Banking Review 2012

Editors note
B for banking and big business

It is extremely difcult, if not impossible, to discuss countrys banking scene by ignoring the plight of the overall state of its economy. But the problem does not end here. Any analysis of macroeconomic indicators will surely lead to an assessment of the political scene mainly because of the fact that Canadian cleric Dr Tahirul Qadris protest had threatened to destabilize this country as it inches towards what would be the rst democratic transition of power between two civilian governments through a general election due in May this year. Finally, sanity gained ground on both sides, leading to an end to this protracted dangerous stalemate after 5 nights and 4 days. It is during these turbulent days that the Karachi Stock Exchange, its premier bourse, shed 525 points in a single day due to uncertainty that had deepened on account of the Supreme Court order for the arrest of the then minister of water and power, and now prime minister, Raja Pervez Ashraf, in the rental power case. That banking does play a highly important role in the scal management of a developing country is a strong reality that has arguably found its best expression in Pakistan. For example, banking industry has acquired a new role through Tax Laws Amendment Bill 2012 that seeks to empower it to document unregistered individuals by issuing National Tax Numbers to them and accepting their declarations and investment schemes. The other body that has been entrusted with a similar task is the National Database and Registration Authority (Nadra). There is no denying that Pakistans banking sector has shown a lot of resilience over the past many years. It emerged unscathed when the world was hit by the nancial meltdown in 2008. This was made possible because of its less than signicant global exposure and resultant integration. Nevertheless, banking in Pakistan is quite mature in terms of supply and product range, including Shariah-compliant products. This sector has clean, strong and transparent balance sheets relative to some other banks in comparable economies in the world. It is interesting to note that in Pakistans context it is generally believed that although the banking industry is highly protable, a number of banks are in trouble and their existence may be under threat. These are small and medium sized banks. This category of banks is said to be still facing acute problems in mobilising deposits and are struggling to meet the minimum capital requirement set by the State Bank. Banks have made slow progress in electronic payments. Entry of cellular companies in telebanking has been quite spectacular and as much as nine percent of payments are settled through mobile phones whose penetration is said to be over 60 million in a population of 180 million. Although, in recent times we have seen a proliferation of banks, some of them are under-capitalized, poorly managed with a scanty distribution network. Agriculture, small and medium enterprises, housing sectors are underserved and the middle class and low income groups have limited access to credit. Moreover, banks have been accused of focusing on trade and corporate nancing with a narrow range of products. They are criticized for their lack of will to diversify into consumer and mortgage nancing for which there is ample unsatised demand and last, but not least, they are accused of suffering from poor quality of human resources, weak internal controls, non-merit based recruitments, high administrative costs and undue interference of unions in their decisions making process affecting the performance of public sector nancial institutions adversely. The countrys economy is coping with a protracted period of stagnation mainly because of a consistently low level of credit availed by the private sector together with declining foreign investments. The question that even a 400 basis points reduction in interest rates over the past 17 months has failed to whet the private sectors appetite remains partly answered. The oft-repeated, if not entirely profound, reasons are chronic energy shortages that have caused considerable adverse impact on the utilization of productive capacity within the economy and a serious law and order situation that generally deters any established or prospective investor from entering or introducing new ventures or expanding the existing business base. The upcoming general election will be a period of wait-and -see because businesses would wait for things crystallize before they take prudent decisions. The two prime casualties of the situation are productivity and jobs. The latter in turn tends to exacerbate social tensions while the former gives birth to an environment in which efforts aimed at achieving revenue collection targets are fraught with uncertainty and hopelessness. The Banking sector is also required to pay attention to the SME sector that it truly deserves. The argument often advanced by some top banks that the SME sector does not have the capacity to borrow beyond a certain limit and service it accordingly, is only a strong reection of the banks reluctance to develop a more robust and focused strategy towards meeting the needs of SMEs. It is time that the banks took certain initiatives to enhance their lending to this sector that will be in the interest of both; the banks and the economy. We must not lose sight of the fact that SMEs play a highly important role in the economic development of the country. The SBP governor, Yaseen Anwar, too has underscored this need. According to him, this sector makes a highly signicant contribution towards economic growth (GDP) while providing employment to 70 percent of non-agriculture workforce and generating 25 percent in export earnings. It is unfortunate that heavy domestic borrowing by the government is crowding out private sector credit with negative implications on growth. Although the private sector remains the engine of growth, the bulk of bank credit is channeled into unproductive government subsidies leaving little for trade and industry. That the government offers banks an absolutely safe and secure deal because every penny that it borrows is backed by a sovereign guarantee is not a wholly plausible reason for the banking sector to abdicate its responsibility towards the private sector where incidence of NPLs is unfortunately quite high. The governments over-reliance on the nancial sector cannot be limitless. In the developed world, nancial markets are as much as 200 percent or even more of the GDP - while in Pakistan it is less than 30 percent of GDP. Consequently, the government will need to print more money if it does not halve its budgetary decit from its present level of over 7 percent of GDP. Although, the need for nancial viability of banks and their various schemes is widely acknowledged, nonetheless this sector is required to take some concrete steps towards removing the widely-held perception that the interests of the poorer sections and as well as those of the common man are ignored. Broadly speaking, banks in Pakistan have a bright future because even most of the new entrants have established themselves in the system and have set new standards of service and efciency. Dear readers, this Banking Review by Business Recorder is an effort aimed at providing you with an insight into this highly important sector with a view to strongly stressing the point that while this sector has been important, it is going to be even more important in the future. Enjoy!
BANKING REVIEW 2012 / January 28, 2013
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BR RESEARCH
THE TEAM
Ali Khizar Aslam
Head of Research
Mobin Nasir
Asst. Editor Research
Contents
Banking Review 2012
Monday, January 28, 2013 | www.brecorder.com/br2012
Zuhair Abbasi
Senior Research Analyst
Sijal Fawad
Research Analyst
Hammad Haider
Research Analyst
Sidra Farrukh
Research Analyst
Javeria Ansar
Research Analyst
Sobia Muhammad Saleem

Research Analyst
Naseem Waheed
Database Ofcer
Abdul Musawer Gulzar

Creative Designer
Murtaza Khaliq
Creative Head
2013: HERE COMES A TOUGH ONE!

