Market Review About Banking Sector

MONDAY, JANUARY 02, 2012 | www.brecorder.
com/br2011
BANKING REVIEW 2011
FROM THE EDITORS DESK

Without economic recovery there is no political stability; without political stability there is no economic recovery. This line ideally ts into the stereotypes in relation to the current Pakistan situation because of a variety of reasons. Though the country has been in the throes of upheaval for as long as one can remember, the situation has alarmingly worsened since the last few weeks or months. Therefore, recovery in both realms - the economy, and politics - continues to remain elusive. That both monetary and scal policy should be used to inuence the performance of the economy is a profound argument that only reinforces the other argument that scal policy a ects the success of monetary policy in various ways because an unsustainable scal policy surely gives birth to serious doubts about monetary policys focus on its core functions such as low ination and price stability. Although, the picture is gloomy, there is a reason for some well-founded optimism. Despite the existence of some serious areas of grave concern in the countrys economy, the nancial sector, nevertheless, provides a glimmer of hope. One of the most important segments of services, this has shown strong resilience during these di cult times. This sub-sector, therefore, continues to be one of the few success stories. But, as they say, there are no success stories without as many or more tales of failure. One of the greatest downsides in relation to present banking practices is less due to banks own doings but more to governments fatal follies because scal policy actions more often than not have seriously a ected the money market trends than unanticipated monetary policy decisions have. For example, an alarmingly high level of bank borrowings by the government has not only encroached upon the space for private credit, it has led towards less growth, fewer new job opportunities, more social tensions in society; and it has steadily eroded the value of rupee against the US dollar. As witnessed in some emerging economies, banks in a developing economy like Pakistans have preferred to lend to the government than commercial business, which could be less protable but risk-free for banks. This however, impedes the e ectiveness of credit and distorts the countrys economic policymaking. Another negative aspect of such controversial if not grossly awed approach is that when the government has to pay high real interest rates on domestic debt, private capital moves away from job creating activities into nancial investment. Although, some counter arguments attribute private sectors reduced appetite for credit to chronic energy shortages, a serious law and order situation in the country and still high interest rates despite the last 150bps cut in key policy discount rate, banks overt reluctance to ease lending to private sector, considered the real engine of growth in any market economy or even quasi-market economy, betrays their strategy of making prot with least e ort and risk-taking. One would be profoundly nave to deduce with any degree of certainty that the importance or signicance of scal and monetary responsibilities is lost on both the government and the State Bank. Both know well that a poor scal policy can a ect macroeconomic stability adversely while a weak monetary stance can negatively impact on the central banks functions of macroeconomic stabilization and the nancial system. Not only does a central bank play the role of regulator of a countrys nancial system, it enjoys a measure of involvement in the macro and microeconomic development of the country. In the case of Pakistan, State Bank of Pakistan is considered a pivotal element that contributes to macroeconomic stabilization of the country. But the central banks prowess seems to have been diluted overtime as there remain some plausible questions with implausible answers with regard to the quantum of SBPs autonomy or its own exclusive domain and space free from usually undue and frequently uncalled for government intervention. And now, last but not least, although Pakistans banking sector has no signicant exposure to global nance, one must not lose sight of the fact that the world today is closely linked and any collapse of the banking system in other parts of the world has a cascading e ect everywhere. Eurozone crisis is a case in point. Hence the need for further strengthening the resilience of our banking system. This Banking Review 2011 seeks to provide answers for our readers to myriad questions in relation to performance of the banking system, nancial inclusion, scal prudence and debt management, lending to SMEs, incidence of non-performing loans and introduction of innovations in banking.
BR RESEARCH
THE TEAM
1 2 3 4 5 6
CONTENT TEAM
1. Ali Khizar Aslam | Head Of Research 2. Mobin Nasir | Research Editor 3. Zuhair Abbasi | Research Analyst 4. Manal Iqbal | Research Analyst 5. Sijal Fawad | Research Analyst 6. Hammad Haider | Research Analyst 7. Ayesha Aftab | Research Analyst 8. Fahad Irfan Qureshi | Research Analyst 9. Sidra Farrukh | Research Analyst 10. Naseem Waheed |
DESIGN TEAM
11. Murtaza Khaliq | Creative Head 12. Abdul Musawer Gulzar | Illustrator
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BANKING REVIEW 2011 / JANUARY 02, 2012
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CONTENTS
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GOVERNMENT
BY ALI KHIZAR
THERE is banking beyond doing business with the government and running the treasury! Smart bankers are making money through trade nance positions in US dollars, while everyone else is busy in lling the pot belly of the government. Running persistently high scal decits amid relatively low deposits mobilization is resulting in printing more pictures of Mr. Jinnah while its value diminishes day by day, former SBP governor Shahid Kardar recently chided a hall full of researchers and economists. For the past couple of years, banks sitting on low cost deposits have been feasting on so called risk-free government lending, hedging this exposure with positions in foreign currencies. Such tendencies have stunted private sector credit and As foreign inows remain elusive, State Bank of Pakistan has been feeding liquidity to the nancial market through successive reverse open market operations, so that scal funding can be rerouted through the banks. This is a sure re recipe for sluggish growth and high prices. Meanwhile, the back the money leaking out of the nancial system. Pulling back just half of all currency in circulation, back in to the system would do wonders for private sector growth along with employment creation and sustainable banking. The current practice of lending to the government with considerable leakages out of the formal nancial systems is not sustainable. How long can the Pakistan Security Printing Press keep on printing more notes? How much longer can the local currency hold its ground against currencies of major trading partners? With such high ination compared to its trading partners, further downward adjustments in the rupee to keep the countrys exports competitive, seem inevitable. The next balance of payments crisis will, once again, send us scurrying to Washington DC. The writing is already on the wall: the countrys economic managers may soon be lining up at the IMFs window once again. But if the multilateral lender were to ask the central bank to limit government borrowing from scheduled banks and shut its own doors on scal funding; the likely response from our economic managers would be, Oops! We dont seem to have a plan for that. It is pertinent to note that government agencies deposited over Rs800 billion with banks and in last ve months. The government borrowed Rs700 billion from banks. Out of that, more than Rs300 billion have been provided by SBP to the banks. Think of the government as a corporate entity. How its common practice of depositing funds at ve percent, only to borrow the same at 13 percent! The use of banking sources to fund the scal decit screams, Domestic debt default. The risk-free nature of government borrowing is being brought into question. After all, many banks are charging higher rates for quasi-scal lending as compared to rates they charge from large private sector groups. Recently, the ministry of nance struck a deal with banks to convert Rs400 billion worth of twin circular debt into government paper. Banks pounced on the opportunity for two reasons: rstly, given the recent cut of 150 basis points, locking in a good rate at the beginning of a downward cycle of rate revisions seemed an obvious choice. Secondly, this creates room for lending further to the power sector and agri sector in accordance with SBP and banks own internal sectoral limits. But given the persistence shown by rising prices; interest rates may be hiked in coming months. Hindsight is always 20-20, but it seems the banks may have jumped the gun on at least some assumptions behind the deal. It is also worth noting that the conversion of this quasi-scal debt is closer to window dressing than it is to an actual resolution to the problem. Banks have got to start thinking outside the box of government borrowing. Despite all the gains boasted by the countrys banks, to date only one-ninth of the population has bank accounts. The degree to which banks have ocked together is obvious from anecdotal evidence. There are more bank branches on Karachis Rashid Minhas road than there are on the whole drive from Sukkur to Ghotki lamented former SBP governor Ishrat Husain, at a recent think tank moot. Despite variations in the cost structure of banks; some are beneting from low cost deposits while a few foreign banks are synergizing their global presence. The smaller sh are struggling to keep
THINK
BEYOND
costs and non-performing loans in check. But virtually all players are ghting for the same pie. With one third of banks earnings emanating from investments in government securities; nancial intermediation is severely wanting. Some advances have been extended to sugar and power sector in the past few quarters, but for the most part, private enterprise is not being facilitated duly by nancial institutions. This is despite the fact that banking is the prime source of funding to the private sector as it is more than three times of combined listed capital at stock exchanges and term nance certicates. This exposes that bank borrowing is the cheapest and preferred choice of corporations in Pakistan. Drying up of this pool can have dire consequences. The private sectors appetite for credit is itself stymied due to the prevalent energy shortage and uncertainty on economic and political fronts. The central banks policies are also more prudent today than they were during the last nancial boom in the country. SBP should ease some its regulations like extending the benet of forced sale value to 100 percent and relaxation of provisions on time period and documentation required in extending credit to SMEs and agriculture. Interestingly, the informal sector continues to be a major source of credit for local businesses. They maintain low delinquency rates despite charging relatively exorbitant markups. It is about time that both regulators and bankers thrashed out a strategy to make banking relevant to the local culture; reaching beyond the lessons learnt at the Citibank nursery.
THE WRITER IS HEAD OF RESEARCH AT BUSINESS RECORDER. HE CAN BE REACHED AT: ali.khizar@br-mail.com
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While demand for loans is low, bank spreads continue to be signicant and banks are making handsome prots. Banks also continue to charge steep service charges despite supposed signicant competition in the banking market. The author square all these observations and calls on the regulator to play a more proactive role in bolstering competition and improving the state of customers rights.
BY DR. FAISAL BARI
THE REAL interest rates are almost zero for low risk borrowers, yet there does not seem to be a high demand for loans from banks. And while demand for loans is low, bank spreads continue to be signicant and banks, at least the foreign ones and the bigger domestic ones, seem to be making handsome prots. Also banks continue to charge steep service charges despite supposed signicant competition in the banking market. So how do we square all of these observations? cost structures, distribution networks, clientele and so on. The larger banks have very large distribution networks; some of which are quite old as well. As such, their cost of generating funds, due to older deposits and larger amounts in current or savings accounts, is low. This gives them a signicant advantage over smaller and/or more specialised banks. If, in the same industry, large and small players with a reason for it. Competition economics tells us that if cost structures, and there are no barriers to expansion should disappear over time or they should become But we nd that though larger banks make a lot of prots, the smaller banks are surviving too. There must be some reason for it. The market is not working competitively enough or it is fragmented in some manner that it is allowing such a cost structure to survive. This ties in to the spreads issues directly. Many people lending rates) are too large in Pakistan. The big banks are denitely enjoying large spreads; however, they are much tighter for the smaller banks. Why are larger banks not able to push the smaller ones out of business? Do the smaller ones have a special niche? Are they able to make money from elsewhere, are larger banks unwilling or unable to be more competitive, or are State Bank of Pakistan (SBP) regulations somehow protecting the smaller ury bill rates and KIBOR rates tells us that there is competition at some level but it does not resolve the issue mentioned above. The high level of ination plays into the scenario as well. Given the ination levels, the real interest rates are still negative or are barely positive on some instruments. The State Bank has been keeping the interest rate high to pressurise ination as well as keep interest rates from being too negative. But that does give a little room to the smaller banks as their higher cost of funds gets covered as well. Why do the high ination and the high interest rate on risk-free assets, not raise the cost of funds for the larger banks; is also an interesting question. Again, there must be structural issues that are having an impact there. If borrowers are not in the market for loans, despite negative real interest rate - it could be due to shows that there is not a strong demand for loans right now, how are the bigger banks making money? The money market must be one place where some of the returns are being made. The bigger banks must be providing liquidity to the smaller banks as well; given the low cost of funds for the bigger banks, a signicant portion of their income must be coming from such markets. Furthermore, not too long ago, the SBP had to tell one of the larger banks to reduce its exposure in the stock market. That bank was not being run as a bank at all - it was being run as a fund for the benet of the owners of the bank but with the money of the people. SPB has put more controls on the banks since, but given the lack of transparency in this market, for most customers, it is hard to know if all such games have stopped. It also seems that our money markets are not just dealing with white money only and this fragments for niche business. Suppose a client comes to you to ask for project or working capital loan. He/she has a lot of cash but it is black money made from tax evasion or any other way, and so cannot show this The banks tell him that they will give a loan to the client, equal to the amount that he has, but the client has to deposit this money, as foreign currency, in the banks international branch in Zurich or elsewhere. The client uses Hundi to send the money out of the country to the said branch; the bank makes a loan to the client, ostensibly secured against inventory or local assets, but actually against the deposit in the foreign branch. This is a lovely transaction; illegal of course, but when has anyone worried about that. The company gets to whiten its money fairly easily, turns equity into debt, saves on taxes, and gets to do it quite cheaply. Also the client will not be too worried about the interest rate as the other benets are too big. The bank gets its interest. Everyone is happy, the people of Pakistan have been cheated, but who cares about them. It is hard to know how big the volume of such transactions is. Sometime ago there was a news item that Pakistanis have around $100 billion in Swiss banks alone. And there are many other countries where such transactions can take place. Pakistanis are an enterprising lot so it is unlikely that they have just deposited the money outside and are not using it well.
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A friend, who used to work in a bank till a few years ago, told me that a lot of their loans, to corporate local companies, were of the type mentioned above. He was privy to knowledge of such transactions as he was tasked to do some of the administrative and boring legwork for these transactions. If such transactions do happen, and are of a signicost structures can still lead to survival. It is a fragmented market we are talking about and clients will be locked into particular relationships with particular banks. In such cases, spreads are not a measure of overall competition, they are a measure of the bargaining power of the respective clients with the banks, and so applying a competitive framework here will not be valid. The salaries for top executives for smaller banks are quite large, and this is the case even when these banks are, ostensibly, not making a whole lot of and are the owners making money in other ways? How else are such large salaries justied? For the larger banks too, given the low cost of funds that they have, their asset base and their distribution should have been making a lot more money for their shareholders, and they should have been able to drive the smaller banks out. Clearly there is too much slack in their systems. A lot of people, especially on the consumer nance and non-corporate customer side, complain about the high service charges that the banks are allowed to levy. The State Bank of Pakistan (SBP) is culpable on this count. SBP is the regulator for the banking industry and it should be looking into whether the
THERE ARE TOO MANY GAMES GOING ON THERE AND A LOT OF THESE GAMES ARE NOT FOR THE BENEFIT OF THE PEOPLE AND SOME ARE NOT EVEN LEGAL
Banking market is too opaque, non-transparent, fragmented, and complex to really understand it clearly. There are too many games going on there and a lot of these games are not for the benet of the people and some are not even legal. So it is not a surprise that it is hard to understand why competitive pressures do not work in this market, how small and large banks survive in the same industry without clear demarcations of niches, why spreads continue to be large and prots signicant despite a low in investment activity. SBP, as the regulator, needs to do a much better job
charges that banks levy are justied or not, or if the charges are just being levied due to either lack of organisation of the customers and/or voice for them or due to lack of transparency and proper disclosure of information by the banks. In some cases, SBP has even asked banks to cut down on charges and open no-frill sorts of accounts. But charges on credit cards, transactions, bounced cheques, and so on continue to be very high. SBP should have a good idea of marginal and average costs of these services provided by banks and these services should be priced accordingly. The large executive salaries mentioned above and other overheads incurred by banks for various purposes should not be paid for through service charges on customers. The signicant spreads already present should be more than enough to cover these, and if banks are making signicant prots, even with the slack mentioned, clearly they are making too much money, and at the cost of the customer. THE AUTHOR SERVES AS CONSULTANT TO THE WORLD BANK, ASIAN DEVELOPMENT BANK AND IS ALSO AN ASSOCIATE PROFESSOR AT THE LAHORE UNIVERSITY OF MANAGEMENT SCIENCES. HE CAN BE REACHED AT: fbari@osipak.org
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Terms and conditions apply Zakat and taxes apply as per government regulations
MONETARY POLICY COMMITTEES OF KEY COUNTRIES

COUNTRY India China Sri Lanka UK USA NO. OF MEMBERS 12 15 8 9 12 FREQUENCY OF COMPOSITION (INTERNAL/EXTERNAL) MEETINGS (7/5) (3/12) (8/0) (5/4) (12/0) Quarterly Quarterly Monthly Monthly 8 times a year
Source: International media, central banks' websites
of not explicitly explaining the procedure of conducting its policy analysis, hence leaving a window of doubt as to the technicality (in particular economic models) and depth with which a certain monetary policy decision has been reached. While monetary policy statements contain plenty of reasons for taking a particular call on the discount rate, they seem more instrumental for making a projection which even an amateur economist might make, rather than a technically sound, quantied path taken by the central bank. One needs to be mindful, here, of the fact that presenting quantied targets, reached after considerable deliberation of well-read economists, and working towards achieving stated objectives rather than changing them often in the wake of economic misgivings is what lends credibility to the central bank of any country. Although price stability and ination are the two principle functions of any central bank, SBP is and meaningful way. For policy transparency relating to prompt announcement, policy explanations and future policy inclination the SBP does deserve credit for having evolved. The bank used to conduct a monetary policy meeting semi-annually until 2008. Thereby, the bank advanced to reviewing a monetary policy decision every quarter in 2009, further increasing the frequency to bi-monthly towards the end of 2009, which it continues to do till today. On the operational side of transparency, while SBP deserves credit for charting out detailed explanations for any decision taken, it does fall back when it comes to a post-decision policy evaluation. Assessment of the implementation and success of preceding monetary policy decisions will help lay out the SBPs process of policy analysis for the public, and also help the bank gain credibility by highlighting the achievement of monetary policy decisions taken. These four arenas highlight relentless transparency issues with the central bank, but, as also highlighted, the bank has evolved and improved on several counts too. These days, however, the last leg of transparency procedural transparency has become a hot issue with the monetary policy committee (MPC) having not met since March 2011. In the absence of the MPC, the central bank board has taken the responsibility of making monetary policy decisions. While the last monetary policy committee included two external members mentioned at the beginning of this piece, the board does not have any members from the external academic or professional fraternity. Besides the SBP governor, the board consists of the Finance Secretary, and other members and directors of the central bank, which include Asad Umar, CEO Engro Corporation and Waqar Malik, CEO ICI Pakistan. The presence of the secretary nance
SBP: NEEDS GREATER AUTONOMY

