Pakistan’s Islamic banking industry is growing rapidly with a combination of a predominantly Muslim population, still modest financial inclusion, and the commitment of the government and regulators as the key driving forces, as noted by Moody’s Investors Services (Moody’s).
The rating agency stated in a report on Pakistan that huge growth over the last decade shows no signs of slowing. Islamic banking assets in Pakistan grew by an average of 24 percent per annum over the last decade to Rs. 5,577 billion ($31.2 billion), accounting for around 19 percent of the total banking assets, up from eight percent in 2011. Annual growth of over 25 percent can be expected over the next five years, which will push the sector’s market share up to around 30 percent.
A large Muslim population and still modest financial inclusion are key growth drivers. The country’s large population of over 210 million people is predominantly Muslim.
Moreover, financial inclusion in Pakistan is still modest despite recent progress, and approximately 62 percent of the country’s adult population has an account with a formal financial institution, against an average of 95 percent in high-income countries, according to the State Bank of Pakistan (SBP). The combination of these factors provides the bedrock for the industry’s development
. Previous studies have also identified an overwhelming demand for Islamic banking products, with religious considerations as an integral part of the decision process.
The government and central bank are taking active measures to support the industry’s growth. The SBP’s five-year Strategic Plan for the Islamic banking industry set out targets and identifies six areas of focus that will enable the industry to achieve them.
The regulator is also supporting the gradual adoption of the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI1) Shariah accounting standards, enhancing liquidity management tools, undertaking numerous awareness, and capacity building programs, and has issued instructions to improve Shariah non-compliance risk management, as per Moody’s report.
Pakistan’s Islamic banking industry has grown by 24 percent a year on average over the last decade and expanded by 30.6 percent in 2021 alone. The total Islamic banking assets accounted for 18.6 percent of the total banking assets at the end of 2021 to stand at Rs. 5,577 billion, up from Rs. 641 billion in 2011.
Similarly, deposits stood at Rs. 4,211 billion, holding a 19.4 percent market share with an average annual growth of 23 percent over the period. Net financings amounted to Rs. 2,597 billion, or a 25.7 percent market share, and have grown even faster than the deposits to reach an average expansion of 29 percent over the last decade. The outperformance of financings is likely driven by the more limited availability of Shariah-compliant liquidity products and strong demand for financing products.
Growth in Islamic banking is expected to continue to materially outpace conventional banking to attain a market share of total assets and deposits of around 30 percent by the end of 2026, with net financings market share at around 33 percent. We estimate average growth over 2021-2026F to range between 25 to 28 percent for the total assets and deposits, and over 20 percent for net financings.
The Islamic banking industry in Pakistan comprises 22 Islamic banking institutions, consisting of five fully-fledged Islamic banks and 17 conventional banks that have Islamic banking branches. A total of 3,956 branches were operational in December 2021 with 1,442 additional Islamic banking windows (dedicated counters at conventional branches). In 2021, 500 branches were added, and Moody’s expects a similar number of new branches to be added annually over the next five years.
Increasing the use of digital and electronic channels will also support the industry’s growth. Given its growth potential and strong financial performance, Moody’s also foresees more banks applying for Islamic banking licenses and for conventional banks to convert to fully Islamic banks. Faysal Bank Limited, a mid-sized bank with a market share of around three percent is already in the process of converting from conventional banking to Islamic.