Ali Khizar
Cost cutting seems to be the strategy rather than looking for innovative out-of-the-box solutions. Government borrowing from scheduled banks is unlikely to take a breather, while few companies from textile and other corporate sectors may step into the contest as economic opportunities emerge for them. However, lethargy on building energy infrastructure, diminishing writ of the law and swelling parallel economy will likely remain hurdles to nancial inclusion. The continuity of the high prot regime for the banking sector has been exposed by lower interest rates and
rising ceiling on deposits rates. The State Bank of Pakistan (SBP) has done well to use market-oriented solutions to push the banks along their primary role of nancial intermediation. But history suggests that the downward trend in interest rates may be a short journey. Further, the sour taste of non-performing loans is still keeping banks appetite ow for lending to SMEs and consumers. As a result, to date only 10-15 percent of the population have entered the formal nancial system while the overwhelming majority continue to rely on informal lenders. Bank deposits are a mere one-third of the size of the economy (GDP). Other developing countries have raced past these levels in recent years. Whats more, conditions have worsened over the last ve years as the transfer of income from urban to rural areas has also led to higher ow of funds into the grey economy. Currency in circulation is close to one-third of the overall monetary assets and that has substantially increased in this regime. If half of that money is bought back to the formal nancial system, the deposits-to-GDP ratio will be comparable to that in India.
Bankers beware! 2013 is going to be a tough trough for banks top-line revenues amidst falling interest rates and squeezed spreads. So how are the countrys banks adjusting to this emerging reality?
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Given the velocity of 2.5-3x, banking deposits would increase by half from Rs6 trillion to Rs8.5-9 trillion. This can make our scal debt sustainable; bring ample room for private sector to borrow from banks and churn the wheels of the economy. But in the absence of market-oriented policy reforms this seems like a romance on a rainy December day. The reminiscence of boom of the last decade could turn to reality by bringing this liquidity back to the system. Lending rates could easily be in the vicinity of low, single digits with adequate credit for long-term investments,
may be in the ofng on this front, in 2013. As far as SME lending constraints are concerned, the regulator should push banks to develop de-centralized models whereby relationships are inculcated with businesses and facilities are offered based on the banks experience with individual clients. The reforms needed to spur banks away from lazy banking mandate concerted efforts from the SBP, banks, the Securities and Exchange Commission of Pakistan and the Government; to develop a long-term yield curve, revamp recovery laws and come up with
cost for the issuer (Government) while also providing borrowers an alternative to bank deposits. The development of a long-term yield curve is crucial to bolstering long-term private sector lending in the Country. The commercial banks have become increasingly focused on lowering the cost of deposits and lending to the Government to beef up the bottom line. Presidents and senior management of banks appear xated with cost cutting through work force rationalization and reducing the number of branches. By bringing in investment banks as competitors to commercial banks in the debt market, the latter can be pushed to play more effective roles as nancial intermediaries. Barring such reforms, driving nancial inclusion in the Country would remain a distant dream. After all, the persistent pressure brought on by the high scal decit and Balance of Payments vulnerabilities may soon give wind to simmering calls for a tighter Monetary Policy. Once that happens, banks prots will again rise on the back of lazy banking. That would mean lights out for efforts to bring the unbanked to the formal nancial system.
As far as SME lending constraints are concerned, the regulator should push banks to develop de-centralized models whereby relationships are inculcated with businesses and facilities are offered based on the banks experience with individual clients.
working capital as well as consumer products like house, car and personal loans. The investment to GDP ratio is at the lowest ebb of 12.5 percent of GDP in FY12 (provisional), which was 22.6 percent of GDP in FY08. Capital formation can boost formal savings, but it will not help much in bringing the unbanked into the formal nancial fold. For that to happen, prudent regulations, high foreclosure and documentation requirements, skewed banking recovery laws, low capacity of courts and poor law enforcement, are all hurdles that need to be addressed. Bankers have ratcheted up efforts to speed up banking court cases and there are reasons to believe a change market-oriented reforms that drive banks to lend to the private sector.The debt market is small and conned to a few banks treasuries with a sprinkling of participation by mutual funds. Virtually all the trade is taking place in short-term Government paper. Whatever corporate debt market was there in the form of TFCs is diminishing in the aftermath of the 2008 nancial crisis. Outstanding TFCs are worth less then a hundred billion rupees while Government Treasury Bills are oating in trillions of rupees. The Government would do well to issue Pakistan Investment Bonds (PIBs), at longer maturities instead of over-reliance on T-bills. Such a move would lower the
The writer is Head of Research at Business Recorder. He can be reached at: ali.khizar@br-mail.com
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Small banks should actively seek mergers

Mian Mohammad Mansha | Chairman, MCB
BR Research: None of the bigger banks seems willing to swallow any of the smaller banks. You yourself run a big bank; would you be willing to take over a small bank? Mian Mansha: We want to take over some banks but we are not allowed to do that. And this is not just limited to our bid for the foreign banks. They were leaving, so they seemed to be a good target. But with regards to those foreign banks, rst the RBS bid didnt go through. Then even HSBC did not work out. Citibank was the same story. All these banks have moved out of Pakistan so they seemed to be the right target, and the opportunity also seemed ripe. Recently, Citibank announced a reduction of another 11,000 people globally. So, certain segments of the market arent protable anymore and people are withdrawing from these segments. Therefore, I feel that there should be mergers between smaller banks, or even mergers between smaller banks and bigger banks so that they can reduce cost and provide better deals to borrowers and depositors. We arent in any hurry, though. We are currently the most protable Bank in Pakistan, and we are busy with our internal considerations as a lot needs to be done within our own bank. I have my qualms about small banks being successful and niche players. The name of the game is business and I believe that there are some serious issues with smaller banks. However, we will have to wait for results of past mergers as these things take time. In general, the smaller banks should look for mergers among themselves or with the bigger banks. BRR: SBP has cut rates signicantly over the course of CY12. How do you view these cuts and how can banks fare well in a situation where spreads are narrowing? MM: Interest rates should come down and that is the right approach by the apex regulator for spurring economic growth. But in my opinion, the discount rate has dropped too much and too quickly. The central bank should also have adjusted its oor on return on deposits in line with the 300 bps reduction in the discount rate. By not taking any measures on this end, SBP has exposed the smaller banks to very tough conditions. Protability of banks will be impacted by lower rates; while we see that as a challenge, we are also cognizant of the fact that this is necessary for a stimulus to the economy. Unfortunately, this impetus has not kicked in yet despite lower interest rates. The issues limiting economic activity are diverse and not entirely curable through a rate cut. First of all, there is this divide between the North and the South. The North has no energy. In our own group, we are trying to expand. The businesses were going into a shopping mall, two hotels, and a dairy business in Lahore require minimal usage of energy. Despite all of our work on biofuels, we cannot afford the risk emanating from the energy sector. And in the South, particularly in Karachi, the security issue continues to plague the economy. The energy crisis may be controlled by entrepreneurial drive. One can set up ones own alternate source of energy or incorporate the risk into their cost consideration and required return. But businesses cannot control lawlessness. I welcome a reduction in interest rates. Minimum deposit rates should be reduced or eliminated. But more importantly, the banks need to cut their costs. Look at this one consideration: the top neurosurgeon in the world probably makes less money than a 30-year old investment banker at Goldmann Sachs. Theres something wrong here, but the change is coming: With the number of people in London, New York and even here, that are running off from consumer banking, the change will come because you cannot continue to charge people 20-25 percent interest rates on credit cards and expect them to pay you. BRR: Banks are hesitant to expand their consumer lending portfolios in the Country. In your opinion, are the current laws regarding bankruptcy and recovery of loans an impediment to banks expansion in these market segments? MM: In the absence of any security or collateral against the loans given out for the purchase of a car or a house, it is quite difcult for banks to offer a mass-market product without being ooded with defaults; wilful and otherwise. The banks that are stuck in litigation for years on end should be facilitated by speeding up the judicial process. In my opinion, public pressure can also play a big part in driving reforms that aim at providing speedy justice; not just in the banking courts but in all other courts of law as well. In Sri Lanka, there is a law for mortgages under which any person that does not pay three or four monthly installments, automatically loses possession of that property which is seized by the lending institution. In Pakistan, very little investment is being channeled towards the development of real estate simply because the banks are not able to lend without adequate security or collateral, and so prospective investors often cannot arrange the necessary nances to take on such projects. I have my sympathy with someone who has his house possessed. That must be one of the nastiest experiences. But you also have to consider the fact that an entire sector is losing out on a development opportunity. You need the housing sector to develop. The real estate and housing sectors drive dozens of other industries which in turn provide hundreds of thousands of jobs. We simply cannot afford to put the brakes on such a vital sector of the economy. You change the laws and provide tax relief on housing sector investments, the banks will automatically begin developing housing schemes to fuel growth in the sector. The banks will have to sweat a little bit, but the best days of banking prots and telecommunications industry prot are gone.
INTERVIEW BY: ALI KHIZAR
The discount rate has dropped too much and too quickly. The central bank should also have adjusted its oor on return on deposits in line with the 300 bps reduction in the discount rate.
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Revamp laws to revive consumer and mortgage lending