BY SIJAL FAWAD
EVEN though Pakistan is mired in severe economic woes, the need to pay due respects to one of the two critical aspects of an economy, monetary policy, appears to be largely absent. A few months back, the countrys central bank saw itself being orphaned yet again, with Shahid Kardar eeing the show due key scal and monetary issues. lent the much-needed leadership to the institution, the issue of the monetary policy in terms of its independence in particular, still remains unresolved. The presence of a monetary policy committee, including external economists, was a key means of giving monetary policy a certain level of independence and severing it from political motives to some extent. Dr Hafeez Pasha and Dr Ijaz Nabi were the two external members of SBPs last monetary policy committee. But the renowned economists were rendered redundant when the monetary policy committee was disbanded by then-governor Kardar upon (the) Senate of Pakistan's refusal to give this committee omnibus powers on xing of SBP's Policy Rate; even though the National Assembly had given its consent, according to a report published in Business Recorder in July 2011. For any central bank to reach its underlying objectives of either targeting monetary aggregates or ination, it is important that monetary policy decisions should be severed from any political inuence to avoid any populist measures impinging on it. Literature on transparency of monetary policy as practiced in Pakistan is abound with how it leaves a lot to be desired. A Pakistan Institute of Development Economics (PIDE) paper assesses decision-making of monetary policy on ve counts; political transparency, economic transparency, operational transparency, policy transparency and procedural transparency. As far as political transparency is concerned, to SBPs credit, the bank does spell out its objectives regularly through its monetary policy statements, and does exercise a considerable level of autonomy. However, there may be fractures to the banks autonomy, as quite evident from the resignations of the last three governors of the SBP Dr. Shamshad Akhtar, Salim Raza and Shahid H. Kardar, in that order allegedly due to unnecessary government involvement in the the appointments for key posts in commercial banks. On the economic transparency front, SBP is accused
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and of Umar and Malik is a possible conict of interest since these three players are likely to be inclined towards a lower policy rate the former due to populist pressures, and the latter because of their association with the private sector, which would favour a lower discount rate over more pressing ination concerns. A 2007 paper by the Indian central bank the Reserve Bank of India (RBI) claries this even further: There is a view in the literature that central bank boards are vulnerable to pressures of representationfor instance, from groups such as trade and industrywhich could compromise the decision-making structure, especially when the representation included in the board monetary policy decision. monetary policy decisions is to separate the monetary policy making entity from the board of governance of the central bank. Unfortunately for Pakistan, SBPs board of directors is mired by considerable government inuence, as Tariq Saigol, former member of the central banks board told BR Research in a previous interview, There are some amendments, which are on the manuals of State bank Acts that might reinforce the position of State Bank to quantify the amount that government may borrow (these) actually place responsibility on the board of directors. My feeling was that boards of directors were inadequately acting in allowing unstated borrowing by the government. Thus, circumstances as they appear warrant the presence of an independent monetary policy committee consisting of external members as well. As for the composition of the MPC, it is important for external members to have no involvement in certain nancial institutions or in any political activity to avoid unwanted personal motives in the drafting of a monetary policy decision. The RBI has a technical advisory committee (TAC) which performs an advisory function, consisting of six external members, mainly from the academia. Having said that, there is no ironclad rule for how have varying MPC structures with a variable number of external and internal members. Bearing that in mind, even though the SBPs monetary policy committee has not been constituted yet it is hoped that a new MPC will be created once the new SBP Act has been approved. Heres to hoping this happens sooner rather than later.
THE WRITER IS A RESEARCH ANALYST AT BUSINESS RECORDER. SHE CAN BE REACHED AT: sijal.fawad@br-mail.com
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CROWDING OUT PRIVATE SECTOR CREDIT

BY FAHAD IRFAN QURESHI
LACK of prudent scal debt management is bringing the global nancial system near to its tipping point. A strong case in point is the euro zone, where independent scal policies relying on political compulsion of individual countries, while having a monetary union, have brought the bloc to near collapse. US, meanwhile, is facing issues of scal debt. Pakistan is no exception. With very little to spend on social safety net, running a high scal decit nancing it through the domestic banking system is a stark sign of a possible domestic debt default. This is not only fuelling ination but also inducing higher spending on debt servicing, defence, supporting ailing public sector entities, and running the Such a trend is a sure-re recipe for disaster. One doesnt want to criticise government spending; but the lack of reforms for raising revenues, rare allocation of spending on social and economic development and the tilt of money ow towards rent seekers is to be lamented for precluding potential growth momentum. Public spending on building infrastructure and key socioeconomic institutions will be encouraging as is happening in thriving economies, and also neighbouring ones. These stimulants are the Keynesian prescription of curing ailing economies. Nonetheless, abuse healing the wounds. Moreover, note printing direct government borrowing from SBP and being routed via commercial banks to scal kitty in the form of reverse open market operations is making debt cheaper for the government and eroding the purchasing power of households by running persistent double-digit ination.
The proportion of government credit to total credit extended by commercial banks has posted successive increases in the past few months. The author highlights the toll of this trend on the private sector and its ability to access credit.
The mechanics is simple, the government raises domestic banking debt, which fuels ination and makes debt payment cheaper i.e. borrow Rs100 million today and ination of 15 percent will make that debt worth Rs85 million in a years time. The savings of households, on the other hand, are eroding in value as commercial banks in the business of government lending are making hefty prots, not returning much back to depositors. Sooner or later, the realisation may come to an average Joe and he may ask for his due return. SBP is cognizant of this fact and is working on developing alternate channels of government borrowing Nonetheless rerouting the debt is not the solution to the problem by any means. There is a need to look at curtailing debt as well. Pakistans debt to GDP ratio has been above 60 percent for the last 5 years. At present, Pakistans debt to GDP ratio is 63.8 percent, a clear violation of the scal debt limitation act, that was designed to limit the debt below 60 percent of GDP. . Right now, there are graver issues to take care of the source of funding of government debt. In recent times, Pakistan has seen an abrupt increase in government borrowing from scheduled banks. The latest gures released by the SBP show that in September 2011, the ratio of scheduled banks credit to the government to the total credit given by scheduled banks stood at 38 percent, as compared to 27 percent in September 2010.
A healthy debt market is also crucial for proper working of the nancial sector of a country, as it enables the countrys saving to be channelled towards investment. In Pakistan, scheduled banks are reluctant to lend generously to the private sector. This lack of enthusiasm is mainly due to NPLs, which the private sector owes them. By lending to the government, banks have zero default risk, since they have a sovereign guarantee. Since a large portion of the pie is eaten up by interest servicing and other non-developmental expenses, there is little left to spend on infrastructure development. Pakistans spending on development is a mere 15 percent of the total expenditure. Had there been less debt, a greater portion of the revenue would have been spent on developing infrastructure. This would have enabled businesses to function properly and pay their dues.
THE WAY OUT

Reforms should be done in public sector enterprises privatisation of the sick enterprises should be done to ease the burden on the government. Subsidies to the energy sector should be rationalised targeted subsidies being the focus.. In the long-term, expenditure on non-development heads should be curtailed and focus should be on infrastructure development, especially development of power infrastructure. On the other hand, stern tax reforms should be implemented, which are not possible without serious political will. Lastly, and most importantly, the government should stop interfering in the monetary policy and SBP should be given complete autonomy. Without these measures crowding out would continue to be a menace for the economy.
WHERE IS GOP GENERATING DEBT FROM?

As mentioned earlier, large subsidies, interest payments, growing security spending, expenditure on circular debt, extreme mismanagement and corruption in government enterprises are the main culprits behind the high government expenditure. Not much needs to be said about the profound 450 billion each year from the economy. The magnitude of the debt burden can be seen by the fact that in FY11, domestic debt servicing constituted more than 18.4 percent of the total expenditures. The revenue side too is not doing any better Pakistan is ranked amongst countries with the lowest tax to GDP ratio (9.3 percent in FY11). Inequitable tax policies, and a lack of stricter penalty regulations, make the tax net a rather shrunk one.
THE RISING GOVERNMENT BORROWING

RATIO OF GOVERNMENT CREDIT TO TOTAL CREDIT FROM COMMERCIAL BANKS
0.38 0.33 0.28 0.23 0.18 SEP JAN MAY SEP JAN MAY SEP 09 10 10 10 11 11 11
EFFECT ON PRIVATE SECTOR

From September 2010 to September 2011, there has been a 75 percent increase in scheduled banks credit to the government sector.
THE WRITER IS A RESEARCH ANALYST AT BUSINESS RECORDER. HE CAN BE REACHED AT: fahad1534@gmail.com
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A REASON FOR
BY SIRAJUDDIN AZIZ
OPTIMISM
The nations resilience against a host of challenges highlights the immense
feathers in our cap, Pakistans budget decit is hovering around 7 percent of our GDP, the one that we committed with the IMF to contain at 4 percent. Being a developing country with limited resources, we have failed to curtail our expenses within our means of revenue. There is abject waste of our cash reserves by employing them in most unproductive avenues. Sheer misuse of those limited resources, which a doesnt call for competitive economic gurus or think tanks to question the utility of spending Rs262 million on kitchen up gradation of the Presidential House! Or the rationale behind exorbitant expenses on bullet proof cars for cabinet members. Does this mean that we also utilise the public treasury for importing these vehicles for the 180 million people of this nation since their lives are not any less precious! Why cant this nation of miraculous potentialities, once and for all break the begging bowl and look inwards to draw on the mammoth resources of wealth residing within the pockets of many segments of society. We have signicant stratas of people, who are roaming the lands without any spec of tax accountability. The tax collection net is terribly skewed, draining the last drop of money from the salaried classes or the corporate, but there are numerous agriculturalists, industrialists, land lords, feudal lords and dignitaries in the upper echelons of politics who have conveniently evaded the tax net. ONE doesnt have to be a professional sociopolitical analyst to vouch for the incredible resilience that Pakistan operates with. A cursory glance over the last few decades of the economic and political journey of the country reveals the strength that Pakistan as a nation has exhibited at every step of the way. Be it a state of lawlessness, political disorder, a nancial upheaval in the global markets, debt crises, a serious liquidity crunch in the local nancial sector, horrendous earthquake rattling the country, or oods washing away all the resources of a sizeable population, drone attacks, bomb blasts, rallies and strikes, soaring ination; the tale of woes is endless but its no match against the grit of its people. They spring back into normalcy within hours of massive chaos and pandemonium. If we take an overview of Pakistans economic approach, we can clearly see, that compared to other countries in Asia, Pakistan has been the rst to liberalise its economy. World Bank in its report Ease of doing business 2011 ranks Pakistan higher than BRIC countries in many categories. If we take the auto manufacturing case, then Pakistan is the largest producer of Toyota Corollas in Asia by producing 200 vehicles a day. Pakistan boasts of one of the biggest fertiliser industries in the world with about 8 million tons of installed capacity, which also includes the worlds biggest urea plant. If we look at FMCGs, Unilever has been enjoying hefty returns on average in Pakistan. The banking industry has ourished at an unprecedented level, compared to any developed countrys nancial industry, the boom that Pakistani banking sector witnessed is a testimony to the astounding potential that the countrys nancial infrastructure harbors and it has been proved by the quantum of interest that overseas investors have been displaying. The phenomenal growth that Pakistans telecom sector has experienced is unbelievable, having the highest mobile penetration rate in South Asia. Considering so much progress from a developing country which has a chequered past in terms of economic stability, law and order issues and volatile political elements, indisputably, it has the capability to add enormously to the GDP! Then why are we still categorised as the infamous nation whose tax-toGDP ratio is abysmally low infact, the lowest in the entire South Asian region? What a stark contradiction and irony. Not only this, it is alarming to note that with such formidable At the moment, the tax to GDP ratio of Pakistan is recorded at 8.8 percent, which is even below the promised 10 percent last scal year. According to FBR stats, so far it has been able to identify 2.3 million high net worth individuals in Pakistan who do not pay taxes and out of this 70,000 extremely well to do individuals dont even have NTNs! Of course there are plenty more evaders than this 2.3 million gure, which have yet to be unearthed, but since FBR lacks human resources to dig the tax evaders, the process has been delayed beyond committed timelines. As far as the tax to GDP ratio is concerned, there is certainly a state of dire emergency. There should be immediate restructuring in the tax reforms, concrete strategies with solid plans and timelines need to be devised to achieve a passable tax ratio at least at par with the neighboring countries. Tax avoidance needs to be caught and dealt with strongly. The authorities need to make example out of evaders. The half baked endeavors of revenue collectors resulted in a 6 percent scal decit in 2009-10. A formal plan needs to be enacted to tilt the balance from over taxed segments to undertaxed or non taxed stratas, while the tax rates need to be revisited.
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For example, agriculture and services sectors comprise three-fourths of the national income but their contribution to tax base, estimates to a measly 10 percent of GDP only! Sectors such as real estate, retail, and foreign exchange businesses should be taxed appropriately enough to enhance the tax base from below 9 percent to at least 15 percent. India and Sri Lanka are operating with tax ratio of 16 percent and 15 percent respectively of their total GDP. Turkey has hiked its tax ratio from 13 percent to 33 percent whereas Brazil has gone up to 37 percent. There has to be a complete turnaround now, since obviously either past policies have not been working or have not been implemented and followed up on, in spirit. The tax machinery needs to be geared up and greased, the tax authorities can set out a more amicable approach in their drive towards tax collection, people need to be motivated to pay their taxes, the government needs to introduce welfare mechanisms into the country so that its citizens can experience the quality of life and facilities that other prospering and developed nations deploy. Countries like Singapore, Hong Kong or the West may have high tax rates but their nationals tend
REAL ESTATE, RETAIL, AND FOREIGN EXCHANGE BUSINESSES SHOULD BE TAXED APPROPRIATELY
to enjoy the benets in basic amenities, social security and utilities. If we introduce that system here, the tax lers may increase in number. Custom controls can be strengthened at import stage and at international borders, monitoring of under invoicing, gear up audit functions and bring in accountability by identifying non-compliant taxpayers and ensuring they turn into tax lers. Our countrys leadership and dignitaries need to set examples. They must become ag bearers of this gigantic economic responsibility, by curtailing the public expense, declaring their assets, submitting returns annually and promote the culture of tax payments. We should rely on our indigenous resources and liberate ourselves from the humiliation of beggary. The solution to our economic woes is in our own hands.
THE AUTHOR IS A SENIOR BANKER WHO RECENTLY RESIGNED FROM THE POST OF PRESIDENT, BANK ALFALAH. HE CAN BE REACHED AT: cirajuddinaziz@gmail.com
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TARGETING THE UNBANKED THROUGH TECHNOLOGY

Governor State Bank, Yaseen Anwar
FOREIGN DIRECT INVESTMENT
Foreign investment ows to the country have registered a sluggish pace in recent months, as the global economic downturn, has coupled with heightened political uncertainty and other factors in the country. However, given Yaseen Anwars broad experience as an investment banker before he joined State Bank of Pakistan, he just might be exactly right for evangelizing investment opportunities in the country. And sure enough, Anwar has hit the ground running being in active dialogue with banks, other nancial institutions and sovereign wealth funds from China, Turkey, Qatar, Iraq and other countries. Heralding the entry of China-based ICBC in the local market, he says, these are long-term players and their entry sends very positive signals to other investors. He also contends that OECD countries are not providing the returns that investors want and that Pakistan presents ample opportunity for sovereign wealth funds from the Middle East along with other international nanciers. up again. Yaseen Anwar contends that the long-term x entails developing the corporate debt market. In fact, he has already set the wheels turning on this initiative, which Anwar hopes will be up and running within the next two years. He reveals that the central bank is working in close coordination with the SECP to this end. You need four market makers, who have the depth and the breadth to originate and distribute paper. The legal structure, training of the people, etc will come along with it, remarks the governor adding can be increased successively. The companies of the future will be able to bypass the banks and access credit directly from the markets, adding that once government can stop relying on the central bank to raise loans due to increased market liquidity. The governor laments that instead of tight scal policy and loose monetary policy to encourage private sector growth, the reverse situation is prevalent in the country. But that can change within two years, if we just develop our debt market, he says.
In the early 1980s, John Reed of Citibank invested heavily in Automated Teller Machines (ATMs) when most bankers were skeptical about the new technology. Look where the world stands in terms of use and acceptance of ATMs today, states Governor, State Bank of Pakistan (SBP), Yaseen Anwar. Technology enables low cost delivery of products and services, explains the governor, during an exclusive interview with BR Research, stressing the need for rapid adoption of new technology by banks and other nancial institutions. The banks must deploy mobile banking and other technologies to bring the unbanked people to the banking sector, he says. The governor concedes that many banks are just not diversifying enough to venture into areas like agriculture, housing and SMEs, but contends that the more innovative nancial institutions are already making inroads in these sectors. The implementation of technology has already expedited funds transfers and helped shore up remittances to the country and Anwar believes that along with comprehensive documentation, it can propel the nancial sector to improve nancial inclusion and play a better role as nancial intermediaries.
REMITTANCES
There is no mystery concerning factors behind rising remittances to the country, said SBP Governor, explaining that a three-pronged approach taken by the apex regulator is yielding results. In 2008, two foreign exchange dealers, Zarco and Khanani & Kalia were shut down. Immediately after their closure, Anwar, then deputy governor SBP, sent a circular in January 2009 to all exchange companies and other stakeholders which mandated: all counterparties these companies deal with must be regulated by their local regulatory body. Direct oversight through location visits by SBP inspectors also prodded exchange companies to follow regulations. Besides closure and regulations, the third prong of SBPs initiative to this end comprises renewed focus on incentive schemes as well as the development of Real Time Gross Settlement (RTGS). This mechanism has cut money transfer times from two to three weeks of oat with the banks to under an hour. Highlighting the consistently rising trend of remittances since January 2009, Yaseen Anwar asserts that besides the incremental ow of remittances, much of the increase is also due to the shifting of money transfers from informal to formal channels.
ONE SIZE DOES NOT FIT ALL, HE SAYS WHEN QUESTIONED ABOUT THE EFFICACY OF MINIMUM CAPITAL REQUIREMENTS AND CAPITAL ADEQUACY RATIO.
The central bank, after signing a currency swap arrangement with Turkey, has recently signed such arrangement with China as well to increase the countrys bilateral trade. Besides this, Yaseen Anwar is also spearheading plans to improve the access and availability of credit within Pakistan. Pakistan has many opportunities and we must work towards develthe real risks and returns, he sums up.
FINANCIAL INCLUSION
What happens if government borrowing from scheduled banks goes to zero today? he questions rhetorically. Most banks in the country are not geared to immediately step up operations for small and medium enterprises, housing, and agriculture sectors. This quarter-to-quarter approach prevalent among bankers concerned with securing periodic performance-based perks is not alien to Yaseen Anwar. But for me, there is a greater national interest here and then there are the interests of shareholders as well, he says. For this reason, governor SBP is prodding banks to diversify into underserved and unserved sectors as well as geographical areas. Lending to SMEs can be very protable for banks, he says, adding that there is also a huge vacuum in housing nance in the country. Precluding any comparisons with SBPs Indian counterpart, he points out that an overwhelming majority of that countrys nancial sector is still under government ownership and that countrys central bank is able to direct banks to lend in certain areas. We have shed that approach back in 1996, he says, adding that the key to nancial inclusion and diversifying banks use of technology.
CORPORATE DEBT MARKET

