ROLE OF BANKS AS FINANCIAL INTERMEDIARIES WANING
TARIQ AHMED SAEEDI
Jan 23 - 29, 2012
Banking system of Pakistan has been witnessing stellar growth in assets with banks having assumed mainly the role of financers to the fiscal deficits. First half of 2011 was rather outstanding since 2007 as it saw remarkable growth of eight per cent in asset base of banks at Rs577 billion, according to the latest financial stability review (FSR) by the state bank of Pakistan.
The expansion in assets base was primarily due to upswing in investments that scaled up 34 per cent whereas net advances plunged 43.9 per cent in the six months. The downward trend in advances to deposit ratio (ADR), down to 56.7 per cent from 76 per cent in Sep 2008, minimised the 'optimal role of banks as financial intermediaries', it noted.
In contrast, investments to deposit ratio (IDR) is on the rise with mostly local private and foreign banks funding high-yielding government papers. For some banks, the IDR has surpassed the 50 per cent mark. Experts advise the SBP has to introduce ceiling on IDR if asset mix continues to tilt towards investments in order to promote lending to private sector.
The growth in banking sector is attributed to high spreads, profitability, investment-friendly regulation, and above all a huge unexplored bankable population. The system has largely to be untapped because of low base of accountholders, numbers of borrowers, and vast room for the modern banking. There were 28.74 million accounts including current, saving, fixed term deposits, etc. and 3.61 million borrowers of all banks as of 30th June 2011.
Electronic and branchless banking is growing at a fast pace. In the period under review, e-banking transactions rose 15.5 per cent to 126 million. Transactions through real time online branches and automated teller machines account for majority of e-banking in the country. Both in terms of value and volume, the growths of these e-banking types were up 15 per cent over the previous six months. Till June 2011, the numbers of ATMs were recorded at 5,200 while near 80 per cent of all branches were connected online.
RISING PROFITABILITY AND HIGH SPREADS
In the first half, banks' profits before tax grew 31 per cent to Rs77 billion. Top five banks hold 51 per cent market share in total assets because of large branch network and huge clienteles. However, in the period under review, the share of the top five banks in total profits plunged to 78 per cent. Eight banks recorded losses as compared to 17 a year ago. This was clearly a sign of improving profitability of banking system. Government securities were the main reason behind banks staying generally liquid. According to an estimate, there are 10,000 bank branches operating in the country.
The FSR said the banks lending strategies in Pakistan are driven by their success in mobilizing low-cost deposits through current and saving accounts that account for 62 per cent of total deposits of 37 banks.
The banking spread (difference in lending and deposit rates) is high in Pakistan. Banks are obviously attracted towards charging high rates of financial intermediation but this single fact stifles the growth of private sector that is in need of capital. On the other hand, net interest margin (difference between interest paid and interest earned) brings the country up in the list of top 70 countries with high spread. Pakistan is ranked 69th among 122 countries, according to the SBP that calculated average NIM of each country by using annual data from 2001 to 2009. The central bank also defended the position that it is low as compared with other countries in the world.
FINANCIAL REGULATIONS AND REFORMS
It is an irony that depositors are given low rate of return despite the fact that they finance 75 per cent of commercial banks assets. Banks have to pay interest on only remunerative deposits that constitute more than half of total deposits of commercial banks. Until June 2011, non-remunerative deposits constitute a quarter of total deposits.
Credit risk is high with bad debts swelling up. High cost of financing discourages private sector to seek bank loans. With the central bank looking at the soft monetary stance, it seems that interest rate will come down further from its current level of 12 per cent, thereby whetting credit appetites of the private sector.
The global financial crisis of 2008 geared up to pin the last nail in the coffin of financial systems of U.S. and EU, but somehow this did not happen. The cost was too high since the governments had to channelize public money as bailout packages to save sagging system from complete collapse.
Experts appreciated the robustness of Pakistan's financial system and its invulnerability to external shocks, saying it was due to the regulatory and policy reforms initiated in early 1990s. However, that does not signify complete immunity of banking system to future shocks and risks.
According to a paper written by former SBP governor, Dr. Ishrat Hussain in November last, there are nine issues to be addressed to overcome the challenges that can be posed to the financial sector of the country. The issues include financial stability, risks of over-regulation, consolidation of regulation and supervision, legal infrastructure, credit rating agencies, minimum capital requirements and capital adequacy, financial inclusion and diversification of assets, products, services and customers, risk management, and capacity building of regulator, according to him.
"Pakistan's regulatory framework has withstood the test of time well since the reforms were implemented. But, as time passes it had to be modified and strengthened to the future challenges in a way that it does not stifle innovation and growth, does not severely raise the cost and access to credit and does not constrain the process of financial inclusion. Nor should it be so rigid that it enables the market players to circumvent the regulations and pursue alternatives that are less desirable," concluded Dr. Hussian who is currently serving director of institute of business administration (IBA).