Atif Bokhari | President United Bank Limited
BR Research: Falling rates are bringing back memories of 2001, when cost of credit was low yet demand was mute. Would you agree? Atif Bokhari: Theoretically, the interest rate regime may well be in favour of aggressive lending. But today, there is no demand for private sector credit because of a variety of reasons. One will have to be suicidal to go out and start lending in todays circumstances. Besides the gas and electricity crises; law and order is eeting. The SME sector doesnt have the capacity to take on more credit and service it while adding infrastructure. On the other hand, large corporations have also not seen any signicant capacity expansion in the past few years. Such rms have an appetite for working capital requirements, but not much beyond that. BRR: Do you expect the upcoming general election to generate demand from spending on projects? AB: I think everyone will adopt a wait-and-see policy before embarking on new projects or expanding the current ones. The liability side of the banking system is not an issue as deposits are still growing at a decent double-digit rate. The election itself will not create any productive assets; it will merely be circulation of money in the system. The problem lies on the asset side. BRR: Banks have been criticised for lack of innovation in lending. How would you respond to this criticism? AB: The environment is such that it does not create innovation. The energy crisis is one reason, law and order is the other. Moreover, the legal system itself is an obstacle to innovation and lastly, people key reasons hindering industrial advancements. There are only a handful of quality business schools for a nation of more than 180 million people. The capacity has not increased that much. I will give you the example of KSBL, where we planned to launch with 60 students, but we ended up having 40, as we did not want to dilute the standard. So this is the state of education where we cannot even nd 60 good students for a graduate program. Secondly, the training ground is no longer available, which is also a big issue. Big multinationals used to be a good training grounds for graduates but giving the lack of new investments, this is not the case anymore. BRR: How rapidly have you added to your branch network over the years? There is no transition in Pakistan from low income to middle income group, so there is not much room for people to invest and save. But we are conducting awareness drives to educated people on the virtues of savings. BRR: In your view, will falling interest rates revive consumer lending? AB: The real problem on this front is the culture of non-payment. So far only small portfolios with very tight cost controls have worked for the banks, but that pushes up the cost of acquisition to an unaffordable and unscalable level. BRR: Informal lenders charge high rates, yet they are well entrenched. Why are the banks unable to tap this demand? AB: The legal system is simply not conducive for the banks. The last hearing over the Recovery Law was held in April 2011 by the Supreme Court of Pakistan, and nothing has happened since. Even when banks win a decree, getting it enforced is another uphill battle. If the status quo remains, the mortgage market will never develop in this country. BRR: What amendments do you propose to the existing laws to improve the judicial system with regard to banking disputes? AB: There was a Corporate Rehabilitation Act that was introduced and is still biting dust. We agreed on a certain draft earlier but this has now been completely changed heavily in favour of the borrower, without the consultation of the nancial sector, which we are not going to accept in any case. Some people say we can manage it by improving our collaterals but the point remains that if it cannot affect realization of that collateral in case of a default, then there is no point in structuring your collaterals.
UBL ADDED
NEW BRANCHES
in CY12
50
We are opening 350,000 virgin accounts every month, even if we retain half of them for the next six months, it will be a good number. Omni has been a roaring success; we do almost three million transactions a month through 7,000 agents.
just do not want to put up new money. They would rather go and invest in real estate. People do not see enough business opportunities in terms of investment, which is why all the money is going into real estate. It is a worldwide phenomenon that real estate prices go up in a declining interest rate scenario. It is very easy to park your money in real estate. It will eventually come back to the system, but deposit generation is not the issue. BRR: The countrys industrial sector has not graduated beyond light engineering as witnessed in China and India in the recent past. In your view, what are the main hurdles to this evolution? AB: A lack of managerial competence and corporate governance are the two AB: It has been more of a sporadic growth. We added 85 branches last year and are expected to add around 45-50 this year. Going forward with this low interest rate scenario, I do not expect any aggressive growth in the branch network across the industry. Because to breakeven, you will have to create a lot more liability, with the kind of spreads that we have at the moment. BRR: Is banking penetration increasing at a mentionable pace in the country? AB: Yes, and it will only keep on increasing. We are opening 350,000 virgin accounts every month, even if we retain half of them for the next six months, it will be a good number. Omni has been a roaring success; we do almost three million transactions a month through 7,000 agents.
UBL OPENED
85
in CY11
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BRANCHES
INTERVIEW BY:
ALI KHIZAR AND ZUHAIR ABBASI
Following the money trail

Mobin Nasir and Zuhair Abbasi
As nancial intermediaries, banks are the conveyor belt that channels funds from savers to prospective borrowers so that the money accumulated by the nation and its businesses can be used to expand economic activity and provide the foundation for growth in the future. In Pakistan, this conveyor belt seems eternally wedged in the VIP section lled with Government and few large corporates, while throngs of SMEs and individual borrowers in the metaphorical waiting lounge wait endlessley to get a share of bank loans. The growth in banks advances has been left in the dust of galloping deposits. In the past ve years, the gap between deposits and advances has worsened and this chasm has been lled by investments in Government debt. Banks advances to the private sector have grown; but ination adjustment shows real growth in the past four years has barely managed to serve existing working capital requirements of the private sector. Regional break-up of advances and deposits shows an even bleaker trend; where credit disbursement to the private sector in Balochistan, Khyber Pakhtunkhwa, Federally Administered Tribal Areas and Azad Jammu and Kashmir has thinned, despite their rising proportion in total deposits with the banking sector. Overall advances expanded by 15 percent between CY08 and CY12. During this period, the growth in advances in Rs9 against every Rs100 in desposits generated from that province. In case you misinterpret this to mean there are no business opportunities in Balochistan, the latest report of the Global Entrepreneurship Monitor (GEM) in January 2013, has highlighted that Balochistan has the highest proportion of entrepreneurs in the entire country. The situation is similar in other provinces. Sindh Bank which was created to boost access to the nancial system for residents of rural areas, has also amassed close to 40 branches in Karachi, besides a dozen outlets in major cities like Lahore and Islamabad. Arguably, the business model deployed here is barely different from any of the other scheduled banks. Scheduled banks cannot be blamed for concentrating branch networks where business prospects are brighter. Government policy with respect to nancial inclusion is either ineffective or missing. Studies conducted by the State Bank of Pakistan concede the disbursement of credit in rural areas has been mostly conned to agricultural credit and deposit mobilization for wealthy land owners only. The services provided in rural areas have been inadequate as well as inconvenient, inappropriate, unsafe, unaffordable and causing a great deal of inconvenience. percent. Banks investments in Government securities, have grown at a 5-year CAGR of 24.7 percent. To put things in perspective, the ve-year period prior to CY08 saw an 18 percent cumulative average growth in deposits. The advances growth for the period was a handsome 24 percent, outpacing the growth in investments, which clocked in at 12.7 percent. Such massive reversal in deposit utilisation trend explains the deteriorating ADR, which has nosedived to 52.5 percent as at June 2012, from as high as 75.2 percent in CY08. Of the Rs2,585 billion additional deposits created during CY08 and CY12, a massive 85 percent were invested in Government paper, leaving only Rs400 billion or 15 percent of additional deposits created to be lent to the private sector. The Big Five Banks have led private sector lending as 71 percent of the total advances are attributable to them although their share in deposits is lower (53 percent). On the other hand, mid-sized banks have a 22.7 percent share in total deposits, and a similar portion of total investments in Government debt. Looking across industries, manufacturing sector is the largest recipient of bank credit with 56 percent share in private sector credit. But the devil is in the details: lending to textile sector has dropped incessantly in the past six years. The story of commerce and trade sector is not any different as its share in private sector credit has fallen down to single digits at 8.6 percent as of November 2012, against 13 percent in CY06. Most of the fresh credit has unfortunately gone to, the least desirable sector with the least desirable usage, i.e. the electricity and gas supply. The huge pile of circular debt due to the crippling energy crisis has led to increased short-term borrowing requirements for the energy sector, making the sector the second largest private sector borrower after the textile industry. The cash-strapped Government of Pakistan has repeatedly touted Public-Private Partnerships as the best available option to drive economic activity and development. It is for the Government and central bank to understand that unless credit starts to reach businesses and people, there will be no such partnerships.
The writer is Research Analyst at Business Recorder. He can be reached at: m.zuhair.abbasi@gmail.com The writer works as Asst Editor-BR Research. He can be reached at mmobinn@gmail.com
PRIVATE SECTOR CREDIT SHARE