Prime Minister Yousuf Raza Gilani formulated a six-member committee tasked with nding a solution to the mushrooming inter-corporate debt in the countrys energy sector. As a member of this committee, Governor SBP held consultations with banks, IPPs and other stakeholders to convert Rs380 billion in circular debt into PIBs and Treasury Bills. But the governor highlights that this short-term remedy does not solve the problem as the hemorrhaging continues and six months later the debt may build
AUTONOMY AND TEAMWORK

Yaseen Anwar is unwavering in his belief that the central bank must formulate monetary policy independently and must maintain its autonomy. He insists that in all other operations, we all must work together
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not only with the ministry of nance, but also with other government departments towards a common agenda, to achieve targets set by the government. He also asserts that the government has made a conscious decision to adhere to the disciplinary steps advised for scal management by the International Monetary Fund. The central bank has also adopted a exible approach towards banks. One size does not t all, he says when questioned about capital adequacy ratio. He opined that current economic uncertainty strengthens the case for exibility on MCR and that capital adequacy ratio is more relevant in the current scenario. Yaseen Anwar appears averse to slapping penalties on nancial institutions for not meeting MCR during testing economic times. He highlights that not only do such measures reect poorly on the subjected bank, but also impairs growth by curbing that institutions ability to cater liquidity to the markets. Anwar has also allowed banks to realize higher forced sale value (FSV), in order to help these institutions weather the global nancial turmoil. On the other hand, dividend payouts for FSV have been restricted to shore up capital reserves for banks, he adds.
The big banks in the country hold a major chunk of compete with them, the SBP Governor observed. He highlights that even a slight cut in the discount rate helps lower cost of capital for smaller banks.
Ultimately, oat will be gone and Cash Management products will develop.
To ensure big banks do not delay payments and choke smaller institutions, the central bank will introduce Anwar, who is an advocate of developing synergies payments. Payments going out by noon will be among nancial institutions and the use of technol- charged a specic rate while payments made by ogy, also says, Once the medium-sized banks are three in the afternoon will be charged a higher rate well grounded in cash management products, the while payments made by ve oclock will be charged small and mid-sized banks may be able to team even higher rates, he says, explaining that these up with brokerage houses that do not have measures will encourage banks to settle outstanding minimum capital requirements. Together they payments sooner. their clients, he says. Though he concedes that these steps will take time before spreads fall signicantly, Yaseen Anwar is still against setting minimum return requirements for banks against the deposits they receive. He cautions that once such a oor is put in place, it can create crises when lending rates plummet.
GOING THE DISTANCE

Among SBP and banking circles, Governor Yaseen Anwar is known for making quick decisions. But he understands that structural changes in the nancial markets and institutions along with a reorientation of their priorities require deliberate moves over the remittances are already bearing fruit, bringing ICBC to Pakistan and execution of currency swaps with China and Turkey will no doubt improve condence in our economy. Honing in on the development of debt markets, real estate nancing and other initiatives of SBP, Anwar improved role of banks as true nancial intermediaries, better access to credit for private sector, which in turn will stimulate economic growth.
PAYMENTS
Today through RTGS we process about 12,000 items per day, which is about Rs75 billion per day. Thats peanuts! exclaims the former investment banker. We need to leap frog to the next level. In the future, payments will be generated from third party corporates, trading of xed income instruments, stocks, etc, he says, adding that this jump must come quickly for Pakistan. RTGS will play a pivotal role in this transformation. Those banks that upgrade their technology will business to all customers, he says, adding:
SQUEEZING SPREADS
Yaseen Anwar, when questioned about the impact of high banking spreads in the country, said: The consumer is paying a high price and big banks are sitting on massive amounts of oat and they are generating substantial amounts of revenue from that.
. AND MOBIN BY ALI KHIZAR INTERVIEW NASIR
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NO LEGAL STRUCTURE THAT PROVIDES SECURITY TO THE LENDER

UBL President, Atif Bokhari
ful. The quantum of provisions was increasing. NPLs BR Research: How far do you think is the high interest have not risen so much, there should be no new major rate environment discouraging private sector? wave of NPLs in the near future; but the problems with existing NPLs have become more severe. Atif Bokhari (AB): Banks are shy to lend to the private sector because they have carried huge non perform- BRR: Where is fresh lending taking place? ing loans (NPLs). SMEs can sustain a 14-18 percent interest rate environment because of high margins. AB: In the pharmaceutical industry, but the demand What killed them was not the banking industry but there is not too immense. Some local companies are lack of power and gas. The SME default rate to the also outperforming MNCs exporting huge quantities banks is over 20 percent. and having brilliant capital structures being more As for the large corporate side, the main problem is of our textile manufacturers are not manufacturers but speculators the industry was earning good prots ten months back, but they never paid back the banks. Their project cost is actually 100 percent debt nancing on a low-margin commodity business. equity-based. these developments are enough to keep us away from the IMFs window. Rupee depreciation will be a function of the regional currencies and the intrest rate regime that SBP follows in the medium term. Ination too, is cost-push in nature. Moreover, a lot depends on the support price for wheat BRR: Currency in circulation shows that money is moving from urban to rural areas. Some experts opine that this money is leaving the banking sector and there is little the banks have done about it.
Agriculture is there, but that has to be developed into a corporate farming structure. This is where the legal AB: Money has own to the rural industry agriculture, helped by high wheat prices. This is undocumented. sector has to come in and help banks.
BRR: What developments have taken place regarding conversion of quasi-scal debt worth Rs400 billion into PIBs and T-bills? This move appears to be little I dont have a soft corner for the large corporations but more than window dressing, what is your opinion? I do with SMEs, however there has to be some incentive for a bank to lend to the SMEs. AB: It appears that the government has resolved the BRR: Suppose an SME goes for 100 percent debt nancing. Is debt cheaper than equity in that case? withdrawn at the last minute. We dont even know where we stand! The last letter we have is dated September AB: By denition SMEs do not have a high equity base; and quite some time has passed since then without any hence debt is cheaper than equity, in spite of the 16 further development, so we really dont know where it percent interest rate. stands as of now. BRR: In your opinion, what is a viable solution to this problem? AB: The legal structure needs to change so that people know that if you are unable to pay back to the banks, it will be decided in six months and you will be declared bankrupt. Most cases in Pakistan are willful defaults; not SMEs but large businesses. This can be rectied through the legal system. People create their own wealth out of the company balance sheet, creating high-leverage issues. BRR: Can that be dealt with, through better corporate governance?
They do not want to pay for withdrawals after depositing money in a bank and they have an issue if income tax authorities are involved. Thats not our fault. We have at least one bank in every locality, branches are not the issue. Take away duties and the fear of being documented, and money will come in banks for issue but it hasnt been resolved. There have been a security reasons. Besides, with the way commodity prices have moved, dealers of agricultural products get a return of at least 80 percent annually. This kind of return is not possible for any bank to give or for any documented business. BRR: Aarhtis lend at exuberant rates of 40 to 50 percent to the small farmer. Why dont you lend to them? AB: Aarhtis can collect from them, we cannot. SBP has regulations for collecting debts. There is no legal structure that provides security to the lender. BRR: There were talks about mortgage nancing but nothing has been done. Why?
Conversion of debt into the PIB and T-bill has taken debt away from our advances, creating room for lending more to the power sector. I think 22-27 percent of balance sheet of the large banks would now be in the power sector. Once it goes into a government obligation, it would create room in our balance sheet because we can concentrate on certain sectors. But that is not a solution. It is not right to say that the circular debt issue has been resolved; only a certain amount of the debt has been re-proled.
AB: That is why they dont opt for listing. And even if they do, it is 95 percent held by the family. There is no AB: I dont think capital ight will happen. There is no turnover in shares of large textile companies. investment opportunity outside Pakistan; it still provides a better rate of return than any other economy. The BRR: A few months back, many from the industry said other things you mentioned might happen, but I think that NPLs will come down but that didnt really we should be okay in terms of BOP at least till June-July. happen. Why? The facilities of currency swap with Turkey and China AB: The moment you become sub-standard, you are are good. The Chinese arrangement alone is a standby an NPL. The classication kept on pushing it some line of credit of $2-2.5 billion. It becomes a settlement accounts that were sub-standard moved towards doubt- account and is not really investment inow but I think
AB: Nothing will be done because of the legal system. For a particular product, our success in the decree, execuBRR: As interest rates fall, there are fears that import tion and auction has been two cases out of the 78 that were led four years back. That answers your question. will result in capital ight. How real do you consider the threat of Dutch disease? BRR: What about mobile and branchless banking? AB: The market is there, it just needs to be informed. There are only two players, UBL OMNI and Easypaisa. We hope awareness will grow with the new regulations that have come in.
. INTERVIEW BY ALI KHIZAR AND MANAL IQBAL
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THE NEED FOR FINANCIAL INCLUSION WITH A PAKISTANI PERSPECTIVE

BY HAMMAD HAIDER
PAKISTAN is going through incessant crises. Yet a hope in resolution of economic and social problems that people face at the grass root level in the country. It is happening under the aegis of Financial Inclusion! Financial inclusion matters for Pakistan. Various studies conducted by the World Bank show that a one percent increase in nancial inclusion can increase per capita income by 3 basis points, business creation by 50bps and employment by 6bps. It can also reduce It is ironic that despite having a protable banking sector, nancial inclusion in Pakistan is abysmally low, as roughly 84 percent of adult Pakistanis remain unbanked. Most of the big banks, which are sitting tight on fat balance sheets and shovelling in stupendous prots, arent really interested to ll in the void. It is in this backdrop that branchless banking has emerged as the best hope for nancial inclusion in Pakistan. In a country where more people have access to mobile telephony than toilets, it was only prudent to capitalise on the exceptional mobile teledensity to reach out to the nancially excluded, particularly those in rural areas. The State Bank of Pakistan took a decisive initiative in 2007, came out with detailed branchless banking regulations in 2008, and opened up the market to non-banking corporations too. There are reasons why! Research has shown that wide scale adoption of BB services, through mobile nancial services, can do wonders in bridging the nancial divide in Pakistan. For instance, a recent study conducted by the Boston Consulting Group for Telenor found that nancial inclusion in Pakistan can be increased by 20 percent up till 2020 if a sizable rollout and adoption of MFS started in 2011 (see illustration). The MFS potential is such, that by 2020, 27 million adults might hold saving accounts; 17 million more might pay utility bills through mobiles; 10 million might get access to credit, and another 4 million might get insured. MFS might help create up to 0.6 million new businesses and 1 million new jobs, mostly in rural areas. $3 billion (in PPP terms) by 2020. Currently, the market is dominated by two major players, Telenors Easypaisa and UBLs Omni. Both enjoy rst-mover advantages and have reached signicant scales. Easypaisa leverages Telenors mobile subscription and distribution networks, along with Tameer Banks micronance expertise. UBL, a major bank in the country, relies on its in-house expertise and banking footprint. (P2P) transfers (domestic remittances, account transactions), person-to-government (P2G) transfers (utility bill payments), and merchant payments. Two other players are also operating in the market, albeit on a small-scale. The First Micronance Banks BB venture, in collaboration with Pakistan Post, is Bank is running a pilot project at three sites and may expand to 25 locations by year end, as per SBP.
REGULATORY AND COMPETITIVE SCENARIO

Thus far, the regulator has been one-step ahead and cognizant of the evolutionary nature of the market. SBP revised the BB regulations in June this year to align them with the changing market realities. For instance, the transaction and account balance limits were revised upwards to allow for more liquidity in the system. Level 0 branchless banking account was introduced to bring the low-income segments into the loop (see illustration).
MARKET PERFORMANCE
The market for BB services has been growing at a rapid pace since their rollout in 2009. Latest gures also show a double-digit growth in the market. The
REVISED BRANCHLESS BANKING ACCOUNTS' LIMITS (RS)

Account levels Level 0 Level 1 Description Basic BB account with low KYC req. & low transaction limits Entry level a/c with adequate KYC req. commensurate with transaction limits Top level a/c for individual customers with all BB facilities & subject to full KYC req. Speci c for merchants, businesses, banking agents or third-party service providers Daily transaction limit 15,000 25,000 FI's discretion * FI's discretion Monthly transaction limit 25,000 60,000 FI's discretion FI's discretion Annual transaction limit 120,000 500,000 FI's discretion FI's discretion Maximum balance limit 100,000 No Limit No Limit No Limit
FINANCIAL INCLUSION IN PAKISTAN: IMPACT OF MOBILE FINANCIAL SERVICES

FULLY BANKED
% OF ADULT POPULATION 100 75 75 83 50 25 9 15 9 11 9 10 10 11 8 10 0 84 81 79
UNDER-BANKED
UN-BANKED
59
Level 2 Level 3
BASELINE INCL. MFS BASELINE INCL. MFS BASELINE INCL. MFS
15
26
2011
2015
2020
* FI can set limits commensurate with each customers pro le & FIs own account monitoring capacity
SOURCE: SBP; BRANCHLESS BANKING REGULATIONS (UPDATED ON JUNE 20, 2011)
SOURCE: 'SHAPING OUR FINANCIAL FUTURE'- BCG STUDY FOR TELENOR (2011)
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SBP data reveal that, by September end, the BB agent network expanded by 10.23 percent to reach 17,448 agent locations, while the number of active BB accounts expanded by over 50 percent to reach 357,598, whereas BB deposits stood at Rs187 million. The liquidity in the system has been improving since. For instance, daily number of BB transactions reached 176,296 by end of September, each one averaging Rs3,700. The number of transactions between July and September grew by 27 percent to reach 15.87 million. Volume of transactions grew by a whopping 43.2 percent to reach Rs58.7 billion during the period (see illustration).
BRANCHLESS BANKING TRANSACTION (JULY-SEP., 2011)

TRANSACTIONS
(Nos.) Funds Transfer Deposits Bill Payments & Top-ups Loan repayments Donations Others Total 5,573,311 822,271 9,286,912 10,216 70,328 103,634 15,866,672
VOLUME
Rs (mn) 35,232 642 19,337 23 2 3,481 58,711 $ (mn) 406.74 7.41 223.20 0.27 0.02 40.19 677.80
Source: SBP Branchless Banking Newsletter (October 2011)
The transaction mix is heavily tilted towards bills payments and personal transfers. Between July and September, nearly half of the transactions were for bills payment, followed by 30 percent for P2P fund transfers. Roughly 31 percent of the liquidity came from P2P transfers, followed by 27 percent from account-to-account transfers, 17.7 percent from bill payments, and 16 percent from merchant payments.
MARKET RIPE FOR NEW ENTRANTS

SBPs preference for a bank-led BB model necessitated that any new-entrant ought to have banking reaction from the banking and telecommunication sectors had been to wait and watch before taking the plunge. Now that the market has revealed its potential and established its credentials, we are witnessing urgency from the formerly-reluctant players to enter the market. Habib Bank Limited, the banking giant, is preparing to launch its branchless banking services in 2012. Much like UBL, HBL has also decided to go solo. Mobilink, the cellular giant, has also come one step the micronance banking license for its associated concern, Waseela, two months ago. TCS, the logistics giant, is expected to apply for its own banking license, as it is reportedly interested in using its couriers as barefoot bankers. Askari Bank, a mid-sized local bank, is aiming to channel army salary disbursements by recruiting agents in strategic locations near army barracks. Other opportunities may also open up. Pilots are underway for the government-to-person (G2P) transfers, whose success may follow a large-scale G2P roll-out. Tens of billions (Rs) worth of market, comprising of government salaries, pensions and welfare payments, could be the markets windfall.
Secondly, a shift needs to take place from over-the counter transactions towards account-based transactions, in order to realise the real potential of branchless banking. Towards that end, saving accounts, packaged with attractive rates, should be introduced so that people have an incentive to place money in their BB accounts. Thirdly, the strategic focus of BB services has to be reverted back to rural areas in order to cause a sizable dent in nancial exclusion. The current strategies appear to focus more on large urban pockets and middle class segments, where the service providers are able to leverage early adoption, higher literacy rates and migrant white collar workers. Fourthly, it is important to have interoperability in the system, to make the competitive environment content-driven rather than coverage-driven. With interoperable agent and technology networks, the strategic focus would move towards developing nancial suites relevant to each market segments. Moreover, new entrants may face fewer barriers.
INTERNATIONAL RECOGNITION
Owing to the SBPs enabling persona and BB markets early success, the Consultative Group to Assist the Poor a research and policy centre at the World Bank has termed Pakistan a laboratory for innovation for BB services. Among the countries studied by CGAP who have experimented with BB (e.g. Brazil, Ghana, India, Mexico, South Africa), Pakistan is heralded by CGAP as a success story. To assess whether branchless banking was actually reaching out and transforming the lives of the poor people, CGAP conducted a survey research earlier this year in Pakistan, India and Mali. In Pakistan, over 300 interviews were carried out with Easypaisa customers in 10 agent locations across rural and urban Pakistan. They were asked questions related to their BB service usage, household living conditions and income levels. Though the ndings of this survey research can hardly be generalised, they do provide a direction of where things are heading. CGAP found that 5 percent of Easypaisa respondents were living below $1.25 per day, and roughly forty percent on less than $2.50 per day (in PPP terms). Around half of the respondents did not have a formal bank account and resorted to informal money lenders. According to CGAP, over 90 percent of respondents three-quarters among them felt the service had a positive impact on their lives. Through these ndings, CGAP established that in Pakistan, there is a strong correlation between the likelihood of being poor and the likelihood of not having had a formal bank account.
FINAL WORD
Notwithstanding the challenges, the best hope for nancial inclusion rests with the wide scale provision and usage of branchless banking services, especially in rural areas. In the presence of a exible regulator and a market with phenomenal potential, it is time the naysayers took a leap of faith and became part of this silent revolution.
CHALLENGES
The market is still evolving and there are certain challenges and issues that need to be resolved to deepen the penetration and viability of BB services. Firstly, the liquidity in the system has to be improved to make BB services viable and sustainable. For that, building customers trust and raising basic nancial literacy are important to increase transaction volumes. Focus needs to be on illiterate people and rural folks who are usually sceptical of settling nancial matters over mobile phones. Preventing fraud & abuse at the agents end is crucial to maintaining reliability and security of services.
THE WRITER IS A RESEARCH ANALYST AT BUSINESS RECORDER. HE CAN BE REACHED AT hammadshah24@gmail.com
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MOBILE BANKING IS BEST BET FOR MORE FINANCIAL INCLUSION

HBL President, Zakir Mahmood
For Zakir Mahmood, President Habib Bank Limited (HBL), nancial inclusion is the epitome of HBLs banking. He points to the low penetration of the banking sector, stating that 28 million bank accounts are very low for a population of 180 million.
The HBL president also highlights the need to introduce products to promote a savings culture. Currently the national savings rate of 11 percent of in excess of 20 percent of GDP. This gap has to be met through foreign resources.
BANKING THE UNBANKED

