While macro stabilization measures have started showing favorable results, particularly on the external front, the economic activity is expected to remain muted, State Bank of Pakistan stated in its Mid-Year Performance Review (MPR) of the banking sector for the calendar year 2019 (CY19).
The projected slowdown in global economic activity—particularly in the US and Europe —is likely to influence exports and the demand for advances. Hence, the private sector financing demand is likely to remain subdued in the remaining period of 2019.
In addition, owing to perceived weakening in the re-payment capacity of firms and the recent pick-up in the Non-Performing Loans which increased to Rs. 768 billion, banks may remain risk-averse in their lending behavior. The government’s commitment to cease its borrowing from SBP is expected to continue as well.
Particularly, banks’ overall investments in government securities are expected to rise, though the maturity choice will largely hinge upon their views about the interest rate movements. The expected increase in investments will enhance the funding requirements of banks, while deposits will remain the key source of funding and some uptake in borrowings could also happen.
The rise in Minimum Savings Rate (MSR) is likely to induce depositors to opt for more savings and fixed deposits, while banks may face challenges in mobilizing low-cost deposits. The earnings are likely to remain decent in the half-year ahead, due to higher interest-earning and an expected pick-up in banks’ investment in government securities.
However, an increase in credit risk due to deterioration in asset quality, in the face of tighter macro-financial conditions, may put earnings under some stress.
The portfolio tilting towards zero risk-weighted govt. securities may further augment the already strong Capital Adequacy Ratio (CAR) as well as the liquidity of the banking sector. Banks need to put in place capital enhancement plans in light of the regulatory CAR requirement, which is increasing to 12.5 percent by December 31, 2019.
According to the review, the performance of the banking sector remained satisfactory, despite the challenging macroeconomic environment. The sector maintained its growth trajectory with asset expansion of 5.3 percent during H1CY19 (Year-on-Year (YoY): 7.9 percent), primarily funded by deposits that witnessed the highest growth since H1CY16.
There was some deceleration in growth in advances—a consequence of economic slowdown. Investments grew marginally and banks exhibited renewed interest in long-term government securities i.e. Pakistan Investment Bonds (PIBs).
The overall risk profile of the banking sector remained robust. Though the asset quality was moderated, the earnings of the banking sector improved owing to an increase in Net Interest Income (NII). Resultantly, all profitability indicators showed improvement. The Capital Adequacy Ratio (CAR) at 16.1 percent was well above the local and international minimum benchmarks of 11.9 percent and 10.5 percent, respectively.