Agriculture, hunting and forestry Manufacturing Textiles Chemicals and chemical products Electricity, gas and water supply Construction Commerce and Trade Transport, storage and communications Real estate, renting and business activities Personal Source: SBP
Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Nov-12 8.6% 59.4% 28.2% 4.2% 1.5% 3.0% 13.0% 4.6% 4.6% 22.2% 8.3% 7.4% 58.2% 58.1% 26.1% 23.6% 4.3% 6.6% 3.5% 6.4% 3.4% 3.4% 12.0% 11.3% 4.4% 4.4% 5.8% 4.8% 22.0% 17.0% 7.4% 57.8% 23.5% 7.1% 8.0% 3.0% 10.5% 4.2% 4.8% 14.9% 7.3% 57.5% 23.5% 6.4% 9.8% 2.9% 9.5% 4.4% 4.6% 12.5% 7.5% 57.1% 21.7% 6.6% 11.9% 2.6% 8.5% 3.9% 4.3% 11.4% 8.4% 55.9% 20.6% 7.1% 11.5% 2.1% 8.6% 4.6% 4.5% 11.9%
Punjab and Sindh clocked in at 15.5 percent and 17.25 percent, respectively. On the other hand, Khyber Pakhtunkhwa and Balochistan saw advances shrink by seven percent and 16 percent, respectively. In Punjab and Sindh, the advance to deposit ratio (ADR) stands at a healthy level of 63 percent and 72 percent, respectively. However in Khyber Pakhtunkhwa, only Rs13 were lent out for every Rs100 in deposits. The banks were even bigger scrooges in Balochistan; lending just
When quizzed over the weak proportion of advances, most bankers point to the energy crisis, frail law and order and political uncertainty; contending there are few opportunities for extending private sector credit. Statistics may not tell the whole story but surely they do not lie. Banks advances to the private sector in the past ve years have grown at a cumulative average of just 2.4 percent. This pales in comparison to the deposit growth during the same period, whcih clocked in at a steady 10
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Cre Credit r dit demand is re strong s ro st r ng n across a ro ac ross oss sectors sect cto ct tors and corporate c rpora co rat ra ate te earnings n are ngs r healthy re hea e lthy ea h hy
BR Research: SCBPLs internet banking is a success story. Do you foresee a signicant shift from branch to branchless banking? Mohsin Nathani: There has not been a fundamental shift to branchless banking; it is a slow transition. We have devised a host of strategies to attract and initiate people to internet banking but the growth we would like to see will take steady and concerted efforts in the medium-term. BRR: Consumer lending has dried up considerably in Pakistan, compared to the heyday in the early 2000s. But now interest rates are trending down. Will that entice the banks to lend more in the consumer and retail segments? MN: We are focusing strongly on expanding the retail lending business. Our issuances of personal loans and credit cards have gone up, as have mortgage loans. But the industry is not back at the size it was at back in 2005. After the creation of the Credit Bureau, many people that had previously been issued loans and cards by the banks, are not qualied any more. Banks often make exceptions but it is important to have well-dened processes for applications for loans and credit cards. We are working on cracking the math to be able to tap the potential market that is not being covered comprehensively right now. We have grown our book by Rs7-8 billion since 2011. We have a strong appetite and liquidity for these segments. We are focussed on garnering clients since before rates started declining because when the economy rebounds, we know we can count on these clients for even more business.
Mohsin Nathani Chief Executive, Standard Chartered Bank Pakistan

restriction. Regardless of personal opinions, the fact is that credit demand is strong across sectors and corporate results are healthy. BRR: Banks opine that recovery laws act as detriments to banks appetite for private sector credit. Do you consider this a capacity issue or do recovery laws need an overhaul? MN: Wherever the legal recourse is time consuming, wilful defaults will rise. However, additional judges have been appointed to the superior courts in recent times and banks have also become timelier in the pursuit of legal recourse in instances where they encounter problems. Backlogs have been a persistent problem in the courts but banks too have to stay on top of these cases. I personally follow the cases that our Bank is pursuing and stay in regular consultation with our lawyers for this purpose. The laws should be geared to allow a legitimate level of pressure and accountability against defaulters, which is weak at the moment. BRR: Bank deposits are outpacing advances. Will this trend abate as interest rates come down? MN: All the big banks are sitting on large pools of excess liquidity at the moment. From this point on, even if advances grow at a steady pace, deposits are much more and growing at a rapid pace as well. So ADRs for the industry are not likely to come down very quickly. Secondly, the clients whom banks are most eager to lend to, are themselves conservative at the moment. I feel that after the general election, a lot of uncertainty from exogenous factors will be relieved and then demand will continue to grow. The global economic recovery has also been slow and that is also a factor for relatively low demand for credit at home. There are looming pressures on the Balance of Payments; planned outows are in excess of $4 billion and in the absence of any inows from CSF and other support mechanisms, foreign exchange reserves will likely decline and the local currency will be under pressure. Having said that, there are many foreign investors eyeing attractive valuations in Pakistan. If the negativity over the country is subdued, a lot of those watching from the sidelines will be compelled to invest here. BRR: SCBPL has reigned in its cost of funds quite well. What factors have contributed to this reduction? MN: This is among the most signicant achievements of our staff, especially those who reach out to customers and bring clientele to the Bank. Then the discount rate has trended downwards, creating room to lower the cost of funds. Standard Chartered Bank Pakistan is one of two private banks with a AAA local rating, so that is another factor. Then we have kept a tight check on administrative costs even with high ination. We differentiate between good costs and bad costs, so that the baby is not tossed with the bath water. BRR: The Islamic banking window operation for SCBPL has gained a lot of momentum. Are there any plans to spin it off as a separate business? MN: Standard Chartered Sadiq is a success story for us. We monitor its growth in terms of its contribution to the overall revenues and in these terms it has registered remarkable improvements each year since its inception. Its growth has been among the highest in the Islamic banks segment and we have also opened many new Islamic branches. The Islamic window has worked quite well for us, so there is no immediate plan to spin it off as a separate bank.
STANDARD CHARTERED BANK PAKISTAN IS ONE OF TWO PRIVATE BANKS WITH A
BRR: Why are SCBPLs non-performing loans relatively high compared to other similar sized banks? MN: We are very conservative in our approach towards provisioning. We do not take chances on that front. In fact our coverage ratio depicts this conservatism as it is close to 80 percent. So from a risk perspective this is a very prudent approach. BRR: State Bank of Pakistan has taken an accommodative view on Monetary Policy of late. In your view, how benecial has this been for generating demand for credit and boosting economic activity? MN: SBP has taken an accommodative view over the past 12 months and it has also been very open in terms of communicating to the banks, the rationale behind its approach. The business community had been urging the apex regulator to bring down loans and since the discount rate is benchmarked against ination, there has been room to lower the policy rate. We feel that this is a good initiative. At the same time, MPS alone will not change the economic environment. The energy crisis has really driven up the cost of doing business and law and order is a detriment to expansion at the moment. So we feel that a more holistic approach is needed for a roaring revival. In my view, industrial activity has picked up in the past 12 months, including cement, FMCGs, textiles, sugar and all other industries other than fertilizer which is facing a gas shortage; not a demand
AAA
LOCAL RATING
COVERAGE RA RAT IO RATIO IS CLOSE TO
80
PERCENT
Page 10
INTERVIEW BY: ALI KHIZAR AND MOBIN NASIR
A silent revolution is already in the works. In three years time, the branchless banking sector has emerged as the leading contender to bridge the nancial divide
Banking: a business of restraints and constraints