In the last 24 months, we have undertaken a number of initiatives to provide payment services through nontraditional channels. HBL has provided payments to IDPs and ood survivors through smart-cards and in 2001, HBL made billions through the Peoples Card Mahmood explains. Over 300,000 ood survivors have been provided cash payments in the last 4 months or so. HBL has also been at the forefront of mobile banking payments using a cell-phone distribution model for payments under the BISP initiative, also donating 60,000 mobile phones to start the Programme. Mobile-banking can be an important tool to access the unbanked as compared to approximately 28 million bank accounts there are almost 60 million unique cell-phone users, says Mahmood. To facilitate overseas Pakistanis who send over $12 billion of remittances into Pakistan, HBL has recently launched the Pardes Card which provides great convenience to the remitter and the family member in Pakistan. The bank will also introduce other pre-paid cards as part of an overall strategy to provide access to nancial services to individuals without access to the normal banking branchless banking within six months.
As such the higher domestic saving rate, the lower will be the need for external borrowings. To address this, HBL has come up with a diverse portfolio of savings products that caters to small savers, businesses, SMEs, and almost everyone, with market-based returns available depending on what the customer wants. Also critical, according to Mahmood, is moving users from the non formal sector to formal banking channels. The banks Watan and Pardes cards, he hopes sector. HBLs popular recent advertisements are designed to deliver the message at the branch, through ATMs, phone banking, and internet and POS machines. ings in cash outside the banking sector. Currently notes in circulation at Rs1.2 trillion constitute 33 percent of overall deposits. As a comparison, the corresponding gure for countries in the region is around 17 percent. If Pakistan can achieve the same level, it would bring over Rs500 billion into the banking sector, which would create capacity for an addition of Rs1 trillion of new credit to the economy. It is therefore necessary to promote a strong savings culture at every level in our society. HBL has been a signicant provider of credit to the private sector. In recent years, it has been the leading bank in providing nance to IPPs and all segments of the energy sector, which is a vital input for economic growth. As for new capital investment, Mahmood observes that the demand for credit has been at. The SME sector has been hurt by the energy crisis while consumer credit has gone through challenging times. Despite these challenges, the bank has been growing its credit portfolio in all segments - agriculture, SME, consumer nance and the corporate sectors. In the energy sector, it has sharpened its focus on nancing alternate / renewable energy projects, particularly wind power. As the cost of conventional fuels rises, such projects are becoming nancially feasible. Any business we invest into needs to be sustainable says Mahmood. The bank president stated that recovery of loans is a key priority for the bank. Only when you retrieve credit are you able to provide it for other projects and later cycles. The downturn in the segments of the Pakistan business community.
CULTURE OF SAVINGS
Citing the presence of 28 million bank accounts, Mahmood believes that the actual number of unique account holders is only about 20 million, as there are over 5 million individuals holding more than one account. adopted a segmented approach to the market. banking needs of each segment, e.g. even in a single family, each member may have a need for HBLs school account which caters to the needs of children up to 18 years is one example of this concept. This has been followed recently by the launch of a youth account.
RECENT ADVERTISEMENTS ARE DESIGNED TO DELIVER THE MESSAGE THAT BANKING TRANSACTIONS ARE NOT DIFFICULT AND, IN FACT, ARE SIMPLE AT EVERY LEVEL AT THE BRANCH, THROUGH ATMS, PHONE BANKING, AND INTERNET AND POS MACHINES.
Page 20
This has been reected in a rising NPL trend for the banking sector as a whole. HBL has worked to control the NPLs and these have now stabilised, says to Mahmood.
WATCHFUL: AT HOME AND ABROAD
WE CAN SEE ECONOMIC AND FINANCIAL TURMOIL ALL AROUND US AND POLICYMAKERS EVERYWHERE ARE STRUGGLING TO COMBAT LOW GROWTH
Speaking about the HBL internationally, he says that HBL has a large international network and its new remittance products are aimed at leveraging its overseas network.
The cut in discount rate has been welcomed by the business community. They are hopeful that a downward trend in the discount rate may help bring down borrowing costs generally which would in turn bring down the cost of doing business for rms relying on bank nancing and other similar means to fund their operations. However, Mahmood appears watchful over the likely impact of monetary easing, given the plethora of challenges facing the global and local economy. We can see economic and nancial turmoil all around us and policymakers everywhere are struggling to combat low growth and stresses. How this works out in the next 6-12 month depends on a number of factors, such as global oil and commodity prices. He underscores that the challenges being faced on a global level including the euro zone crisis have direct impact on the Pakistan economy.
Mahmood adds that in the international markets the key market clusters are South Asia, the Gulf and the UK, where we have a substantial presence and where we have recently acquired a local bank, Habibsons. We are also looking to expand our business activities in Central Asia and Africa, frontier markets which are expected to show growth rates of over 5 percent which make them attractive for banking opportunities. The bank President is condent that HBL, which enjoys a solid reputation locally, can leverage its popularity at home to enhance its presence abroad.
. INTERVIEW BY ALI KHIZAR AND MANAL IQBAL
Page 21
UMER CONS TS RIGH

BY DR. SHAHID HASAN SIDDIQUI
THE BANKS in Pakistan infringe upon the rights of their customers mainly in the following ve ways: i. By not sharing their prots with the depositors in real sense notwithstanding that these deposits have been secured on Prot & Loss sharing (PLS) basis. ii. By keeping their spreads (nominal average rate of mark-up on advances less nominal rate of returns paid on deposits). Both, the depositors and borrowers of banks have to pay the price. iii. By allowing higher rates of returns on deposits of bigger amounts at the cost of small depositors. iv. By making huge provisions against Non-Performing Loans (NPLs) even in cases where loans were sanctioned on un-professional considerations or were disbursed without completing the terms of the limit. Due to huge provisions year by year, banks are paying lower rate of returns to depositors. pace on their own or under the guidance / directives of State Bank of Pakistan (SBP). Both, the depositors and other borrowers of banks have to pay the price. To briey explain some of the above points; it is important to examine the following comparative statistics of the banking sector in Pakistan:
Although most bank deposits are supposed to be based on prot and loss sharing, in the country; over the years banks have raked in hefty prots without passing on their benets to depositors. banking spreads have persisted at relatively high levels and banks have also dished out advances to unscrupulous borrowers. the author contends these and other practices infringe upon consumers rights and calls on the central bank to take action against banks in this regard.
Based on these observations, the following conclusions emerge:-
BANKS NOT SHARING THEIR PROFITS WITH DEPOSITORS:

As against rise of 269 percent in deposits, 268 percent in advances, 268 percent in assets, 394 percent in equity, the pre-tax prot of the banking sector between CY2001 and December 2010 rose by 9991 percent. It is evident that banks have not been sharing their prots with the depositors notwithstanding that all deposits in Pakistani rupees are secured on PLS basis; except of course the deposits in current accounts. Banks, by not sharing their prots with the depositors, are thus violating the agreement with the depositors. Banks are now paying a negative real rate of return (rate of return paid on deposits less rate of ination) to depositors which was termed by the Governor SBP as exploitation in 1993. The 1973 constitution of the Islamic Republic of Pakistan requires the State to ensure that all forms of exploitations are eliminated but in the case of exploitation by banks, SBP itself is presiding over this process of exploitation. The banks paid a real positive rate of return of 2.1 percent in CY2001, but as the share of deposits of the privatised banks rose signicantly after the privatisation of HBL and UBL, the banks formed a cartel and started paying real average negative rate of return to depositors. The banks paid a real average negative rate of return of over 3 percent to their depositors in 2010. It will be recalled that at least three former Governors of SBP during their tenure had expressed serious concerns that banks are not paying fair returns to their depositors. The Governor SBP on December 03, 2006 acknowledged that banks have not been sharing their prots with the depositors. It may be mentioned that had banks paid the same average real rate of return to depositors between January 2001 and December 2010 and even not shared the phenomenal rise in their protability, the depositors during these ten years, would have received an additional prot of about Rs1100 billion over and above the amounts already received by them as prot on their deposits.
BANKING SPREADS
The high banking spreads are also responsible for payment of poor returns to depositors. The spread increased from 2.4 percent in 1989-90 to 7.1 percent in 1999-00. The Governor SBP on September 16, 1995 said: This spread must be reduced to a normal level of 3-4 percentage points, which can benet both savers and borrowers. The spread of the banking sector during last two decades has been over 7 percent in Pakistan. The Governor SBP about 18 years ago said: There is, of course no mystery about this spread as it reects the
COMPARATIVE POSITION OF BANKING SECTOR

(RS bn)
DEPOSITS ADVANCES ASSETS EQUITY PRE TAX PROFIT
CV2001
1,475 910 1,942 141 1
DEC-2011
5,450 3,349 7,138 697 111
CHG
269% 268% 268% 394% 10009%
The Governor SBP on December 19, 2006 said that as the banks have monopoly over the nancial system, they are not reducing their spreads. The SBP by simply a stroke of pen can direct the banks to reduce their spreads. The SBP should therefore; direct banks to restrict their banking spread up to 3.5 percent.
HIGHER RATE OF RETURNS ON DEPOSITS OF LARGE AMOUNTS

The banks have now been paying higher rates of returns on deposits of large amounts meaning thereby the bigger the amount of deposits higher may be the rate of return. The SBP vide their BPD Circular No. 16 of 2005 had allowed this injustice at the cost of small depositors. This has increased the average rate of return on deposits but the real beneciaries are big depositors while ago is unjust and must be withdrawn.
BANKS ARE NOW PAYING A NEGATIVE REAL RATE OF RETURN TO DEPOSITORS WHICH WAS TERMED BY THE GOVERNOR SBP AS EXPLOITATION IN 1993.
PROVISIONS AGAINST NPLS

The total provision held by the banks against NPLs in Pakistan at the end of CY2001 were Rs134 billion
Page 22
THIS IS SIMPLY BEYOND COMPREHENSION THAT ISLAMIC BANKS ARE ALSO NOT SHARING THEIR PROFITS WITH THE DEPOSITORS IN RESPECT OF DEPOSITS SECURED ON PLS BASIS
December 2010 stood at Rs366 billion. The NPLs of the banking sector which stood at Rs244 billion in CY2001 rose to Rs548 billion in December 2010. There are reports that the quantum of NPLs of banks continues to rise, meaning that more provisions will have to be made for these loans, the price of which will have to be borne by the depositors of banks notwithstanding that some of these loans may have been allowed on unprofessional considerations or were not properly monitored by the banks.
WRITE OFF OF ADVANCES

It may be mentioned that only ve major banks between 2002 and 2010 businessmen. Some of these advances were also allowed in an unprofessional manner. It is apprehended that advances of over Rs100 billion will have to be by banks under SBP circular No. 29 dated October 15, 2002, which is against the Partnership Act as also against all norms of justice. The Chief Justice Supreme Court said on December 24, 2009 that the apex court will examine this circular but the decision is still awaited.
ISLAMIC BANKS ALSO INFRINGE UPON THE RIGHTS OF THEIR CUSTOMERS

The Islamic banks are also not sharing their prots with the depositors in the real sense. The Islamic banks like interest-based banks are keeping their spreads very high higher than the average spread of interest-based banks, notwithstanding that the ratio of their NPLs is much lower than the ratio of interest-based banks. This is simply beyond comprehension and is against all norms of justice. The rates of returns charged by Islamic banks on their nancing are accordingly very high. Interest is prohibited in Islam as it leads to injustices and Islam is against all forms of injustices and exploitations and pleads an economic system that aims to
secure extensive socio-economic justice. This is simply beyond comprehension that Islamic banks are also not sharing their prots with the depositors in respect of deposits secured on PLS basis, are paying higher rates of return on deposits of large amount and are keeping their spreads higher than interest-based banks. All this is against the spirit of sharia.
RESPONSIBILITY OF SBP
It is believed that if the SBP exercises its statutory authority in respect of the above points, it will not only be fullling its responsibility of safeguarding the interests and rights of their depositors and borrowers, but also of fostering a sound and dynamic nancial system so as to achieve sustained and equitable economic growth and prosperity.
THE AUTHOR IS A FORMER BANKER AND CURRENTLY SERVES AS CHAIRMAN, RESEARCH INSTITUTE OF ISLAMIC BANKING AND FINANCE. HE CAN BE REACHED AT: shsislami@hotmail.com
Page 23
BANKING IN NUMBERS
REVENUE STRUCTURE (9MCY11)
NON-MARKUP INCOME NET INTEREST INCOME
Rs(bn) 250 200 150 100 50 0 TOP FIVE BANKS TEN MID-SIZED BANKS THIRTEEN SMALL BANKS
OPERATING INCOME TO EXPENSE RATIO (9MCY11)

4 3 2 1 0
MCB
UBL
HMB
HBL
ABL
CASA RATIO (DEC10) STRUCTURE OF EARNING ASSETS (SEP'11)

ADVANCES
Rs(bn) 4,000 3,000 2,000 1,000 0 TOP FIVE BANKS TEN MID-SIZED BANKS THIRTEEN SMALL BANKS
80% 76% 72% 68% 64%
INVESTMENTS
MCB
SCBPL
ASKARI
HBL
ABL
ROA (SEP11)
% 3 2 1
THE ASSET SHARE (SEP 11)

13 SMALL BANKS
MCB
DEUTSCHE
CITI
UBL
ABL
HIGHEST DEPOSIT PER BRANCH

SCBPL BARCLAYS DEUTSCHE CITI
10 MID-SIZED BANKS
TOP 5 BANKS
HSBC Rs(bn) 0 1 2 3 4 5
Page 24
BANKING IN NUMBERS
INVESTMENTS AND ADVANCES
ADVANCES INVESTMENTS
Rs(bn) 3000 2,000 1,000 0 Jul May Mar Jan Nov Sep Jul May '05 '06 '07 '08 '08 '09 '10 '11
MONEY SUPPLY AND DEPOSITS

MONEY SUPPLY DEPOSITS
Rs(bn) 8000 6000 4000 2000 0 Jun '07 Jun '08 Jun '09 Jun '10 Jun '11 Oct '11
PROFITABILITY
TOP FIVE BANKS TEN MID-SIZED BANKS THIRTEEN SMALL BANKS
Rs(bn) 70 55 40 25 10 -5 -20 9MCY11 CY10 CY09
INFECTION RATIO ( SEP '11)

25% 20% 15% 10% 5%
COVERAGE RATIO (SEP '11)

100%
SBL CITI HBL MCB UBL BAFL NIB SCBPL BARCLAYS BOK SILK
NBP UBL HBL MCB ABL SCBPL BOK HMB BAFL BAHL
CITI SILK SNBL
JSBL
SBL ALBARAKA AKBL
80%
FABL
ABL AKBL HMB SNBL
BURJ FIRST WOMEN DEUTSCHE MEBL BIPL HSBC
FABL BURJ BIPL
60%
NBP SMBL
BARCLAYS
KASB FWBL
HSBC
0%
40%
INDUSTRY SPREADS
% 8 7 6 5
NPLs TO TOTAL LOANS

PSCB LOCAL BANKS FOREIGN BANKS
% 25
INTEREST RATE STRUCTURE

KIBOR (6-MONTH) T-BILL CUT-OFF YEILD DISCOUNT RATE
% 14.5 13.5 12.5 11.5
Jan '04
Jul '05
Jan '07
Jul '08
Jan '10
Jul '11
20 15 10 5 0 Dec'08 Dec'09 Dec'10 Jun'11
Jul '10
Oct '10
Jan '11
Apr '11
Jul '11
Oct '11
Page 25
BANKING INDUSTRY: PLENTY OF BANG FOR THE BUCK

Investment in treasury instruments hijacked the banking industry, leaving private sector lending in the lurch.
BY MANAL IQBAL
For a nancial intermediary nothing could be more ideal than an investment in government securities yielding double digit risk-free returns, particularly when the icing on the cake is a vast pool of low cost deposits. same time. But, in the case of local banking industry, even though bankers have become more riskaverse, of late, as they are forgoing high risk premium lending avenues; the sectors spread have widened further. The industrys average spread stood at around 7.65 percent during the rst nine months of CY11, nearly 19 bps higher compared to average spread in CY10.
DEPOSITS: UNDER LOCK AND KEY

In tandem with expansion in money supply, the banking industrys deposit base rose by 6 percent to Rs5404 billion at the end of September. expenditures. But, beneting from reach and scale of operations, the group of top ve banks are bestowed with the higher average CASA, which is close to around 69 percent as of December 30, 2010. The CASA ratios of mid-sized and smaller banks stood in the vicinity of 79 percent to 44 percent, respectively.
eld, with highest operating income to expense ratio, at around 3.22 percent, during the period under review compared to the industrys average of about two percent. Few large and mid-sized are eyeing expansion as they have lately opened new branches, but smaller banks, with the exception of a few such as JS Bank and The Bank of Khyber, seem reluctant to expand their existing infrastructure.
BANKING INDUSTRY KEEPS COINING IT IN.

