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What banks expect in 2019

The PTI government is bent upon recovering as much ‘plundered wealth’ as possible. The entire state machinery, backed by a superior judiciary, is decisively chasing cases of mega corruption and money laundering.

The record economic growth of 5.8 per cent of the last fiscal year is expected to slow down to 4pc. The rupee has lost 26pc value in a year, coming down to 138.87 per dollar at the end of 2018 from 110.42 at the end of 2017. The State Bank of Pakistan’s main policy interest rate has shot up to 10pc from 6pc, an increase of four percentage points in the outgoing year.

The China-Pakistan Economic Corridor (CPEC) projects are expected to gather pace. The government seems headed towards another year of large fiscal deficit. The external sector imbalance is being corrected through financial help from friendly countries. Exports are growing in single digits. Remittances are rising in double digits, but even combined earnings from both sources are unable to finance the import bill.

Banks lent generously to the private sector and PSEs in July-Dec. But not all of it was in line with the best banking practices

The private sector’s unmet credit demand is open for exploitation, but growth in fresh demand is uncertain. The size of the informal economy remains big and is still growing. The drive for documentation of the economy is on, but the size of the grey economy is still large.

“I think there are at least three key challenges for banks this year: meeting economic and market risks with greater internal controls, ensuring growing regulatory compliance without letting operational slowdowns and innovating financial products on both asset and liability sides with more but careful applications of fin-tech,” says the head of a large local bank.

“I guess overcoming these challenges would expose some small, less efficient banks to a make-or-break situation. For most of the others, meeting such challenges may determine how effective their strategies could become and whether improved strategies could also keep them profitable in the short run.”

Take the example of the recent hiking of rates of return on National Savings Schemes (NSS). The upward revision in NSS rates is aimed at promoting domestic investment and enabling the government to borrow more from non-bank sources. “This hiking — up to 2.75 percentage points — means more competition for banks in deposit mobilisation in an environment where, due to the ongoing crackdown on money laundering, banks need to be extra careful in implementing the know-your-customer (KYC) regime,” says a senior executive of another large local bank. “Quite difficult, isn’t it?”

Of late, media outlets have been highlighting reports about how powerful people had in the past managed to get bank accounts opened in the name of unsuspecting ordinary folks and misused them. “The central bank is now breathing down our necks. Decades-old records are being re-verified and new internal controls are being put in place to avoid occurrence of such things.”

Banks lent generously to the private sector and public-sector enterprises (PSEs) in the first half of this fiscal year. But they had to as they had no other option. The government relied on the central bank’s borrowing and retired banks’ credit during that period. Not all of this generous lending undertaken in politically turbulent times was in line with the best banking practices. “Sooner or later, banks with weaker controls on credit monitoring may be exposed to loan recovery issues,” warns a senior executive of a mid-tier bank.

Between July 1 and Dec 21, banks’ fresh lending to the private sector more than tripled to Rs423 billion from Rs139bn in the year-ago period. Their lending to PSEs also tripled to Rs134bn from just Rs39bn. If the economy is slowing down, where is this huge demand coming from the private sector? Even if we assume a large part of it is pent-up demand, can we imagine all banks are carrying out due diligence? “Similarly, tripling of the lending to PSEs under a new government almost always carries its own risks.”

With headline inflation still above 6pc, chances for further monetary tightening in 2019 are there. That means additional room for banks to book higher interest income, but it’s not a given. A lot depends on how much the government will be borrowing from banks. If the government is able to boost revenues, if it can raise substantial amounts of money through non-bank sources, like NSS, and if it can reduce financial losses of PSEs, banks’ investment in zero-risk treasury bills and bonds will see smaller growth.

That means they will have to keep private-sector lending high amid sluggish economic activity. They will have to invest a lot in fin-tech, credit appraisal and credit monitoring to cope with the challenge, senior bankers say.

With the rupee having lost 26pc value in 2018, the government can hardly afford further depreciation of this magnitude in the current year. Bankers say they cannot rule out the possibility that this government will also keep the rupee overvalued particularly in the first half of the year. “Here, we have a situation,” says a seasoned foreign exchange dealer at a local bank.

“In this situation, some banks will be winners and others losers. Those sitting on large foreign exchange positions will be able to enter dollar-rupee swap deals with the central bank or even make outright foreign exchange lending to the government under particularly designed arrangement. And the losers will be the ones that have a thinner foreign exchange base and used to make money because of the volatility in exchange rates when the interbank market witnesses more overnight foreign exchange lending and borrowing.”

Some bankers say they still expect exchange rate volatility and thus brisk activities in the interbank market. They build their argument on the premise that $2bn poured into Pakistan’s coffers by Saudi Arabia in November and December and foreign exchange reserves of the SBP at $7.28bn are barely enough to cover imports of even one and a half months. The size of a fresh IMF bailout programme is still not known. We have yet to receive the promised $3bn friendly financial support from the United Arab Emirates. The open currency market is at a standstill with foreign exchange companies complaining of harassment ever since the PTI government has come in power. “So for smarter banks, capitalising on foreign exchange volatility may remain an ongoing business even in 2019,” says the treasurer of a local bank. “Don’t forget that foreign exchange deposits of banks at $6.55bn are slightly below the SBP’s foreign exchange reserves. Unless the reserves rise substantially, exchange rates will remain market driven.

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