Banking continues to remain a business that offers restricted access to the under-privileged social strata. In a country with over 100 million adults; banking sector penetration remains unimpressive to date. Latest gures from the State Bank of Pakistan state there are 32 million bank accounts, of which 20 million are unique (meaning the remaining 12 million accounts belong to people with more than one account). The total number of borrowers is a pygmy tally of 5.7 million. Further, independent
estimates put the proportion of the unbanked population at a whopping 85 percent. In the past four years, banks in the country have preferred to hold on to Government securities to earn easy prots, while holding back on private sector lending. Therefore, nancial mainstreaming of the unbanked population may be a very difcult proposition in the brick-and-mortar retail banking model. But there is hope a silent revolution is already in the works. In three years time, the branchless banking sector has emerged as the leading
contender to bridge the nancial divide. The full-scale deployments of two established BB service providers, in addition to two new arrivals, have really pushed the nancial inclusion envelope in Pakistan. The retail agent network of the four service providers has now expanded to over 32,000 agents; almost thrice the number of bank branches in the country. Ofcial data indicates that over ten million transactions are now being generated every month in the BB system, with over a billion rupees owing through the system every day. Mobile wallets are expected to cross the two million mark any day now.
Trends in Banks branchless interface

Hammad Haider
The writer is a Research Analyst at Business Recorder. He can be reached at hammadshah24@gmail.Com
Customer Interface with the branchless banking ecosystem

The established BB service providers have largely focused on urban, middle class pockets and migrant white collar workers. The rapid adoption from the mid-tier should allow them to commercialize the service at the lower-tiers of the so-called market pyramid. It helps that Pakistan adopted a bank-led model for provision of BB services in 2008. Service providers started with the provision of basic banking services like bill payments and funds transfer, which are reported have inculcated greater condence in the system, thus paving way for comprehensive nancial services in the future. Convenience complements this growing trust among consumers. BB agents are spread out across cities and towns of the country and are usually well
entrenched in their communities, so their rapport and camaraderie encourage prospective users and suppliers to try out BB services. The intimidation felt by the users when they walk into banking structures of marble and concrete is also taken care of by these simple and friendly establishments. Many of these outlets close late in the night and normally open early in the morning, which makes the BB services availability virtually a 24/7 affair. Without quality interaction among agents and customers, the BB system would be like a computer without software it just wouldnt work. It is crucial for the agents to remain consistent, meticulous and professional in their business conduct, while at the same time maintain their friendliness and educate the customers about service benets and usage. Matters like liquidity management, services marketing and quality assurance at the agents end are very
important. If the agents are hired and are left on their own to operate with minimal training and supervision, it will be a matter of time before the foundation rattles. Growing competition will accelerate the pace of new nancial services offerings under the BB umbrella. Service providers now understand the opportunity that the branchless banking platform can become a currency of sorts, as more and more vendors start accepting payments via mobile wallets. Such a payment ecosystem will offer incentives for people to save and spend via mobile phones; it will benet the service providers in terms of oat; and it will also reduce cash-based transactions signicantly.
Thats where things are headed now!
Page 12
Trends in Branch Banking Interface: 2012

Javeria Ansar
Characterized by paradigm shifts that are re-moulding the shape of the nancial service industry in the country, the brick and mortar banking storefront has also been given a much needed face lift in the outgoing year. Today, walking into a bank branch is a much less intimidating experience than the days of yore, when the Going forward, the overall dynamic in branch interface is all set to become leaner and meaner as banks set up a multi-channel approach towards service delivery. The year also saw Standard Chartered irting with branch re-design and automation which saw them setting up Cash Deposit Machines in 19 branches across the country. Services available on these self-service CDM terminals include credit card payments and cheque deposit to account apart from cash deposits, which have minimized the customers need to wait around in long queues.
Banking: At the cross-roads of immense possibilities

As banks across the country put an increased focus on digital channels and sales outside branches, there is a greater need for closer exploration of the potential future role of the branch within the banking ecosystem. With margins squeezing incessantly, it is imperative that banks come up with ways that can reduce the cost of this channel. While technology is set to be major enabler in transforming retail banking to reect the changing economic environment of the country, local players also need to think outside the box in terms of their branch formats. Ultimately, it is essential that banks nd ways to manage successful delivery channel integration and nd the optimal mix of leveraging technology to enhance the branch experience for both the Y generation and those who prefer things the old way. Moreover, while the case of branchless banking remains strong, real nancial inclusion- which has been a buzz word this year- in a changing nancial landscape like Pakistans cannot be obtained thorough mobile banking alone. Here it is important to re-iterate that the unbanked segment of Pakistani society remains unbanked for a reason; namely their inability to understand and conquer the seemingly impenetrable maze of complex rules that govern the banking system. And all the talk of technology-enabled agility in the world is not going to make the banking experience easier for them. If anything, the complex morass of automated interaction that most deem our future is very likely to put them off for good. Therefore, for a developing market like Pakistan where the largest segment of the unbanked is concentrated within the technology illiterate rural areas; real and sustainable nancial inclusion can only come trough nding the right mix of alternative channels combined with the more traditional forms of banking.
banks in 2012. But unlike the unbridled expansion witnessed in the early 2000s, many banks have also consolidated their presence and cut branches. For banks the likes of Barclays the focus has been on evolving the model and brand of service provision to the select clientele that the bank targets, instead of creating a substantial geographical presence. The banks agship branch located in Gulberg Lahore and the seven premier centres spread across the country are a case in point.
impersonal brand of banking dispatched by taciturn tellers perched behind their Plexi-glass thrones could daunt the strongest of hearts. But with the teller window concept having gone largely out of vogue, banks today are much more focused on transforming the interaction that takes place between the bank and the customer, going for a value-added branded customer engagement approach that leans away from mere selling towards a more holistic banking experience.
The overall dynamic in branch interface is all set to become leaner and meaner as banks set up a multi-channel approach towards service delivery
Catering to the top-tier customer, these centres offer dedicated relationship managers along with boasting facilities like cigar lounges, conference rooms, childrens play areas and other exclusive services. On the other hand, for the more solution oriented banks like Soneri and Bank Alfalah, accessibility remained a cornerstone for all branch expansion plans this year. Looking to penetrate into smaller cities and market towns. Plans for both banks include opening smaller, leaner branches in towns where the banking net is not well spread as yet.
Branch Banking: One size need not t all

Coming into its own, the branch banking eco system in Pakistan this year saw a two-fold shift wherein the foreign banks have largely focused on revamping their service delivery through the use of technology and innovation in business processes, while the medium- sized local banks have been busy re-designing the dynamic and scope of their branch footprint across the country. While it has varied from bank to bank, the transformation of retail networks has been undertaken by a number of
The writer is Research Analyst at BR Research. She can be reached at javeriaansar08@gmail.com
Page 13
Economic growth necessitates development of long-term debt market