The fat spread helped the domestic banking industry (28 commercial banks) clock in a sizeable net combined prot of around Rs79 billion during the rst nine months of CY11, marking a jump of a whopping 50 percent over same period a year earlier. The bottom-line performance of the top ve banks was two jumps ahead of the industry, capturing nearly three fourths of the industrys total net prot. However, the cherry on top is that smaller banks were seen clawing their way to protability. Hence, around eight banks joined prot-making banks league this year, leaving behind just two banks: KASB and Summit bank, among loss-makers.
NET MARK-UP INCOME: THICK AND FAST

Aided by expansion in the asset base, along with wider spreads, the banking industry witnessed growth in net mark-up income. Moreover, on the heels of a higher share of low cost deposit funds, large banks managed to harvest healthy net interest income. The top ve banks average gross spread ratio hovered around 55 percent during the rst nine months of CY11, while the gross spread ratios of the remaining banks were quite diverse, ranging from as high as 68 percent to few extreme negative gures. Among mid-sized and smaller banks, Deutsche Bank and Standard Chartered Pakistan Bank tower head and shoulders above the industry, with gross spread ratio of 68 percent and 64 percent, respectively, during the period under review.
NON-PERFORMING LOANS: BACK FROM THE DEAD

A torrent of non-performing loans continues to arouse a frisson of terror. In the face of falling advances; the banking industry is hard put to check growth in non-performing loans. Industrys (all banks) toxic loans level reached Rs613 billion at the end of September 2011 marking a jump of around 12 percent during the rst nine months of CY11. The industrys infection ratio stood around 18 percent at the end of September 2011. Not to mention, the public sector banks owe the major blame for distorting the industrys asset quality statistics. However, a handful of large and mid-sized also bore jumps in NPLs. Now, hoping to control the growth of NPLs, banks are increasing their exposures to investments in government securities.
OUTLOOK
With the governments thirst for credit not likely to be quenched any time soon, the banking industry will continue to curry favour with risk-free investments window. While, hurdles, such as weak economic outlook, power crisis and poor law and order situation continue to discourage private sector lending.
EARNING ASSETS: AT A GOOD CLIP

The banking industrys top-line continues to benet from expansion in the industrys asset size. The growing appetite for treasury securities hauled up the industrys(all commercial banks) asset base by 9 percent during the rst nine months of CY11 to Rs7233 billion at the end of September, 2011. Given that the local banking industry is a ve-bank show, these large banks are cumulatively holding nearly 54 percent of the industrys asset pie. It is worth mentioning here that the fad for risk-free investments is retarding the industrys lending business. This is clear from the fact that industrys investment base jumped by around one-third during the rst nine months of CY11 to Rs2743 billion at the end of September, 2011, when the advances base squeezed by 4 percent to Rs2947 billion. The industrys investments to deposits ratio trekked to 51 percent at the end of September, 2011, compared to around 41 percent at the end of CY10.
NON MARK-UP INCOME: FEEDING THE KITTY

Expansion in income from non-core banking activities pleased bankers. Industrys total non-interest income grew by 18 percent, year-on-year, to Rs73 billion during the period under review. Income from non-core banking activities is also a key revenue source; accounting for around one-fourth of the industrys total operating income.
NON MARK-UP EXPENSES: COSTING A PRETTY PENNY

Inationary pressure, coupled with investment in technology up-gradation and expansion in infrastructure, is having an adverse bearing on the industrys non mark-up expenses. The banking industry has forked out a total of around Rs158 billion in the form of non mark-up expenses during the rst nine months of CY11, marking a year-on-year jump of 16 percent.
THE WRITER IS A RESEARCH ANALYST AT BUSINESS RECORDER. SHE CAN BE REACHED AT: manal.iqbal@br-mail.com
Page 26
INVESTORS AND BANKING SECTOR:

BY ASAD SIDDIQUI
WHERE HAS THE LOVE GONE?
Banking sector stocks were considered investors favorites some time back. However in recent times, the sector has seen share prices tumble to multi-year lows. While the resurgence of nonperforming loans has been touted as a major factor behind crumbling stock prices of banks, the author asserts that investors change of heart toward the sector has been brought about by more fundamental factors.
There are few new ventures on the horizon and even existing rms are not entirely eager to obtain bank loans for expansion plans. But there are two sides to every tale and the contrary perspective on the performance of banks is equally compelling. The cost of borrowing is presently quite high, making loans unattractive for a vast majority of private enterprises. This underlying truth has also caused investors to shy away from leveraging themselves, where even existing money demand is being deteriorated, let alone demand for any fresh loans. Assets loaned in previous periods are becoming increasingly infected as well. Facing resurgence in non-performing loans, banks are naturally loath to any practices that may exacerbate the situation further. Even extending credit to small businesses, which can channel growth and employment at the grass-root level, is challenged harshly. The lack of enthusiasm shown by banks to in the context of the infection ratio of loans to the sector, which has walloped to 32 percent. THERE used to be a time, not so long ago when investors would ock to shares of banks. Strong earnings and hefty payouts made banking stocks, local bourses, and those who invested in banking sector stocks made stellar returns. Theoretically, banks perform the role of nancial intermediaries. Simply put, they are in the business of fetching funds and then channelling them out to economy. As such, they perform a crucial role in bolstering economic progress. But in recent times, scheduled banks in the country have diverged from this role. They still accept deposits, albeit at relatively less appealing rates. However, instead of lending to the private sector, banks are now exceedingly in favour of investing in government securities. As a consequence, this sectors returns are also increasingly skewed towards investments. Arguably, this shift in banks priorities means they are today closer to mutual funds or investment banks than they are to their originally intended role of commercial banking. This diversion from their core business is the raison dtre behind the present yawning gap between the current market prices of the shares of banks and their respective fair values. This phenomenon has also been highlighted by the latest data concerning the nancial sector revealed by the State Bank of Pakistan, which show an expansion of 6 percent in the deposit base of the banking sector when compared to December 2010. Banks that have come up with new and innovative products to tap into new or under-targeted areas deserve But the same data show that newly acquired funds are increasingly being channelled to investments, particularly into government securities, as the industrys cumulative investments-to-deposits ratio has witnessed a signicant increase of 10 percentage points to reach 51 percent over the same period. So are banks to be blamed for failing to play the role of nancial intermediaries? No, they are not! We live in a capitalist society, and follow the free-market model. Banks are investing in relatively safe and secure avenues (if not completely risk free) to achieve their goal of maximising shareholders wealth. Setting aside the obvious concerns of depleting asset quality, banks are well within their right to pursue this course of action. It should also be noted that growth opportunities have thinned amid persisting recessionary pressures on the economy. Realistically, no rational investor would opt for a relatively risky opportunity if returns are not as promising as those doled out on government securities. And the private sector is not exactly queuing up outside banks to borrow funds. Credit demand from the private sector is virtually non-existent due to chronic power shortages, law and order concerns and other issues bearing down on economic activity. THE AUTHOR IS A RESEARCH ANALYST AT INVESTCAP SECURITIES. HE CAN BE REACHED AT: asad.siddiqui@live.com However, rising amount of NPLs is often incorrectly depicted as a deterioration of fresh nancing. On the contrary, this increase is primarily due to the piling up of mark-up on existing NPLs. Bankers and policymakers must mull over ways to restore macroeconomic stability instead of a singleminded focus on meeting quarterly targets for revenues and prots. The depressed share prices of the banking sector are not a consequence of any glitch in this sectors earnings. It is the investors way of telling banks that they have to perform their primary role in order to attract investments.
Page 28
WE WANT TO BE A TOPTIER CORPORATE BANK

CEO Barclays Bank Pakistan, Shazad Dada
banks, and given that trading partners of many large local corporations prefer the global network and expertise that we have, it positions the franchise positively amongst local players with global trade links. But this is not the only strength Dada and his team is banking on. We have introduced creative solutions that are not me-toos in the market. Understanding clients needs and customizing solutions accordingly acts as a solid hook for potential clients in niche segments, he contends.. rst two years, Barclays is increasingly stepping up its activities. Barclays was launched in Pakistan from scratch in a record time. Today we have over Rs40 billion in deposits and our results portray a solid story. The bank currently has about Rs20 billion in advances coupled with a high quality deposit book. Dada comments that Barclays Pakistan lowest price, but by focusing on quality service and retention. On income generation, the banks CEO reveals that Barclays Pakistan aims to achieve at least a 50-50 balance in terms of income generation from interest income and fee-based income. In a rising interest rate environment it is ne to have high proportion of interest-based earnings but the same is not sustainable when rates slip downwards, he explains. Commenting on the declining interest rate environment, Dada says, If we see a drop in NPLs and ing down rates meets the desired objectives.
INNOVATIVE OFFERINGS
We are a solutions-oriented, client-centric bank and this approach is very much at the heart of our future growth plans. We open branches based on our target clients needs and not just for the sake of being present in every neighbourhood, he says explaining that the bank this year opened its doors inside the diplomatic enclave in Islamabad based on the feedback of diplomatic clients, in addition to another one which is at a factory at a rural centre. To extend its reach and provide its clients wider access, Barclays Pakistan has also partnered with local banks, NIFT and logistics solution providers with countrywide presence. On the trade front, we are aiming to become the preferred partner for opening letters of credit by international trading partners of local companies, and we have already achieved success in this regard, he contends, adding that this has been achieved through an international trade corridor strategy with end-to-end services for MNCs and local companies with business interests abroad. Dada asserts the bank will continue launching new and better products in retail liabilities; it recently launched its junior account, in line with its belief that your rst account is your last account. Dada believes banks can benet from the increasing inward ow of worker remittances from abroad and agrees that Barclays is well-positioned to venture into this space. As per Dada, the industry can develop products through Pakistan Remittances Initiative that focus on capturing ows of funds repatriated by Pakistanis abroad. It is critical to prioritise and know which opportunities to explore so that you avoid the situation of being the jack of all trades, master of none, says Dada. We are always trying to be value-added and solution-oriented, instead of being another balance-sheet bank. We aspire to be the benchmark in the industry in what we do, says the CEO.
COMPETING WITH THE TITANS

Despite low FDI and other economic challenges, Dada believes that the banking industry faces bright prospects. If you look at the protability of the sector, it has just been amazing. As an industry, we tallied Rs125 billion of prots after tax he highlights. He further concedes that Barclays Bank Pakistans spreads are not comparable to the big ve banks who have been around for many years. However, Dada appears at peace with this predicament because as per him, Barclays competitive advantage clearly lies in superior quality services with a robust control framework. As the big ve banks dominate the nancial services arena in the country, Dada highlights that they hold more than half of all deposits as well as over 50 percent of the balance sheet and account for over 75 percent of the total prot of the industry. So how do small and mid-sized banks survive in a world like that? he questions rhetorically. For Shazad Dada and Barclays Pakistan, the answer lies in not spreading too thin; instead focusing on end-to-end high quality services and products for the niche market. This has worked for us as we are the only bank in the country to become protable within three years of launch, he responds adding that the bank is eyeing double-digit growth in coming years.
As you must have also come across in various economic reviews, a new world economy is evolving with the global balance of economic power shifting to the East (particularly China and India) by 2020. The catalyst of this shift will be the huge population in emerging economies, coupled with rising household incomes. On intra-Asia compared to US-Asia trade estimates, more trade is estimated within Asia than between Asia and the West in future, contends CEO Barclays Bank Pakistan, Shazad Dada. He is condent that Pakistan can gain from this shift by opening up trade with its neighbours and asserts that Barclays Bank Pakistan is positioned well to reap the benets of improved economic activity in the country. Emphasising upon the banks focus on its core competencies and niche market, he elaborates, We are focussing on corporate banking by targeting MNCs, diplomatic missions, NGOs and large local corporations. Shazad goes on to add, We want to be a top-tier corporate bank for our clients and brand name is very strong and we have a global footprint to leverage upon. By focusing on consolidating our strengths for a sustainable growth, Barclays in Pakistan has carved out a place in the banking industry. Shazad adds that Barclays global footprint is far stronger than even the biggest of the local
RISING TO THE CHALLENGE

Banking license to commence operations in Pakistan was awarded to Barclays in December 2007. It subsequently launched its operations in July 2008. After a relatively quiet presence in its
. INTERVIEW BY ALI KHIZAR AND MOBIN NASIR

Page 29
BUSINESS CYCLES COME AND GO; STICK WITH CUSTOMERS

CEO Standard Chartered Bank Pakistan, Mohsin Nathani
Standard Chartered Bank (Pakistan) Ltd SCBPL has remained on the forefront of consumer lending, in recent times. Speaking exclusively to BR Research, chief executive Mohsin Nathani stresses the importance of meeting customers needs and surpassing their expectations. Despite the challenging environment, SCBPLs performance has remained impressive and the bank industry. Strong focus on customers needs is a core business value at Standard Chartered, says strategies suited for various customer groups and readily adapts to market demands. SCBPL also provides nancial bundles that provide a range of services to clientele, all under one roof. He commends the banks branch banking system for helping achieve not only an increase in deposits, but also improvement in the mix of deposits with an emphasis on Current/Saving deposits. He is content that SCBPL is a very liquid bank and can time we are unable to nd assets, we will be very liquid and put money in government investments, he states. The chief executive also draws attention to SCBPLs strong position in consumer banking, as well as the SME sector. In the consumer segment, I would just like to state that our team has worked towards deposit mobilisation and our products are geared towards satisfying customers nancial needs. also reinvested. 24 branches have been upgraded this year, with an investment of roughly Rs200 million. So while being judicious with costs, we have still invested in the network, says Nathani. various initiatives to consolidate its presence in the country. Bank employees are encouraged to take initiatives of their choice. SCBPL has also funded more than 200,000 cataract surgeries under its 2,000 scholarships to under privileged students. Nathani contends that these initiatives make SCBPL an active and socially conscious corporate member of society.
HERE FOR GOOD

Economic cycles, locally or globally do come about but that doesnt mean that you leave your customers, asserts Nathani adding that in times of crisis, SCBPL has worked with its clients to help them cope with tougher conditions. He attributes the banks resilience to SCBPLs global customer-focused strategy and tailored products that meet customers needs. The chief executive asserts that working closely with clients during such economic conditions helps inculcate a very loyal customer and long-term customer focus. Energy shortages in the country and mushrooming public sector decit are key impediments to the growth of local businesses, according to Mohsin Nathani. Those who are dependent on the gas supply are signicantly impacted, availability wise and by the prices of alternative fuel costs, he claries.
COMPETITION AND REGULATION

Given its expansive range of products and services, Standard Chartered faces competition from myriad sectors. On the consumer side, where SCBPLs priority is the wealth segment, some foreign and local banks are deemed to be competitors. In mass banking, mid-sized banks are our competitors. In wholesale banking, large local banks are main competitors, he claries. Yet, Nathani stresses that his bank places great emphasis on having good working relationships with other banks as, at times customer requirements are such that one bank alone cant cater to them. We work on a variety of issues with large local banks, for example, syndicate nancing, transaction relation and structuring. Regarding SBPs minimum capital requirement, Nathani praises the central bank for being a fair regulator, changing the MCR rate as per the requirements of the economy at various points in time. He believes the requirement will become stricter as the economy improves. Standard Chartered enjoys a signicant market share in the banking industry of Pakistan. Revenuewise, asset wise, depositsbase wise we rank in the top ten banks of the industry, says the chief executive, summing up. Yet, to Mohsin Nathani the most crucial ingredient for the banks success is the state of its relations with its clientele as he concludes, Standard Chartereds success eventually depends on how it its customers above and beyond what is being
LESSONS LEARNT
While the bank expects ination to recede in coming months, Nathani lauds the State Bank of Pakistan for opting for a wait and watch strategy instead of slashing the discount rate in its latest monetary policy statement since he believes this move will foster stability in the cost of borrowing. Just as Nathani supports monitoring the macroeconomic situation before instituting further changes in the countrys interest rate environment, he asserts many lessons have been learnt by the industry from experiences of the last decade. Reecting on the consumer credit boom witnessed in the mid-2000s, he contends, Back then, the industry was new and a lot of regulations that exist today were not in place at that time. Lauding the creation of credit evaluation mechanisms and improved data sharing among banks, Nathani believes that as the economy picks up, banks will
ISLAMIC BANKING
Nathani talks with enthusiasm about Islamic banking; We were the rst international bank in Pakistan to get an Islamic banking license. In Islamic banking we have increased our customer base. Given customers increasing acceptance of Islamic banking products and services, SCBPL now operates an Islamic window at each of its 143 branches across 32 cities in the country, while 15 branches have also been dedicated to Islamic banking. According to him, this customer-focused attitude, has helped SCBPLs wholesale banking an area further segmented into transactional banking, cash and trade, global markets, all functions of treasury. We have tried evaluating and improving our cost structures. But while being very cost-focused, weve
Besides strengthening its working relations with clients and other banks, SCBPL has also instituted
. INTERVIEW BY MOBIN NASIR & MANAL IQBAL
Page 30
ISLAMIC BANKING:
A SUCCESS STORY
BY AHMED ALI
ISLAMIC banking & nance have received overwhelming response from across the globe as a renaissance of ideological dimensions and practical richness. The world today has more innovative nancial solutions for underserved markets that are socially responsible and ethical; because of the emergence and progress of Islamic banking and nance. Islamic economic thought accepts that economic activity is a necessity for every human being for survival; it is a legitimate right for every individual. Islamic banking focuses on providing an ideologically superior model to the modern day economic problems and aims for the establishment of a just and fair society. The central philosophy emerges from the divine guidelines allowing trade as an alternative of usury. And Allah has permitted trading and prohibited riba. (Al-Baqra) However, Islamic banking opposes those types of trading activities that cause haram or unfair distribution of wealth and strongly prohibits transactions involving usury, speculation, gambling, etc.
KEY DIFFERENCES BETWEEN ISLAMIC BANKS & CONVENTIONAL INTEREST BASED BANKS
ISLAMIC BANK CONVENTIONAL BANK
CONCEPTUAL & SOCIO-RELIGIOUS LEVEL

Work as trading/ investment house; not money lending Prohibit charging and paying interest Avoid all impermissible transactions like gambling, speculation, short selling, sale of debt & receivables Prohibit nancing to alcohol, gambling, tobacco & rearms and other industries, deemed detrimental for society In the business of lending & borrowing money (riba/usury) Interest based business model Heavy reliance on sale of debt, short sales, speculative transactions
BUSINESS MODEL & GOVERNANCE

Actively participate in trade, production-based ventures Strong Shariah governing framework; Shariah Supervisory Board No active participation in business decision making/ procedures No framework comparable to Islamic banking
ISLAMIC BANKING & FINANCE GLOBAL GROWTH TRENDS

Impressive growth in recent years has established Islamic banking and nance as unique from conventional banking. Demand for Islamic nancial products and services has also blossomed. Today, more than 700 Islamic nancial institutions are operating across the globe with around $1 trillion assets under management in more then 85 countries. The industry is growing at a rate of roughly 15-20 percent per year, and could serve 40 to 50 percent of the world's Muslim population within a decade. According to a recent estimate by Standards & Poors, the market potential for Islamic banks is estimated at $4 trillion.
PRODUCT-LEVEL IMPLEMENTATION
Asset-backed products; trading and renting assets, participation on prot & loss basis Recognize loans as non-commercial and exclude from domain of commercial transactions Treat money as commodity Compensation is in form of interest Most nancing and deposit products are loan based
GROWTH OF ISLAMIC BANKING IN PAKISTAN

In Pakistan, we have seen steady growth of Islamic banking during the last decade when the rst license for Islamic banking was given in 2002 to Meezan Bank. Since 2002, the progress and success of Islamic banking in Pakistan has been admirable despite all challenges. Currently, there are ve licensed full-edged Islamic banks and twelve conventional banks operating with around 799 branches.
GROWTH IN ISLAMIC BANK BRANCH NETWORK

800 600 400 200 0 2005 2006 2007 2008 2009 2010 JUN11
DEPOSIT GROWTH OF ISLAMIC BANKING

DEPOSITS
According to SBP gures as of June 2011, the market share of Islamic banking in terms of overall banking deposits stands at 7.6 percent at Rs452 billion; up by about 6.4 percent in the previous year. Islamic banking assets now constitute more than 7.3 percent share of the banking industry at Rs560 billion.
Rs(bn) 500 450 400 350 300 250 200 150 100 50 0
2005
2006
2007
2008
2009
2010 JUN-11
Page 32
The ROA and ROE of the Islamic banking industry at 1.6 percent and 16.5 percent, respectively, has for the rst time surpassed the overall banking system averages of 1.4 percent and 14.4 percent respectively.
ISLAMIC BANKS' DEPOSITS MARKET SHARE

