during 3QCY11 (Rs90 billion in monitory terms). This spectacle of declining advances and increasing NPLs of all commercial banks is harshly affecting the infection ratio (NPL-to-loan) of the banking sector.

Cumulative infection ratio of all commercial banks is recorded at 16.9 per cent during 3QCY11, which was at 15.4 per cent during the previous quarter, indicating increase of 145bps QoQ.

Cumulative deposits of all commercial banks also followed suite and dropped by 3.2 per cent or Rs181 billion during the 3QCY11, while during 2QCY11 deposits of the banks were bolstered by Rs55.3 billion.

With recent initiative taken by the government to convert power sector's debts into to long-term government securities, circular debt amounting to Rs391 billion has been replaced by investments in government securities (50 per cent PIBs and 50 per cent T-bills).

Moreover, with downward trend in interest rates, analysts expect restructuring of debt, which is expected to affect the banking sector positively. In addition to that, trickledown effect of partial resolution of circular debt is also expected to support the banking sector going forward.