Atif Bajwa | President Bank Alfalah
BR Research: Briey tell us about the performance of the Bank during the outgoing year. Atif Bajwa: The Bank has outpaced the industry in terms of private sector lending. We have added 65 new branches to our already vast branch network during 2012. This year, we intend to further expand our footprint in the country. We have also introduced relevant management changes and reassessed our operating priorities, whilst ensuring that our overall growth trajectory sustains its momentum. Our deposits, advances and protability have all witnessed signicant growth over 2012. We have also taken steps to boost investor condence by enhancing transparency. These efforts have been well received as is evident from the improvement in our share price, which has risen from being at a signicant discount to book value at the beginning of 2012, right up to the current level which is closer to book value. Looking ahead, we are condent that we are now putting in place strong management and technology platforms, both of which should enable us to remain ahead of competition. The Chairman of our Group visited Pakistan earlier this year and during his trip, reiterated the Groups commitment to the Bank and to Pakistan - this was a signicant vote of condence for our employees, customers and other stakeholders. BRR: Bank Alfalah has a history of being more focused on consumer banking than most peers. What are the Banks plans to step up consumer banking and also to attract more clients to branches? AB: BAFL is the market leader in consumer nance, including credit cards, auto loans and merchant acquiring. Similar to the rest of the industry, we experienced setbacks in 2008 however, the good news is that we have not only recovered from that phase but have in fact also implemented the lessons learnt in terms of customer selection, risk management and the use of distribution channels. Today, for example, you can witness a shift towards providing consumer nancing through branches a concept markedly different when compared to the earlier centralized, feet-on-street model which focused on sending sales personnel to prospective clients. With a network of 471 branches across 158 cities, Bank Alfalah has been able to successfully leverage this new distribution model to attract clients across the country. We intend to continue to lead the market in terms of consumer nance growth in the upcoming year. However, the performance of this portfolio is directly linked to the performance of the economy; therefore as long as national economic growth is sluggish, the consumer nance market is also likely to experience growth at the same lethargic pace as witnessed in the early 2000s. However, there will be pockets of opportunity that we intend to pursue. Further, our core banking system has also changed from a decentralized one. We have implemented new procedures and systems at all our conventional branches and in the upcoming months, our Islamic branches will follow suit. Transactional services will become increasingly faster as a consequence of this change and hence customer interface should be more efcient. Additionally, we have also been investing in developing a state-of-the-art technological platform in order to remain ahead of change and competition I am pleased to report that as a result of these efforts, we will be launching branchless banking and mobile banking services in 2013. Our bricks-and-mortar banking model coupled with our branchless banking services should bolster our efforts to introduce a larger proportion of the unbanked population to the formal fold. With the shift of wealth from big cities to rural areas, there is appetite in these markets and so it makes sense to open smaller branches to tap the potential there. We are the no.2 Islamic Bank in Pakistan with new branches being added to our network of 110 Islamic banking branches as we speak. This offers immense potential and we intend to continue to lead the industry trend in this domain.
of robust systems and procedures such as these which ensure mandatory controls and mitigate risk, it is no surprise that mortgage nancing has not witnessed upward momentum in the country. When courts begin dealing with cases quickly enough, willful default will automatically be dealt a death blow. Currently, unfortunately, this remains a gap. Therefore, the development of a holistic mortgage eco system still has a long way to go. As of now, banks are lending amongst just those pockets within large cities where property titles are clean and real estate markets are not overly skewed or cornered in order to appropriately manage risk. BRR: Which economic sectors do you expect will drive growth in 2013? AB: The conventional export giant, the textile industry is doing well and we are witnessing fresh investments in this sector. Apart from that, there are pockets of growth in other sectors. For instance, the cement industry has not witnessed a major spike in demand but has done relatively well due to the strength of international prices. The power and energy needs of the country also mandate that the incoming government will have to drive growth in this sector. Investments will likely start pouring into this sector within a year and the pricing offered to the private sector will also be attractive. Therefore we foresee increased activity in 2013 in the energy sector. Then we are beginning to witness great long-term interest being generated in agri-based industries. Retail sales are already strong and the growth trajectory is likely to remain impressive in the near future. One other area of focus for banks will be the nascent capital market, both equity and debt in Pakistan. It is critical that a vibrant and broad based capital market be developed in order to support the nancing needs of a growth economy. We believe we should be playing a leading role in helping to mobilize capital and to deploy it effectively.
BANK ALFALAH
65 471
IN 2012 ADDED NETWORK OF
BRANCHES
BRANCHES IN 158 CITIES
Finally, SME banking and agri-nance are also promising opportunities and address sectors that are the backbone of our economy. Bank Alfalah aims to continue investing in these areas through tailored solutions for each segment, whilst remaining cognizant of and appropriately managing the risks involved. BRR: What are the key impediments to the large-scale spread of mortgage nancing in the Country? AB: The overall eco system for mortgage activity entails certain pre-requisites in order to be successful some of these include the registration of properties, the ability to repossess properties in cases of default and also the banks ability to arrange long-term funding. Unfortunately, these pre-requisites have not been met to the satisfaction of a growing need in Pakistan. Therefore, in the absence
INTERVIEW BY:
ALI KHIZAR AND JAVERIA ANSAR
Page 14
Energy, agriculture and bilateral trade among sunrise sectors

Nadeem Lodhi | Managing Director and Citi Country Ofcer
When it comes to large ticket mergers and acquisitions, Citi is the market leader in Pakistan with almost complete dominance over inward as well as outbound ows, said Managing Director and Citi Country Ofcer, Nadeem Lodhi. In a recent interview with BR Research, Mr. Lodhi pointed out that the Banks core competencies lie in corporate banking and investment banking. On this front, we have enjoyed stellar performance this year, having advised on all major mergers and acquisitions that took place in Pakistan during the course of the outgoing year informed Mr. Lodhi. At the beginning of 2012, Citi had just concluded advising British Petroleum on the sale of its assets in the country. During the year the Bank advised, AkzoNobel exclusively on its divestment of 76% equity stake in ICI Pakistan. The bank was also the exclusive nancial advisor to Phillipines-based International Container Terminal Services, Incorporated (ICTSI) on its acquisition of strategic equity stake from the sponsors of Pakistan International Container Terminal Limited. present said the Banks head. By the end of the rst quarter of 2013, we will have three branches in the country; one each in Karachi, Lahore and Islamabad, he added. But Mr. Lodhi asserted that the Bank will not be impeded in service delivery in corporate and investment banking, given the thrust on technology and Citibanks branch agnostic operations. Citibank maintains strong partnerships with large local banks. Nadeem Lodhi revealed Citibank will soon launch a mass-market, pre-paid VISA card for Public sector as well as for our corporate clients. Countering recent reports published by some local newspapers, he stressed, Within the Emerging Markets, Pakistan is a core country for Citi. We are bullish on the future prospects for this economy and the growth of the banking industry in Pakistan. Lodhi maintained that the Bank will remain committed to service delivery and innovation here and pointed out that Citibanks focus on episodic transactions is evident from its involvement as Joint Lead Manager in the Exchangeable bond issuance mandated by Government of Pakistan.
Citibank is the market leader in the foreign exchange segment and holds
of the multinational corporates wallets
Our commitment to Mr. Lodhi also highlighted that the Bank is the market leader in the When quizzed over the Banks serving our niche clientele in foreign exchange segment and expected performance in the Pakistan remains strong and holds 55 percent of the coming year, Nadeem Lodhi are keen on growing our multinational corporates wallets. highlighted energy and As other foreign banks have infrastructure as growth areas and market share in those down-sized operations in the hinted that the Bank will soon help sectors where we can fully country, Citi has been chosen as the forge deals in these sectors. banker of choice by the impacted Energy sector holds immense deploy our global presence mulitinational companies he potential in the country and there are contended. Airlines operating in the many prospective investors mulling over country have also moved to Citibank for their developing new energy infrastructure in banking needs. Nadeem Lodhi asserted that the the country. We are well geared to facilitate Banks popularity among large national and such investors and going forward in 2013, we hope multinational corporations is based on its solutions-oriented that there will be signicant multilateral and bilateral approach, best-in-class cash management services and credit support for the development of Pakistans energy superior technological platforms. infrastructure, said Mr. Lodhi.
As part of its global repositioning drive, Citibank has recently announced the sale of its consumer segments in about half a dozen countries including Pakistan. On the consumer lending front, Citibank had earlier sold its mortgage nance portfolio in Pakistan, to BankIslami. Nadeem Lodhi revealed that, once we receive the nal clearance from the apex regulator, our consumer lending portfolio which now mainly comprises of credit cards, will also be sold off to Habib Bank Limited. The two banks will transition this portfolio over the span of three to six months. All reward points accumulated by our credit card holders will remain valid and the rebranding will be gradually phased in by HBL Mr. Lodhi revealed. As it continues to reposition its services to focus on its core competencies, Citibank has also reduced the number of branches it operates in the country. At the beginning of 2011, we were operating 16 branches in the country which have gradually been reduced to seven at Summing up, he said Citi Pakistan remains committed in its vision of being the leading Corporate and Investment bank for Public Sector clients, Financial Institutions, major local corporates and Multinational clients in Pakistan. Our commitment to serving our niche clientele in Pakistan remains strong and are keen on growing our market share in those sectors where we can fully deploy our global presence.
INTERVIEW BY:
MOBIN NASIR
Page 15
Corporate debt market:

Towards a sturdier nancial system:
Sobia Muhammad Saleem
Global Scenario
Corporate debt market has increasingly been touted as an integral part of a resilient nancial system. It not only creates a multifaceted nancial system whereby capital markets compliment and in some way regulate the banking sector but also provides a broader spectrum of investment avenues to the investors besides providing a source of long term funding to the borrowers. The presence of a well-established corporate debt market triggers the banks to hit upon new products and tap the SME sector that would automatically generate and increase economic activity. According to McKinsey Global Institute, the amount of global bonds outstanding grew by $5 trillion in 2010, with global debt-to-GDP increasing from 218 percent in 2000 to 266 percent in 2010. However, the growth patterns were not very encouraging as the mainstream growth came from the government sector which accounted for 80 percent of the total growth while corporate bonds, bonds issued by nancial institutions and securitized assets collectively constitute 20 percent. International Organization of Securities Commission states that the corporate bond market is at its nascent stage in most of the emerging countries mainly due to factors such as underdeveloped regulatory framework, incompetent market infrastructure, lack of diverse instruments and a thin investor base.
Where does Pakistan stand in this run?

The debt market in Pakistan is in a edgling stage, accounting for less than one percent of GDP. By comparison, bond markets constitute about 175 percent of GDP in the US and 198 percent in Japan. Further, while the Government bond market has shown healthy growth, the corporate debt market has lagged far behind. Since FY95, barely 109 Term Finance Certicates (TFCs) worth Rs110 billion have been issued by the private sector out of which, the outstanding amount tallied Rs68 billion as of June FY11. In contrast to this, the outstanding government domestic debt and liabilities clocked in at Rs6,226.4 billion at the end of FY11. Snooping the other source of debt nancing i.e. banking sector credit, during FY11, private sector credit only grew by four percent as compared to a surge of over 74 percent in government borrowing from commercial banks. Risk-free government securities have provided banks with an alternate investment avenue with embedded advantage on their Capital Adequacy Requirements (CAR), leaving them with little incentive to extend nancing to the private sector.
CORPORATE BOND MARKET PERFORMANCE

Outstanding Corporate TFCs Number of Issues (L.H.S)
25 20 15 10 5 0 FY FY FY FY FY FY FY FY FY FY FY FY FY FY FY FY FY 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 -
The corporate debt market is unattractive due to lack of incentives, tedious listing requirements, hefty underwriting fees and cumbersome primary issuance guidelines.
Developing corporate bond market

The non-existence of corporate debt market in Pakistan is justied by myriad micro and macro economic challenges with the foremost challenge being building market players. Amid fragile regulatory and legal framework, there is no protection for the issuers and also no assurance for the investors that their interest payments will be made on time. Besides structural and macroeconomic issues, if we look into the matter thoroughly from the investors perspective, a lack of awareness has always been the key reason hampering retail investments in the corporate debt
market. Retail investors are more sensitive to reputation and brand recognition. They yearn for high return but at the same time are concerned about the reliability of their investments, comfort on which is dictated by their familiarity with the companys name. This leaves small and less renowned companies at a competitive disadvantage regardless of their operational and nancial performance. Moreover, the low risk-bearing capacity of Pakistani investors encourages them to prefer government securities over private sector bonds. The risk-free nature of various government securities and National Saving Scheme, the improvised rate adjustments on such instruments and the ability to redeem them prematurely, entice risk-averse investors. So the opportunity cost of investing in the corporate bond market is high. Liquidity
constraints are also attributable to a lack of an active secondary market for corporate bonds. From issuers perspective, the corporate debt market is unattractive due to lack of incentives, tedious listing requirements, hefty underwriting fees and cumbersome primary issuance guidelines. Moreover, institutional investors are restricted by statutory requirements to buy government bonds. This factor proved to be a tough call for the issuers leading to under-subscription. In addition to this, the private sector companies that issue corporate bonds are open to various exogenous risks. Thus, a lack of viable derivative instruments in Pakistan also serves as a factor marring the development of corporate bond market in Pakistan.
Page 16
The development of corporate bond market in the country is imperative. The question that now arises is how?
While the private sectors indolence in tapping the bond market is substantiated by the aforementioned factors, its establishment is only possible if policymakers lead the charge in developing a vibrant corporate debt market. This includes capacity building at SBP and SECP and collaboration of FBR and GoP to rationalize tax treatment of corporate debt instruments. Given that the debt market has witnessed some improvement illustrated by the recent effectively subscribed debt issues by Standard Chartered Bank and KESC, further efforts should be made through advisory services to make investors fully understand the risk-return trade-off. To improve market competence, measures should be taken to broaden the range of primary bond offering methods, reducing the time and cost for the shelf registration of bond issues, standardizing and simplifying bond offering documentation, creating an efcient government benchmark yield curve, etc. Albeit, with the issuance of Government bonds for various maturities up to 30 years the sovereign risk-free curve does exist, however, there is a need for a smooth yield curve as most of the investment is conned to a few points, particularly in lower maturities. Moreover, the growth in the primary bond market is not possible unless it is complemented with an efcient secondary market platform. This includes enhancing
trading efciency by developing a market-making system, establishing a corporate bond index and removing regulatory obstacles which hinder the participation of investors. Innovation in the debt market is another criterion that could trigger growth. This includes developing a wider range of instruments. Treet Corporation Limited has recently added novelty to the corporate debt market with its announcement to raise nances through a unique instrument - Participation Term Certicate (PTC). Going forward, development of Islamic debt instruments can add depth and breadth to the market. Growth in the bond market can also be elicited by the introduction of relevant derivative instruments to enable the issuers and investors to hedge their respective risks. Finally, measures to deepen and grow the corporate bond markets will not work unless they are accompanied by robust regulatory and supervisory frameworks and strengthened investor protection endeavors. These include enhancing the quality and timeliness of disclosure by issuers, fostering trading and price transparency, strengthening surveillance and supervision, as well as enhancing bankruptcy and restructuring regulations.
WAY Forward
The writer is a Research Analyst at Business Recorder. She can be reached at: sobia.mesiya@gmail.com
Page 17
Hire more judges for banking courts