% 8
KEY DRIVERS FOR GROWTH AND COMPETITIVENESS

Some key drivers for growth and competitiveness of Islamic banking industry include: Product innovation, development and research Flexible and practical application and enforcement of Shariah principles and injunctions and their acceptability among public Creation of global nancial hubs Regulators support Separate governance and prudential regulations and supervisory guidance Development and adoption of simple, standard and cost the new and hybrid products
6 4 2 0 2005 2006 2007 2008 2009 2010 JUN-11
NEW CHALLENGES FOR THE INDUSTRY

With all the success and growth Islamic banking Industry is still in its infancy. It has to overcome many challenges in order to achieve a larger market share and sustain its growth. A lack of awareness creates confusion and even skepticism among investors, bankers, regulators, researchers and clients. Trained human resource to confront these myriad challenges is a hurdle in itself. Similarly, the number of Shariah scholars is also quite limited, thus restricting the opportunity to gain the requisite decisions. Liquidity management and the creation of a separate inter-bank market are crucial for sustained future development along with the need for new and hybrid products.
CONCLUSION
Islamic banks and nancial institutions have proven to be sound and viable alternatives to conventional establishments, especially in the context of their performance through the recent global nancial crisis.
THE AUTHOR IS EXECUTIVE VICE PRESIDENT AND HEAD OF PRODUCT DEVELOPMENT AND SHARIAH COMPLIANCE AT MEEZAN BANK LIMITED. HE CAN BE REACHED AT: ahmed_iba@yahoo.com
However, further innovation is required so the industry can provide even better products and quality service within the ambit of Islamic laws. This industry has progressed rapidly even while the conventional nancial industry required centuries to evolve. A truly Islamic economic system is among the sacred principles of Islam and all stakeholders should work towards its achievement.
Page 33
ISLAMIC BANKS CAN BE EQUALLY COMPETITIVE

CEO Meezan Bank, Irfan Siddiqui
Few institutions can claim the level of success that Meezan Bank has enjoyed since its inception. Alhamdulillah we have remained protable since our rst month of operations, recalls President and CEO, Meezan Bank, Irfan Siddiqui, adding, At present, we are the 13th largest bank in terms of deposits, 11th in terms of branch network, eighth highest in terms of prots and fourth in terms of return on equity.
And there are no signs of this progress slowing down as the Banks chief executive asserts, Our aim is to be among the ten biggest banks by 2013. Extolling the Banks aggressive approach, he at fty percent occupancy, but we have established such a big complex purposefully because given the pace of our expansion, we expect to employ many more people in the near future. The pioneer Islamic bank of the country already employs about 5,000 professionals. If there is one lesson to be learnt from this institutes performance, it is that Islamic banking can be immensely protable. Besides, lending and borrowing activities are linked to Kibor. There is now global consensus that a rate such as Kibor is an index and benchmarking does not constitute usury or riba. For these reasons, when an Islamic bank benchmarks its performance against the industry, it has to consider all banks not just Islamic banks, asserts Siddiqui. Siddiqui explains that there are certain sectors that Meezan Bank nances very keenly, while there are others that it has largely avoided. The Banks nancing focus should be in areas where it has some core competencies or knowledge of the prevalent conditions, asserts Siddiqui. The main instruments of Islamic nance that are allowed by SBP are open to all. It is up to each bank to gure what it wants to build as its forte and how it goes about doing that, he adds.
CONSUMER BANKING AND BEYOND

While other banks are running out of consumer banking products such as car nancing, Meezan sizes Siddiqui. Citing the banks superior performance in this business, he highlights, Our NPLs from car ijarah stand around 1.2 percent while the industry average is in high double digits. He contends that success in consumer banking has been achieved because we did our homework beyond asking for NICs and doling out cars. The banks product development and Shariahadvisory department also boasts an unparalleled head count of 40 professionals. Not only are we providing advisory services to most asset management companies in Pakistan, we are also working with many companies worldwide wherever the need for Shariah advisory arises, reveals Irfan Siddiqui. Siddiqui believes that Islamic banks and nancial institutions should not rely on special exemptions and supportive initiatives from the government. But he cites the example of Malaysia where, due to government support, this industry has really mushroomed. However, he contends that given the size of the market and level of expertise available here, Pakistan should be the centre of Islamic nance in the world. The share of Islamic banks among the cumulative banking industry stands around eight percent while it has experienced a growth of almost two percent each year, in recent times. I believe that this share will grow to 20 percent in the next seven years, says Siddiqui adding, once that level is achieved, I am sure this industry will grow at an even faster pace Inshallah.
THE IMPORTANCE OF BEING EARNEST

of-the-art conference rooms and many other facilities, it was still constructed at a fraction of the cost compared to the industry, asserts the chief executive. He explains, The mindset has to be such from day one that you provide the best environment The same rationale permeates nancing practices at Meezan Bank. Dishing out money is the easiest thing to do. But it is imperative that bankers should be extremely prudent with their lending practices. Otherwise, it is easy to fall into the spiral of NPLs, says the chief executive. He believes that developing intimate knowledge of factors impacting the domestic business environment is extremely important along with strong linkage with local enterprises.
COMPETE WITH CONVENTIONAL BANKS

The chief executive contends that there are some customers who are hardcore Islamic banking clients, which implies that they pay little attention to alternatives provided by conventional banks. But for the vast majority of clientele, competitive product he adds. services on any product which is comparable to the people tend to opt for the Shariah-compliant option, says Siddiqui. While he believes that Islamic modes of nancing are revered by most people, he stresses that nothing replaces good service and quality products. Since customers often compare products and conventional banks, Siddiqui argues that the former conventional banks.
THE BANKS FINANCING FOCUS SHOULD BE IN AREAS WHERE IT HAS SOME CORE COMPETENCIES OR KNOWLEDGE OF THE PREVALENT CONDITIONS
. INTERVIEW BY ALI KHIZAR & MANAL IQBAL

Page 34
BOOMS, BUSTS REQUIRE FLEXIBLE STANCE FROM REGULATOR

President Bank of Punjab, Naeemuddin Khan
BR Research: Bank of Punjab has faced crises due to imprudent lending practices in the past. What have you done to arrest such practices? Our deposit drive is further strengthened by issuance of 11 licenses for new branches by the SBP in 2011. The grant of new licenses was after consecutively turning down our request by SBP for four years and reects the improvement in the level of Naeemuddin Khan: When I took over the bank as condence at SBP end. We are opening branches in President in 2008, the bank was nothing but a mess. areas such as Gilgit, Haripur and Peshawar which will help us broaden our clientele base. was facing a media trial. Patrons condence was shaken. We had to salvage the bank from this embar- BRR: How exactly are you tackling the NPLs? rassing situation. Most important for me was to regain public condence. We restructured the bank and dismissed anyone who was found part of any ries. The worst category comprises of cases that conspiracy and started infusion of talented and will take six to eight years to resolve. Then there are cases where earlier payments have been competent professionals on merit. agreed upon and nally there are those which are Monthly performance appraisal systems were pending in court. I want to highlight here that introduced at all levels. Underachievers are rated below the satisfactory level and are terminated defaulters were unwilling to come to the bank due upon regular reviews. At least 20-30 percent of to wrong perception that they can get away, but the employees have been replaced due to their once our intentions were known, now everyone is poor performance. Our liquid investments have increased from Rs22 billion to Rs76 billion. At one time we were short on the SLR requirement by Rs38 billion, but with stable growth in our deposits, we have a surplus liquidity by Rs40 billion. BRR: How does BoP fare in terms of new branches and lowering its cost of borrowing? NK: SBP has allowed us to open 11 new branches in 2011. As of now, we have 283 branches of which 230 are in Punjab. We are expanding our network in Karachi, KPK and opening one branch in Gilgit. Our immediate target is 300 branches by mid 2012 with a signicant increase in the deposit base. As regards access to private sector savings our marketing strategy has resulted in 540,000 new account relationships from private sector . At present, the banks deposits stand around Rs230 billion and the CASA ratio is 56.92 percent. Out of total investments of Rs76 billion, the major chunk (Rs62 billion) is invested in government securities. The banks advances hover around Rs150 billion.
BRR: How is transparency in the the new yellow So far, we have net NPLs of about Rs45 billion and cab scheme ensured? we have so far made cash recoveries of Rs21 billion which is the highest gure in the industry. We are in talks with the central bank to recognise The scheme is transparent and the documentation is proper. The bank is secured by a 30 percent payments which are late by a few days. guarantee from the Punjab Government. Owners equity contribution is 20 percent now, compared to 10 percent in the old scheme and all applicants have to have an Intermediate degree. This translates to more than 50 percent margin, which is unparalleled for auto nancing in the banking industry and gives me comfort. BRR: What other initiatives are being worked on? NK: We will be nancing the low-income housing under the Aashiyana Scheme. Besides, the bank is actively involved in promoting consumer and mortgage nancing and we are currently developing a product for women entrepreneurs as well. We have taken an initiative towards cash management on behalf of the government of Punjab and the private sector. BOP will also launch Islamic banking next year.
We have made huge recoveries from defaulters and taken them to court. There are defaulters behind deposits and how have they fared since? bars and our demand from them has been simple: NK: Over the past two and a half years, our deposreturn our money! its have increased by almost Rs80 billion. Despite Also, Rs10 billion have been injected as capital into the bank while another Rs8.5 billion will be injected soon. We have also empowered our own audit department. relations with clients. The bank was largely dependent on deposits of the provincial government. We kept our focus on government deposits yet developed inroads to private sector deposits. The share of the NK: There was a time when we were short on liquid- governments deposits has been on the decline ity and had to resort to procurement of high cost and it currently stands around Rs80 billion out of deposit. There were heavy withdrawals due to news Rs320 billion. in media but many of the big names kept banking with us. Our branch managers were critical in foster- Similarly, we had deposits of about Rs18.2 billion from nancial institutions. Since that time, we ing and maintaining good relations with clients. have replaced these expensive deposits and our cost of deposits has gone down consistently over to achieve growth in CASA deposits and reduce the the years. cost of deposits. As a result, the cost of deposits has been reduced from 9.76 percent in 2009 to 8.41 We aim to bring down our cost of deposits to seven percent and eventually to about six percent. percent in 2010. BRR: What have you done to attract deposits and allay fears that were sparked by previous problems?
. INTERVIEW BY BY ALI KHIZAR

& AYESHA AFTAB
Page 35
CONVERTING BRANCHES TO ISLAMIC MODE, WASNT GOOD

BR Research: Please take us through the history and recent developments at the Bank of Khyber? BILAL MUSTAFA: Bank of Khyber (BoK) was established in 1991 with a 51 percent government holding. The basic purpose to initiate it was to develop the socio-economic services for the province. In 2004, the provincial government decided to convert BoK into an Islamic bank; they amended the provincial Bank of Khyber Act. The idea was to gradually convert the bank into a full-edged Islamic bank. The State Bank allowed us to commence four-ve Islamic branches and the process of conversion started. BRR: How was the experience of converting conventional branches to Islamic ones? What were the hurdles that came your way? BM: In my view, it was not a good idea to convert the existing branches into Islamic mode. But in the presence of that Act, we could not open new conventional branches. Further, the State Bank wished the Bank to improve its performance and professional skill level. So the rst thing I did was to request the government to re-amend the Bank of Khyber Act, creating a cushion for conventional banking, with Islamic banking side by side, so that we grow on both sides. And nally we successfully presented the government and the act was passed in the provincial assembly. This enabled the bank to do conventional and Islamic banking. As a consequence, the conversion to Islamic banking stopped and we decided to open new branches of conventional as well as Islamic Banking. BRR: How did the bank manage to expand its
Managing Director Bank of Khyber, Bilal Mustafa

Other than this, we have focussed on normal core banking areas, as well as remittances because it is a major source in KPK. This has increased our movement and we plan to launch a booth, which has been approved by the State Bank, so that we can capture a bigger chunk of remittances. BRR: Your incremental NPLs are lower relative to rest of the banks? BM: We have been very prudent with our nancing over the past few years. In the new branches outside KPK, we are dealing with customers who have a clean history. BRR: Pushtoons have historically been involved in transport and money lending businesses. Have you been able to bring synergy to replicate the traditional lending model? BM: I dont think we can put the money lending business to use in the bank model. We have tried to get into it, but there is still a large amount coming from hundi. We may have penetrated 10-15 percent, but the rest is still with traditional lenders. We opened Islamic and conventional branches according to the needs of a particular place. Of the twelve There are certain parameters of the formal sector and we are opening this year, ve are Islamic and seven we cant compromise on that. If you make the formal are conventional branches. Bank performance has really improved with these branches over the three replace the informal sector, but that seems to be years. Now there is wide consensus that BoK is a sound, progressive and growing bank. BRR: Have you worked in consumer nancing in KPK? BRR: What is the deposit composition like? BM: Till 2008, our deposit-base was mainly government dependent and the regulators kept on pointing this out, because 26 branches were in KPK. We changed our focus as we moved out of KPK. BM: We started the consumer nancing window but it was not successful. We are, however, doing things on the governments behalf including the Hunarmand Rozgar Scheme for skilled workers. BRR: Have you also focused on Balochistan and is there potential that you see? BM: We have very low coverage there and I do not see much business potential there for now.
THERE ARE CERTAIN PARAMETERS OF THE FORMAL SECTOR AND WE CANT COMPROMISE ON THAT. IF YOU MAKE THE FORMAL SECTOR SECURE, ACCESSIBLE AND EFFICIENT, THEN IT MAY REPLACE THE INFORMAL SECTOR, BUT THAT SEEMS TO BE DIFFICULT AND TIME CONSUMING.
BM: We conveyed to the SBP that the bank would not Thereafter, we excluded government deposits from be able to grow without expanding its branch network our targets and focused on the private sector. At that time, the deposit mix was 60-40 in governments and received the necessary approvals in 2009. favour, which has completely changed now. The Historically, we were concentrated in KPK, and given growth that has taken place over the past few years the limitations in the province, our distribution was has been in the private sector. uneven. In October 2009, we got licenses for nine branches; in 2010, we got another eleven branches; In terms of advances, we have loaned out Rs7.5 and in 2011, we got twelve more. We will end up with billion (last year Rs5 billion) for wheat procurement during the year. 62 branches by the year end (2011).
. INTERVIEW BY ALI KHIZAR

AND HAMMAD HAIDER
Page 36
BANKING IN NUMBERS
LENDING TO SMEs IS FRAUGHT WITH RISKS

President Sindh Bank, Bilal Sheikh
Commercial banking is the easiest job in the world as the cost of deposits and return on advances are within the domain of the bank asserts president Sindh Bank, Muhammad Bilal Sheikh. Perhaps after having spent 45 years in the industry, including more than a decade as the president of various banks, the profession has become second nature for Sheikh. But he contends that the task at hand is simple enough. The most important task for banks is to ensure responsible lending, meaning you need to know your client and his ability to repay instead of exclusive reliance on cash ows explains the banking veteran adding that this is even more important in a country like Pakistan where a major chunk of economic activity is in unorganized sectors. While noting that the SME sector plays an integral role in the economy, Sheikh contends lending to the sector is fraught with risks. Collateral is necessary for advances to SMEs he says. The president also believes the present judicial systems in the lower courts and their capacity are not conducive for banks to lend to SMEs because court cases are dragged ad innitum and litigation costs pile on before any hope of recovery. At present, SBP mandates banks to provision 100 percent of the outstanding amount on NPLs stretching to a year. Sheikh contends provisioning requirements should be eased, while court cases pertaining to banks should be expedited to boost the nancial industry.
scheduled commercial banks have to apply for further licenses during the next year by the end of October, each year. Other SBP regulations mandated that the bank establish branches in all provinces, while the provincial government preferred the bank should have presence in all the 23 districts of Sindh. Sheikh explains that this meant that the bank only had a handful of branches in commercial hubs. Sindh Bank has now applied for approvals to set up another 110 branches. Sheikh contends most of these branches will be located in key hubs in Karachi, Lahore, Faisalabad, Gujranwala, Multan and other urban centers to have exchange and other remunerative business
through a similar model. We are providing loans of up to Rs100,000 to small farmers. Cards are issued against each zarai pass book and cardholders can then use the amount to make purchases of farming inputs, says Sheikh. To ensure that the money is in fact used for agricultural products, these cards can only be used at authorized vendors of fertilizer, pesticides, etc. Rs20,000 can be taken out in cash to pay for labor, transport and other incidentals, explains the bank president adding that the bank will soon increase the credit limit for this scheme to Rs500,000. Sindh Bank is also providing students loans for postgraduates which are deposited directly with educational institutions, while those universities, colleges etc provide quarterly updates on borrowers academic progress to the bank reveals Bilal Sheikh. This is a unique interest free facility up to Rs500,000 to be repaid within 5 years from the date of completion of his degree with a guarantee to be absorbed in Sindh Bank. Besides these, the bank also provides SMS banking/mobile/ internet services and subsidized loans for the purchase of tractors. The bank has also applied to SBP for necessary approvals to commence branchless banking.
GET THE BASICS RIGHT

Bilal Sheikh concedes that there is a funds for the big ve banks, having around 1000 branches including small cities compared with mid-sized and small banks. But he counters that the most important variable that each bank must keep in check is intermediation cost which is in its control. In no case, should intermediation costs ever be more than three percent, no exceptions, he asserts. As a matter of policy, Sindh Bank does not lend long-term except being a participant in syndicate according to its size asserts the chief executive. During the past four years you have heard of so many banks collapsing, but the overwhelming majority of these have been investment and development banks; not commercial banks he says, contending that this boils down to the formers practices of borrowing short to lend long.
REGULATIONS, REGULATIONS
Even though Bilal Sheikh and the senior management of Sindh Bank are no strangers to the banking industry, establishing Sindh Bank meant venturing in to unchartered territory for them. Coming from the private sector, Sindh Public Procurement Regulatory Authority (SPPRA) rules were quite new to me concedes Sheikh as he recalls bureaucratic procedures that the bank has to abide by since it is wholly owned by the government of Sindh. These requirements bear down on the banks management in addition to SBPs regulations applicable to all scheduled banks. The president recalls that Sindh Bank received SBPs approval to set up 50 branches on April 6, 2011. This meant the bank had about six months to set up these branches or it would have to seek new approvals from the central bank thus giving an impression of lack of proper planning at Sindh Bank as all the
AGRI-FINANCE, STUDENT LOANS AND OTHER INITIATIVES

Sindh Bank commenced some innovative services within months of the banks launch. Under the Benazir Income Support Program (BISP), the bank will issue BISP cards to 57,000 women in the allocated Tando Muhammad Khan district. It has set and is ratcheting up the number of ATMs there to ten. Each quarter when the Rs3,000 per recipient that the government provides, are made available to the bank, SMSs are sent to all cardholders. They can then withdraw the money at any banks ATM and any branch of Sindh Bank without any charge, explains Sheikh. The bank is also providing agri nance
. INTERVIEW BY MANAL IQBAL

AND MOBIN NASIR
Page 37
SINDH DOMINATES MONEY AND BANKING SCENE

BY ASHRAF JANJUA
Financial policies including monetary policy are formulated and implemented at national level. Province-wise information on the nancial sector is available only for a few components. In this article, we compare and analyze data on Sindh province for a number of components of the nancial sector: nancial depth, ruralurban distribution of bank credit, monetary assets and structure of bank deposits as well as sectoral allocations of bank credit. Sindh has a signicantly larger share of the countrys GDP than its population. Consequently, Sindhs per capita income is higher than the national average. For a number of reasons, Sindh has a disproportionately large share of nancial facilities. Out of 38 schedin Karachi, while almost 25 percent of bank branches are located in Sindh alone. Also, SBP and its three subsidiaries are in this province. Moreover, 34.8 percent of all deposits held by scheduled banks are in Sindh, while this provinces share in total bank credit was 41.73 percent, slightly higher than the provinces share in M2 as well as in the countrys GDP. Clearing house statistics also exhibit Sindhs edge over other provinces in terms of share in bank deposits and credit. Between FY08 and FY11, the amount cleared in Sindh ranged between 65.14 percent and 53 percent, respectively. The province also boasts depth in the nancial sector relative to the rest of the country. Not only are an overwhelming majority of the NBFIs concentrated in
Even though Pakistan is mired in severe economic woes, the need to pay due respects to one of the two critical aspects of an economy, monetary policy, appears to be largely absent. A few months back, the countrys central bank saw itself being orphaned yet again, with Shahid Kardar ion with the government on key scal and monetary issues.
CREDIT DEPOSIT RATIO

PAKISTAN SINDH PUNJAB
100 80 60 40 20 0 01 02 03 04 05 06 07 08 09 10
KPK BALUCHISTAN
Sindh, during FY10, 88.6% NBFIs total deposits and 80.6% percent advances were in Sindh. Daily withdrawals from ATMs from the province account for a quarter of all such exchanges.
BANK DEPOSITS AND CREDIT IN SINDH

Thus Sindh has much greater nancial depth than any other province of the country. However, a more disaggregated picture of the provinces nancial sector is required to see their relevance to economic activity and developments in the province. Sindh is relatively favorably placed in terms of size of monetary assets which means easier and more expedient management of investment, production, distribution and trade. As for types of deposits, Sindh emerges with the highest percentage in xed deposits, Punjab has the highest percentage in saving deposits and both Balochistan and KPK have the highest share in current deposits. In FY11, bank deposits per branch in Sindh stood at Rs824.9 billion, compared to Rs443.3 billion in Punjab,
KARACHI FACTOR
Karachi has been the nancial centre of the country right from its inception as capital of the country. Given the citys vital role in external trade, it is a hub of trade nance in Pakistan. Industrial investment and production facilities in the city also stand head and shoulders above other cities. Multinational corporations and agencies, foreign governments and missions as well as other international entities continue to maintain presence in Karachi. These developments have meant relatively high per capita income in Sindh along with a relatively higher incidence of urbanization. The countrys largest capital market, the Karachi Stock Exchange is also located here.
Page 38
CREDIT PER CAPITA

2001
(Rs mn) 40,000 30,000 20,000 10,000 0 Pakistan Sindh Punjab KPK Baluchistan
2006
2011
corresponding gures are over 50 percent higher than the provinces share in value added. In Sindh, bank loan for agriculture has traditionally been small for a variety of reasons. Agricultural credit is highly concentrated in Punjab. Its low level in Sindh is attributable to a number of factors including the poor infrastructure regarding processing of loans, formalities of land revenue departments, providing pass books, problem with recovery of loans and commercial banks lack of interest in lending to agriculture sector in Sindh. This is a challenge for the Sindh government.
PRIVATE SECTOR SHARE OF ADVANCES (%)

SINDH PUNJAB
80 60 40 20 0 2003 2004 2005 2006 2007 2008 2009
MICROFINANCE IN SINDH
various levels to provide credit facilities to people to banks or other nancial institutions.
DEPOSIT PER CAPITA

2001
(Rs mn) 50,000 40,000 30,000 20,000 10,000 0 Pakistan Sindh Punjab KPK Baluchistan
2006
2011
While Sindhs contribution to total deposits is 53.15 percent (Rs 6,031.88 million), advances to the province are only 29.17 percent (Rs. 8,448.56 million) of the total. Compared with this, Punjabs share in advances is 66.21 percent (Rs. 19,173.76 million) and in deposits only 29.98 percent (Rs. 3,402.37 million. In all other provinces and regions the share of deposits is larger than their share in advances except for AJK and Islamabad. It appears that only Punjab and Islamabad have made full use of the available facilities of micronance as more than 65 percent of branches of micronance institutions are located in Punjab while only about 26 percent are in Sindh. The number of active borrowers from MFIs and the number of policy holders in Punjab are both signicantly greater than Sindh. Summarily, Punjab has done a better job of exploiting the potential of nancial services than Sindh and the latter must assess the stumbling blocks to this end when formulating a future line of action.
ture including public services are bigger in Sindh than in any other province in Pakistan. This situation constitutes a serious challenge to those responsible for the formulation and implementation of policies for the Sindh province. Some policy initiatives are necessary to accelerate economic growth and reduce rural urban gap mentioned above. These include: ---------------------------------------------------------1.Massive public investment in rural Sindh particularly in agriculture and social and physical infrastructure; ---------------------------------------------------------2.Also, Sindh bank has to take measures to get credit and deposit mobilization facilities to rural areas which have remained unbanked in the past. ---------------------------------------------------------3.All employees in banks or other nancial institutions must be uent in Sindhi language. ---------------------------------------------------------4.Commercial banks have to discard the policy of operating only protable branches. ---------------------------------------------------------5.Banks in rural areas should do more than conventional banking i.e. provide services to its customers like postal services, all sorts of payments, and help the distribution of agriculture inputs.
Rs332.9 billion in KPK and Rs327.3 billion in Balochistan. Moreover, this provinces bank deposits per capita are twice as large as Punjabs; at Rs44,671.6. A comparison of bank credit per capita also reveals a similar skew in Sindhs favour.
CONCENTRATION OF DEPOSITS
About 90 percent bank deposits in Sindh are in Karachi alone. The three districts (namely Karachi, Hyderabad and Sukkur) account for 90.85 percent (FY11) to 95.71 percent (FY08) of total deposits in Sindh. The rest of Sindh accounts for only about ve percent except in FY10 and FY11 when the percentage rose to 5.64 percent and 9.15 percent respectively.
BANK CREDIT SHARE (%)

PUNJAB
50 46 42 38 1997 1999 2001 2003 2005 2007 2009 2011
SINDH
BANK CREDIT IN SINDH

As in case of bank deposits, bank credit in Sindh is disproportionately large. Between 1997 and 2011, average bank credit utilization in Sindh was 42.51 percent of the total bank credit in the country compared with 48.18 percent utilized in Punjab. Thus, compared with size of the economy Sindh has an edge over Punjab. Also, Sindhs average credit deposit ratio during 2001 to 2010 at 87.13 is higher than Pakistans at 68.89 and Punjabs at 78.83. Bulk of advances in Sindh province can be classied under two categories. Advances to the private sector consistently accounted for more than 60 percent of total advances between FY03 and FY11, while personal loans and advances to NFPSEs made up most of the remaining tally. It is obvious that compared with Sindh, a considerably larger share of bank credit in Punjab went to the private sector. A sizeable share of bank credit both in Sindh and Punjab went to NFPSEs and NBFIs.
---------------------------------------------------------6.Special attention needs to be paid to increase the allocation of credit to agricultural sector. This
CONCLUSION
Sindh is more developed than other provinces; not only in terms of per capita income but also in terms of nancial depth including its share in monetary assets (M2), the size of assets and liabilities of banks and non-bank nancial institutions. These facilities can be instrumental in furthering the cause of economic development. However, nancial facilities including the location made, implemented and evaluated are heavily concentrated in Karachi. Karachi district alone holds 90% of the total bank deposits of the province. Rural Sindh has not beneted from the nancial developments and reforms. Financial services like payments systems and return on savings are only marginally within the reach of rural people. In fact, employment opportunities and access to infrastrucTHE AUTHOR IS A FORMER DEPUTY GOVERNOR OF THE STATE BANK OF PAKISTAN AND CURRENTLY SERVES AS A SENIOR FACULTY MEMBER AT THE INSTITUTE OF BUSINESS MANAGEMENT. HE CAN BE REACHED AT: ashraf.janjua@iobm.edu.pk
SECTORAL DISTRIBUTION OF BANK CREDIT

In case of agriculture, share of Sindh in bank borrowings is very small compared to its share in value added i.e. less than half. In case of Punjab, the
Page 39
GARRISON TOWN GOOD ADVANTAGE FOR ASKARI BANK

CEO Askari Bank, M.R. Mehkari
At one time, the exchange rate in the kerb market was lower than the interbank market. We divided the demand and supply of both the interbank and kerb, and we managed it. We managed demand and supply and the costs in a way to maintain interbank market, says Mehkari. The surge in remittances is also a result of liberalised foreign exchange regime and better management of operational issues in Mehkaris opinion. The gradual growth is a very positive thing, he remarks opining that relatively higher discount rate has proven to be conducive for growth in remittances of the country. Askaris stock price performance has been under the banter for some time and Mehkari attributed it to the adjustment of high NPLs, which hover around 13.5 percent. Mehkari attributes the high NPLs to trade-related business which is facing an unprecedented downturn. on account of an infection ratio of about 13.5 percent, he counters that all banks with involvement in trade nance face issues when there are problems in trade. The positive sign is that we have already addressed majority of these issues. If a bank has strong capacity for liquidity management and is surplus in liquidity, such problems can be sorted out, asserts Mehkari. He also goes on to state that Askari Bank has a solid liquidity management system in place. Mehkari is condent about the Banks future prospects stressing that major issues are being addressed and the protability is expected to be back on track soon. His enthusiasm may well be justied as Askari Bank is all set to enter into the business of branchless banking for which a detailed evaluation has been carried out and pilot launch is expected to take place soon. Mehkari shares his thoughts of having backing of an institution as strong and well-respected as the army. We do not need nancial support as our own growth is strong. And we have a well recognised status in the industry as Askari is considered one of the stable banks. Our presence may be moderate but our condence is high, which is positive for us, says Mehkari.
The twin cities of Rawalpindi / Islamabad are not Askari Bank stands out as an exception. The chief executive of the bank, M. R. Mehkari, is well aware of the shortcomings of being based in Rawalpindi as the business opportunities are signicantly lesser than those in Karachi or Lahore. But he has a rationale for being based in Rawalpindi as the bank nds its major depositors there and the major sponsors are also Rawalpindibased, which makes it convenient to deal with matters. We have a closer relationship with the tage for us, asserts Mehkari. Mehkari tends to disagree with the notion that banks need to have close relationships only for the lending and not for deposits. He asserts that in the current day and age, banks earnings are by and large dictated by the liability side, as the earnings on the asset side have been eroding of late. The CEO is quick to point out that Askari Bank stands out from the crowd which has gone on to invest heavily in government papers. Our advances have grown from Rs129 billion to Rs153 billion in the past three years, whereas the deposits have grown from Rs168 billion to Rs256
billion in the same period, so there is growth on both fronts, remarks Mehkari, conceding that the deposit growth has not matched that of the advances as the economic situation is not conducive enough to entice banks to lend aggressively. Mehkari relates the balance sheet growth to the aim of generating a targeted prot at the end of CEO also hints at organic growth through branch expansion as evident by the fact that Askari Bank has expanded its branch network from 150 branches to 235 in the last three years. The Banks cost of funds is in line with peer banks, whereas the CASA ratio also appears relatively stronger than comparably sized banks, as Mehkari stresses that management of banking spreads remains the core of Askaris business strategy Mehkari is condent that the increase in cost of deposits is not going to hamper the Banks protability a great deal, if the spread is maintained, You cannot expect Kibor to go up and the cost of deposits to stay the same if the former increases / decreases, the latter will follow suit, he highlights. Mehkari, who also served as a Director at the Foreign Exchange Department of the State Bank of Pakistan is all for the liberalisation of the foreign exchange regime.
. INTERVIEW BY ALI KHIZAR

AND HAMMAD HAIDER
Page 40
SMEs: VICTIMS OF FINANCIAL REPRESSION?

BY ZUHAIR ABBASI
IRONIES Consider this for instance, employs over 75 percent of the countrys non-agricultural workforce, constitutes around 98 percent of the countrys total economic establishments, contributes nearly one-third to the countrys GDP, has a one-fourth share in the nations export earnings yet its share in the countrys bank advances is hardly 10 percent. Yes, we are talking about the ever-neglected Small & Medium Enterprises (SMEs). What is more disturbing is the fact that SMEs instead of clinging to whatever little share in advances, they have nosedived in the past three years. The SME sector advances have receded at a brisk pace too as both the demand and supply dynamics have considerably deteriorated. The total outstanding advances to the SMEs stood at Rs334 billion as of December 2010 the lowest in ve years. What has led to such a slide is an intriguing question and the experts have divided opinion about the front. There is no denying the SMES are perceived as relatively high risk business segments for banks across the globe and Pakistan stands no exception. But the rate at which the risk prole has shot up of late, is very alarming and beats all odds. Not so long ago, NPLs were considerably lower (in single digits) than even the corporate counterparts. And the lending from the banks was obviously on a relatively higher side too. But that was the time when the macroeconomic situation was not as adverse as it is today and the 2008 recession had not hit the shores. Ever since 2008, which is also when the present government came into power, the banks advances to SMEs have slowed down, while the NPLs have gone from bad to worse. The NPLs for SMEs as of December 2010, were as high as 29 percent, which surely is not the safest of territories for the banks to be happily lending to businesses carrying high risk proles, especially when the macroeconomic situation shows little signs of improvement. You wouldnt nd many willing banks out there ready to nance the SMEs especially when the option of merely lending the government at a risk-free rate is readily available. The SMEs besides having the traditional set of problems of being less open to accounting practices, have the energy crisis and the law & order situation to blame as well. The cost of doing business has arguably increased manifolds in the past three years as highlighted by many local and global studies including that of the World Bank. The energy crisis alone has dented the SMEs more than any other variable, which is why amongst the SMEs, the small ones, either continue to be small or have liquidated. Whereas, elsewhere, nearly 12 percent of the smaller SMEs gradually progress to the medium and larger rms every year, as the business environment is conducive. The banks have long been reluctant to aggressively lend to the SMEs as they continue to shy away from adequate nancial reporting and prudence. Moreover, lack of entrepreneurial management skills is a critical factor that the SMEs desperately lack, which makes their case for nancial support Successful SME lending model in other countries has revolved around personal guarantees via collateral supervision; cash ow based lending approach, designated SME courts, and approved government lists for SMEs and a credible credit history. This is where both the SMEs and the banks focus on segmenting the SMEs has been missing, which makes SMEs vulnerable clients for banks. Another anomaly is that the major portion of advances to SMEs is borrowed to nance working capital requirements, whereas xed investment advances are a very small portion. This in itself is self explanatory of the nature of SME operating in Pakistan as they operate with minimal capital inventory and are mostly engaged in day to day operations. The overall picture of SME nancing is grim and needs major restructuring. Traditionally, banks extend loans to SMEs against collateral or nancial record keeping evidence. But most of the SMEs operate at smaller level and do not maintain nancials due to lack of expertise and resources, which becomes a major hindrance in obtaining nance for SMEs. A well established international practice of cash ow based lending to SMEs needs to be followed in Pakistan which would facilitate the SMEs. Another factor which adds to banks reluctance in lending to SMEs is the absence of an independent credit rating agency. Since the SMEs are mostly attached with high risk, the need for independent credit opinion is becoming increasingly unavoidable. Not only will this allow banks to disburse credit with a sense of surety and condence, it will also reduce their burden of risk mapping of SMEs. Almost 90 percent of SMEs are self-nanced because it is a highly informal and un-documented formal credit. Therefore there is a dire need of establishing venture capital rms in joint collaboration of government and the regulators, as it is done in many developing nations.
THE WRITER IS A RESEARCH ANALYST AT BR RESEARCH. HE CAN BE REACHED AT: zuhair.abbasi@br-mail.com
Page 41
PERSONAL RELATIONS ARE THE WAY FORWARD IN RURAL AREAS

President First Women Bank Limited, Shafqat Sultana
When First Women Bank Limited (FWBL) considered heading into nancing small and medium enterprises, the Banks board of directors advised against the move, contending that the Bank would not be able to sustain operations in a low-margins environment. But you cannot leave these people unattended, especially since nancial inclusion of the unbanked women of the country is our primary mandate, states president First Women Bank Limited, Shafqat Sultana.
Despite the strong commitment of the banks internal stakeholders, the fate of this bank remained in limbo for many years. In 1997 the government decided to privatize the bank. It was not until 2009, after I had stepped in as bank president that these privatization plans were scrapped, explains Sultana. She adds, During this time, we were not getting the right direction from our board or from the government, so despite a sound performance we had no concrete strategic plan.
FACILITATE THE ENTREPRENEUR

How can we expect that an entrepreneur who has started a business with just Rs100, 000, would be able to pay 30 percent markup? Sultana questions rhetorically. She opines that the cost of doing business has spiraled in recent times on the back of successive increases in utility rates and other prices. You have as well, to help them cope with challenging economic times, stresses the president. While bigger banks shy away from lending to SMEs under the pretext that lending to this sector entails taking on more risk than their appetite, First Women Bank has focused on small businesses while maintaining an admirable recovery rate of more than 96-98 percent, while its infection ratio is fewer than nine percent.
CAPITAL REQUIREMENTS
She appreciates the role played by the incumbent government as well as the central bank to this end. Government of Pakistan injected Rs300 million in to the bank in November, to bolster its equity base while another Rs500 million are expected soon while Rs2 billion have been announced for the same purpose in the upcoming year. Sultana recalls that the bank was established with an equity of just Rs100 million, whereas its equity currently stands around Rs1.1 billion. However, raising the banks capital to Rs10 billion by 2013 as mandated by the Basel accord is still a mounting challenge for this bank. Shafqat Sultana echoes the sentiments of other small banks as she criticizes the minimum capital requirement, arguing that capital adequacy ratios are more pertinent measures for gauging a banks viability. Every bank should be considered separately and its ability to withstand any economic shocks should be gauged. Our bank is very conservative when it comes to risk-taking, she contends. Sultana explains that the bank predominantly extends advances to small and medium enterprises and works very closely with women entrepreneurs.
EXPANSION PLANS
Establishing branches in rural areas is a big challenge To address this constraint, we are leveraging the support of NGOs. We provide credit limits to these organizations; they extend advances and collect necessary information from clients on our behalf. Similarly we collect markup and principle amounts through them, explains the bank president. Heading in to mobile banking is a tall order for the bank given its relatively small size. Sultana also leans towards the brick and mortar approach as she highlights, there are so many qualied young girls in the country who can add real value to this organization, so why shouldnt we set up more branches and employ their skills? However, the bank is considering plans to initiate the use of moveable bank branches that can travel between target markets. The commodity boom has propelled many rural areas towards developing into urban centers. There is a huge market for banking services in these areas and reaching these markets is also easier today than it was ten years ago. FWB envisions a cooperative style model whereby groups of residents from an area can make deposits and take advances from the same pool, says Shafqat Sultana.
NICHE BANKING
First Women Bank is perhaps, the only bank specically catering exclusively to women in the world. Its president, who has been instrumental in allaying government plans to privatize the entity, stresses that it serves a niche that must not be ignored in Pakistan. Women comprise more than 50 percent of the countrys population yet their ability to access credit is severely stunted when compared to men, she contends. For the economic empowerment of the countrys women it is very important that they should have access to a bank where they can make deposits, obtain advances and other services. Somebody should be there to counsel them regarding issues pertaining to budget management and business management, says Sultana. Extolling the hard work of the banks 578 employees, she contends, Our girls interact directly with clients. We have not outsourced our recovery department like many other banks, so we are much more accommodative with clients, providing services beyond banking. Even though the bank earns miniscule margins through lending to SMEs, the president asserts non-markup income from other operations ensures the banks bottom line stays well in the green.
HOW CAN WE EXPECT THAT AN ENTREPRENEUR WHO HAS STARTED A BUSINESS WITH JUST RS100, 000, WOULD BE ABLE TO PAY 30 PERCENT MARKUP?
. INTERVIEW BY MANAL IQBAL AND MOBIN NASIR

Page 42
MEEZAN BANK LIMITED

Meezan Bank Limited is the rst and largest Islamic Bank products to fulll the nancing needs of individuals and businesses. The Bank's Shariah Supervisory Board comprises of internationally renowned Islamic Scholars who review and approve the Bank's activities, products and services. compliant deposit and nancing products through its network of over 250 branches spread across 70 cities Banking facility on all Pak Rupee Accounts, a globally accepted VISA Debit Card, SMS Alerts service on every debit and credit transaction in customers' accounts, 8 to 8 banking services at selected branches, and a 24/7 Call Center. Some of the Banks products are: MEEZAN BUSINESS PLUS ACCOUNT This is Meezan Banks business account in which customers can avail a number of free services including free cheque books, free pay orders, free VISA Debit Card, free account statements, free Online Banking, free Internet Banking, free hold-mail facility, free SMS Alerts service, free intercity clearing, etc on maintaining a minimum balance. MEEZAN BACHAT ACCOUNT - Meezan Bachat Account CAR IJARAH - Meezan Bank's vehicle nance facility delivery along with Takaful (Islamic Insurance) cover. EASY HOME - Meezan Bank's home nancing facility through which customers can buy, build or renovate their homes as well as replace their conventional mortgage with an Islamic mortgage. LAPTOP EASE - Meezan Laptop Ease is a laptop nancing facility with easy monthly installments over a period of 3-24 months. ONLINE BANKING This service enables Meezan Bank's customers to access their accounts and conduct banking transactions from any of Meezan Bank's branches nationwide, regardless of which branch or city they have their account in this facility is for all Pak Rupee Accounts. MEEZAN VISA DEBIT CARD - Meezan VISA Debit Card is accepted at more than 30 million retail outlets worldwide. With Meezan VISA Debit Card, customers have access to the money in their account wherever they are, whenever they want, wherever they see the VISA symbol. INTERNET BANKING - Meezan Bank provides a smarter way to bank through its free Internet Banking facility, providing customers global access to their account 24 hours a day, 7 days a week. MEEZAN QUICK PAY - Meezan Quick Pay is a facility that allows customers to pay Utility Bills or mobile phone usage through Meezan Bank's ATMs, meaning that they no longer have to wait in queues to pay these bills.
Page 43
ADVERTORIAL
AMONG FASTEST GROWING NETWORKS

CEO Dubai Islamic Bank Pakistan, Junaid Ahmed
to the banking practices of innovative modern markets, we have a pool of knowledge to enable our customers to benet from. Our Sharia advisors play a crucial role in providing Sharia-complaint solutions and alternatives for all those products that serve genuine requirements of the nancial sector. Overall, our international presence with highly experienced management team enables us to provide World Class Banking- The Islamic Way. How fruitful was your recent Ad campaign? What was the major message that you wished to give to your audience? DIBPLs recent AD campaign had a two pronged approach which included enhancing the corporate image of the Bank and advertising our unique products. The corporate campaign was aimed at reecting upon the achievements of DIBPL that the Bank has enjoyed since inception and held the the best blend of traditional and modern Banking practices in line with our Islamic values. Our Corporate Ad showed upon our Dubai base as our strength and reected it as the modern side of Islamic Banking. Our product specic ads were aimed at marketing our unique product range comprising of the Cash Manager Account, Fixed Deposits, Platinum Banking, Junior Account and E-Savings Account. Each product has its own unique standing, with most of these not have rst-mover advantages in a variety of banking services such as BancaTakaful, Branchless Banking and Cash Management Services. Also, we are the only Banking, Mobile Internet Banking and SMS Banking. In the area of Consumer Banking, DIBPL has remained actively cognizant of the industry dynamics and products and services. DIBPLs Auto Finance registered a volume of Rs 2.9 billion within 9 months of its launch. In a market where cut throat competition persists, this reects a great success for the Bank. Similarly, DIBPLs Home Finance facility reached the fastest billion mark in the entire banking industry within the rst three months of launch only. Within the rst year of its launch, DIBPL Home Finance registered a volume of Rs 2.6 billion, which is the fastest growth rate in the entire industry. DIBPL has also played a pivotal role in various Sukuk transactions. From its structuring capability to distribution and coverage strength, DIBPL has added immense value to the Sukuk issued in Pakistan so far. DIBPL has been engaged in major Sukuk transactions such as Karachi Shipyard and Engineering Works Limited (KSEW), Power Development Authority (WAPDA),Engro Chemicals Pakistan Limited (ECPL), Sui Southern Gas Company Ltd. (SSGC) and Sitara Chemical Industries Ltd. (SCIL). DIBPLs Sukuk transaction for Engro Chemicals Pakistan Limited (ECPL) received the Best Pakistan Deal award for 2007 from Islamic Finance News, the industrys leading publication. In addition, DIBPL was the Sharia and Structuring Advisor for the Rs 191 Billion Government of Pakistan Sukuk. What are DIBPLs plans for the future? Eyeing the future in a very competitive Islamic Baking industry of Pakistan, we wish to provide not just Islamic range of Islamic Banking nancial solutions. Our plans for next year include taking our branch network to 100 along with developing further new niche-market products. We intend to use the best mix of innovation, talent and technology to achieve the dual goal of spreading the wings of Islamic more marketing campaigns to reect upon the virtues of Sharia-complaint banking and the launch of Sharia compliant products and solutions for banking products that serve genuine needs of the economy and nance.
DIBPL has just completed ve years in Pakistan. How would you describe the overall Banks journey? Dubai Islamic Bank Pakistan Limited (DIBPL) commenced its operations in Pakistan in 2006. By the grace of Allah, we have completed ve successful years in Pakistan. During this tenor, the Bank has products and services to its customers and hopes to continue maintaining this tradition further. DIBPL as a fresh new entrant in the Pakistani Islamic banking industry faced emerging competition with steadfast determination. The Bank currently enjoys a short-term credit rating of A-1 and long-term credit rating of Single A. We are proud to be one of the fastest-growing banking networks of Pakistan currently standing at 73 branches in 28 cities. We have plans for further expansion of our network to 75 by the end of year 2011. We have strived to make Islamic alternatives for all conventional products that serve genuine needs of trade and business so that our segment of population embracing Islamic Banking can be fully beneted. Our diversied product portfolio includes Current & Savings Accounts, Term Deposits, Foreign Currency Accounts, Auto and Home Finance, Takaful Savings Plan and Priority Banking. most comprehensive portfolio of state-of-the-art Alternate Delivery Channels (ADCs) giving 24/7 banking access to customers comprising of Internet Banking, SMS Banking, ATMs and Cash Deposit Machines. SME and Investment Banking services. DIBPLs Investment Banking provides its clients with a unique combination of expertise, broad range of investment banking/nancial services and access to top regional decision makers. Our exquisite Cash Management services help businesses reduce turn-around times for numerous cash ow activities along with providing real-time reporting services. Overall, DIBPLs Corporate Banking pays attention to the intricate details of business needs in todays world to give to them the convenience they require. Our journey has been marked with numerous achievements and valuable experiences. As a Bank, we wish to take forward our learnings of the past ve years and transform them for the better in the coming future. How is DIBPL able to provide World Class BankingThe Islamic Way? DIBPL has always sought its strength in its slogan. Being the First Islamic Bank of the world and having a global presence in the UAE, Jordan, Turkey, Sudan of banking services to our customers. Having access
in raising awareness of DIBPL amongst the masses and generating higher sales for many of our products. This we can say seeing the rising statistics of our call centre calls rate and more customer ow-through rate in branches. We look forward to this Ad Campaign to open up newer avenues for us in the future as we intend to make ATL and BTL marketing a regular feature of our banking activities. What to you are the greatest achievements of DIBPL so far? DIBPL can proudly claim to have achieved a lot in a short span of time. Currently, we are one of the fastestgrowing banking networks of Pakistan with 73 branches in 28 cities. MashaAllah, our new branches are showing outstanding performance and beating their own targets. We are planning to expand our network further to 75 before the end of year 2011. Along with nation-wide network, we have one of the widest arrays of banking products and services under one roof. The Bank has made an attractive prot of PKR 168 Million before tax in the rst half of 2011. We have established a sustainable and growing market share in the banking sector with our corporate and consumer banking propositions that cater to the unique and Halal nancial needs of business entities and individuals alike. Since inception, our focus has been on providing unique services to our customers. In this respect, we
DISCLAIMER:
THIS INTERVIEW WAS NOT CONDUCTED BY BUSINESS RECORDER RESEARCH
Page 44
OFF THE
FISCAL PRUDENCE AND DEBT MANAGEMENT

Expressing disdain over the governments performance lack of scal responsibility, a senior government economist pointed out:
BY BR RESEARCH
THERE IS NO THEOREM THAT STATES THAT EVERY STATE MUST NECESSARILY SURVIVE AND PROSPER
The renowned economist who is also among those experts tasked with guiding the countrys political establishment also speculated that the country would likely face much tougher terms, the next time it opts for a Stand-by arrangement with the International Monetary Fund, stating:
Often the words that matter most are either lost in conversation or go unappreciated among volumes of data and jargon. As this issue of the Banking Review 2011 draws to a conclusion, we present some of the comments and observations made by those interviewed, others who contributed articles as well as those who were contacted over relevant topics, in the weeks leading to the publication of this issue. The environment facing banks and other nancial institutions in the country is complex so drawing generalizations would be misleading. However, this compilation crystallizes many of the core issues confronting the industry at present.
THE NEXT TIME WE ENTER AN IMF PROGRAM, THEY WILL KEEP TABS ON EVERYTHING; EVEN THE BATHROOM SCHEDULE OF THE FINANCE MINISTER
LENDING TO SMES
The banking industry has faced much criticism from independent observers from and extend credit to small and medium enterprises. However, bankers appear apprehensive towards lending to SMEs for myriad reasons. The president of a local bank opined that:
MONETARY POLICY AND OTHER REGULATIONS

State Bank of Pakistan cut its monetary policy rate by 150 basis points to 12 percent in September 2011, citing its target of maintaining real interest rates at zero percent. Although banks may be expected to welcome a lower discount rate; the head of a leading local bank disapproved:
INFORMAL LENDING BUSINESSES ARE SO ENTRENCHED THAT THE BANKS CANNOT REPLACE THEM EVEN IF THE CENTRAL BANK CHANGES REGULATIONS TO THIS END
Highlighting that poor law and order, political uncertainty, persistent ination along with energy shortages have severely stunted this sectors ability to meet its nancial obligations, the head honcho of another local bank said:
NO BANK IN ITS RIGHT MIND WILL LEND TO SMES, EVEN IF THE DISCOUNT RATE DROPS TO FOUR PERCENT UNLESS THERE IS A FUNDAMENTAL CHANGE IN THE SOCIOECONOMIC CONDITIONS
RECENT CUTS IN THE DISCOUNT RATE WERE TOO STEEP. WHAT EXPECTATIONS IS SBP BUILDING FOR THE NEXT THREE TO SIX MONTHS?
At the same time, a senior banker asserted that the central bank should be more accommodative towards nancial institutions:
NON-PERFORMING LOANS
In the aftermath of the economic slowdown since 2008, the incidence of NPLs has been a constant dampener for commercial banks. While many industry stakeholders blame tough economic conditions, bankers feel many large business entities are not paying back their obligations for lack of fear of legal reprisal:
THE SAME PRUDENTIAL REGULATIONS ARE IN PLACE TODAY AS WHEN THE ECONOMY WAS BOOMING. THE CENTRAL BANK SHOULD TAKE NOTICE OF SUFFERINGS OF SMALL BANKS AND BUSINESSES ALIKE
Many smaller banks have remained loath to SBPs mandated increases in MCR. The president of one such nancial institution questioned the logic of this requirement stating:
MOST CASES OF NON-PERFORMING LOANS ARE WILLFUL DEFAULTS AND THIS WILL REMAIN SO UNTIL THE LEGAL SYSTEM IS FIXED
This sentiment echoed in the words of another peer from a rival bank who targeted the countrys large textile giants stating that:
IF WE ARE WORKING IN A RELATIVELY RISK-AVERSE MODE, WHY SHOULD WE BE STUCK WITH A BANK WITH A LOT OF CAPITAL?
TEXTILE MILL OWNERS ARE SPECULATORS, NOT MANUFACTURERS. THEY HAVE MINTED MONEY OVER A DECADE YET THEY NEVER BOTHER TO PAY BACK THEIR LOANS
Page 46

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MONDAY, JANUARY 02, 2012 | www.brecorder.

BANKING REVIEW 2011

FROM THE EDITORS DESK

BANKING REVIEW 2011 / JANUARY 02, 2012

BANKING REVIEW 2011 / JANUARY 02, 2012

BANKING REVIEW 2011 / JANUARY 02, 2012

BY DR. FAISAL BARI

BANKING REVIEW 2011 / JANUARY 02, 2012

BANKING REVIEW 2011 / JANUARY 02, 2012

MONETARY POLICY COMMITTEES OF KEY COUNTRIES

Source: International media, central banks' websites

SBP: NEEDS GREATER AUTONOMY

BANKING REVIEW 2011 / JANUARY 02, 2012

BANKING REVIEW 2011 / JANUARY 02, 2012

CROWDING OUT PRIVATE SECTOR CREDIT

THE WAY OUT

WHERE IS GOP GENERATING DEBT FROM?

THE RISING GOVERNMENT BORROWING

EFFECT ON PRIVATE SECTOR

BANKING REVIEW 2011 / JANUARY 02, 2012

The nations resilience against a host of challenges highlights the immense

BANKING REVIEW 2011 / JANUARY 02, 2012

BANKING REVIEW 2011 / JANUARY 02, 2012

TARGETING THE UNBANKED THROUGH TECHNOLOGY

CORPORATE DEBT MARKET

AUTONOMY AND TEAMWORK

BANKING REVIEW 2011 / JANUARY 02, 2012

GOING THE DISTANCE

. AND MOBIN BY ALI KHIZAR INTERVIEW NASIR

BANKING REVIEW 2011 / JANUARY 02, 2012

NO LEGAL STRUCTURE THAT PROVIDES SECURITY TO THE LENDER

. INTERVIEW BY ALI KHIZAR AND MANAL IQBAL

BANKING REVIEW 2011 / JANUARY 02, 2012

THE NEED FOR FINANCIAL INCLUSION WITH A PAKISTANI PERSPECTIVE

REGULATORY AND COMPETITIVE SCENARIO

REVISED BRANCHLESS BANKING ACCOUNTS' LIMITS (RS)

FINANCIAL INCLUSION IN PAKISTAN: IMPACT OF MOBILE FINANCIAL SERVICES

BASELINE INCL. MFS BASELINE INCL. MFS BASELINE INCL. MFS

BANKING REVIEW 2011 / JANUARY 02, 2012

BRANCHLESS BANKING TRANSACTION (JULY-SEP., 2011)

Source: SBP Branchless Banking Newsletter (October 2011)

MARKET RIPE FOR NEW ENTRANTS

THE WRITER IS A RESEARCH ANALYST AT BUSINESS RECORDER. HE CAN BE REACHED AT hammadshah24@gmail.com

BANKING REVIEW 2011 / JANUARY 02, 2012

MOBILE BANKING IS BEST BET FOR MORE FINANCIAL INCLUSION

BANKING THE UNBANKED

BANKING REVIEW 2011 / JANUARY 02, 2012

WATCHFUL: AT HOME AND ABROAD

. INTERVIEW BY ALI KHIZAR AND MANAL IQBAL

BANKING REVIEW 2011 / JANUARY 02, 2012

UMER CONS TS RIGH

Based on these observations, the following conclusions emerge:-

BANKS NOT SHARING THEIR PROFITS WITH DEPOSITORS:

COMPARATIVE POSITION OF BANKING SECTOR

HIGHER RATE OF RETURNS ON DEPOSITS OF LARGE AMOUNTS

PROVISIONS AGAINST NPLS

BANKING REVIEW 2011 / JANUARY 02, 2012

WRITE OFF OF ADVANCES

ISLAMIC BANKS ALSO INFRINGE UPON THE RIGHTS OF THEIR CUSTOMERS

BANKING REVIEW 2011 / JANUARY 02, 2012

OPERATING INCOME TO EXPENSE RATIO (9MCY11)

CASA RATIO (DEC10) STRUCTURE OF EARNING ASSETS (SEP'11)

80% 76% 72% 68% 64%