Shahzad Dada | Chief Executive Ofcer, Barclays Pakistan
BRR: What is your view on the general business environment in Pakistan? Are big companies borrowing more for expansion purposes? Shahzad Dada: Generally, the kind of clients we are dealing with are showing a lot of promise and growth. We are seeing volumetric growth which is meaningful. Operating leverage is kicking in to the bottom line growth. A good reection of that is the performance of these companies on the Karachi Stock Exchange (KSE). On the other hand, since 2008 weaker players have found it very difcult to operate due to the energy crisis and the law and order situation, and many of them have been marginalized. Also, some of the irrational behavior has moved away. So larger companies that have invested in their businesses and have positioned themselves for the future, are now reaping the benets. BRR: Over the past year, how has the journey been for Barclays? SD: We have a very unique strategy and positioning. We want to play to our strengths and become the go-to bank for multinational and large national corporations, multilateral non-governmental organizations, high net-worth individuals, development organizations and diplomatic missions. For all of these, our global outlook, superior service and trade support are the key strengths that drive success. We are continuing to march along that path; we are not all-things-to-all-people. We play in certain corridors where we think we have the best possible solutions for our clients. We will not be shameful about wanting to dominate a certain category of clients. We have been implementing this strategy and weve made a lot of progress. In anticipation of a declining spread environment, we re-aligned our business and rationalized our costs. We shut down seven branches this year, but our deposits per bank have grown from Rs3 billion last year to Rs4 billion at present. Total advances are marching on, and we have managed to retain our clients. BRR: What do you feel is the impact of foreign bank retrenchment in Pakistan? SD: It isnt good for the industry; it isnt good for foreign banks and it isnt good for the country. Anything we can do to prevent this happening in the future, should be done because the presence of a good mix of local and foreign banks will boost competition and innovation in the country. Foreign banks have historically been trend setters for products and services. Lets face it; with diversity come best practices. That is not to say that the local banks have not done amazing work. But generally, there is a lot of technology out there and foreign banks have been dealing with this for a long time, and can bring it here more smoothly. Thats what makes foreign bank contributions unique. When you lose those big brands, it is a disappointment for the industry. Barclays has been a big beneciary of this retrenchment and were taking full advantage of it. But we are a competitive bank and we do not want to win by someone else dropping out. BRR: Most players in the industry feel that a niche approach to business in banking is unsustainable. How do you feel your strategy will work in the long run? SD: Like I said, its all about playing your strengths. We know our clients, and we can develop sustainable and meaningful relationships with them by providing a comprehensive range of products that cater to all of their needs. If we didnt have that, then a bank working on slimmer margins than us would take our clientele away. But that isnt happening because we service our clients in a holistic manner and in that regard, the scalability of playing to our strengths is there, and I think small banks can well pursue such a strategy, successfully. Also, as far as the country is concerned, foreign investments are necessary. A bank like Barclays can really be instrumental in bringing in foreign investors. We can provide them the necessary corporate banking services like we provide to Nestle and Unilever. These companies run three-fourths of their trade through our counters, so we must be doing something right. BRR: How are your new products developing at Barclays? SD: We have played to the remittances, and those have deepened. There is a large amount of remittances inow from countries across the globe, particularly the UK. We want to keep working that, and wed like to commend the SBPs efforts in this regard. As for the childrens product, we are promoting that in the schools. We are doing it with our value-added clients, to increase entanglement with the Bank; were trying to get into the DNA of our clients. We are also going to certain schools such as Karachi Grammar School and Bayview. Our CSR is strong and we want to make a difference to the society around us. Our projects are geared towards skill development, employment generation and the provision of basic amenities, healthcare and education in a sustainable manner. Like our corporate strategy, the focus in our CSR program is also on quality rather than quantity. BRR: As the President of Pakistan Bankers Association, you have intimate knowledge of the evolution of recovery laws in the country. What expectations does the banking sector have regarding recovery laws and the proposed Corporate Rehabilitation Act (CRA)? SD: There is industry-wide consensus that the proposed Corporate Rehabilitation Act is crucial for the success of the banking industry in the country. At present, non-performing loans stand around 16 percent, which is too high. What is more, this proportion is still on the rise. It is particularly disconcerting that 37 percent of these NPLs are originating from the consumer lending portfolios of banks. But there are multiple factors contributing to the rising trend of NPLs, particularly wilful defaults. Firstly, the banking courts are severely understaffed. The PBA invested in educating the judges regarding banking procedures, regulations and laws but about half of all positions for judges in the banking courts are still vacant. Due to such constraints, there is a lot of backlog in banking court cases. The PBA is lobbying the Government at the highest level to ensure that these vacancies are lled as soon as possible. Secondly, it is absolutely necessary that laws such as CRA and the relevant NAB Ordinance are implemented. There should be no leniency in cases of wilful default because those who operate with impunity from the law cause the most damage to the countrys banking sector and also force banks to be shy of honest borrowers and those with genuine problems who deserve a lifeline. Another key issue is the minimum rate, which should be indexed to discount rates. Right now, the falling spreads will be severely damaging particularly to smaller banks, where NPLs prevent more protable lending to corporates, SMEs and consumers.
DEPOSIT GROWTH
03 BILLION
RUPEES
PER BRANCH
BARCLAYS BANK IN 2012
04 BILLION
RUPEES
INTERVIEW BY:
MOBIN NASIR AND SIDRA FARRUKH
Page 18
Banking Numbers
Government debt (as % of GDP)
. . .
Pakistan India 2011 2010 2009 2008 2007 2006 -40
Bangladesh
Singapore
. .
Malaysia
Credit by banking sector (as % of GDP)

China
. . . .
Pakistan 2011 2010 2009 2008 2007 Sri Lanka India
Bangladesh
Singapore
-30
-20
-10
10
20
30
2006 20 40 60 80 100
Islmic banks' infection & coverage

NPLs to Total Loans Provision to NPLs
Regional real interest rates
. . .. . . .
Pakistan Singapore Sri Lanka Malaysia India China
Bangladesh
Regional NPLs
Pakistan
20 2012 8.8 59.5 2011 7.6 63 7.3 58.6 6.3 51.7 10 15
. . .
India 30 25 20 15 10 5 0 2006 2007
(as % of gross loans)

Singapore
. .
Malaysia
China
2009 2010
2008
2009
2010
2011
Regional import cover (no. of months)

0
. . . .
Pakistan Sri Lanka India 2011 2010 2009 2008 2007 2006 0 10 20
Bangladesh
. .
Malaysia
China
-5
-10 2011 2010 2009 2008 2007 2006
30
40
50
60
Page 20
FBs
2.7
21-27 Banks
SBs
3.8
SHARE OF MENTS T TS TOTAL INVESTMENTS
1.0
. .
Category-wise ROE
Public Sector Commercial Banks Local Private Banks Foreign Banks Commercial Banks
140 120 100 80 60 40 20
17 1 7 75 .5 .
11-20 Banks k ks
6-10 Banks
23.3
Non-Performing Loans
Top T To p5B Banks
51.7 51
0 (10)
2006
2007
Jun-12
2011
2010
2009
2008
Regional Risk Premium Regional banking spreads

Sri Lanka 9 8 7 6 5 4 3 2 1 0 2006 2007 2008 2009 2010 Bangladesh China Singapore Malaysia Pakistan
Rs bn 700 600 500 400 300 200 100 0
.NPLs and provisioning .
6 5 4 3 2 1 0 -1 2006 2007 2008 2009 2010 2011
Provisioning Charges (ytd)
CY06
CY07
CY08
CY09
CY10
CY11 Jun-12
Banking sector's total assets

(Rs bn) 10,000
Asset mix & deposits

Deposits (RHS) Investments (net) Rs bn 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 CY06
Advances (net) Rs bn 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 CY10 CY11 Jun-12
Islamic banks' ADR

60 50 40 30 20 10 0 2009 2010 2011 Jun-12
8,000 6,000 4,000 2,000 0
CY07
CY08
CY09
CY06
CY07 CY08 CY09 CY10 CY11 Jun-12
. .
Total
Bank branches
Local Banks Foreign Banks
2012 2011 2010 2009 2008 2007 2006
Contrasting asset class growth

Loans (Net) Investments (Net)
% 80.0 60.0 40.0 20.0 0.0
.Sector-wise . lending & infection

Infection ratio Advances (LHS) Rs bn 2000 1600 1200 20.0 800 400 0 10.0 0 40.0 30.0
(20.0) 4000 6000 8000 10000 (40.0) CY06 CY07 CY08 CY09 CY10 CY11 Jun-12
2000
Others
Textile
Energy Agribusiness Individuals Chemical
Sugar
Page 21
Declining ADRs
Liquid Assets/ Total Deposits 80 70 60 50 40 30 CY07 CY08
21-27 Banks
Advances to Deposit Ratio
2.9 9.2 9 17.2 1 17 72 7. .
0.1
FBs
SBs
11-20 Banks k ks
0.1
Top T To p 5 Banks k ks
6-10 Banks k ks
70.6 7 70 0.6
CY08
CY09
CY10
CY11
Jun-12
SHARE E OF ADVANCES
CHIEF EXECUTIVES' REMUNERATION (YEARLY)

Rs. in mn
FAYSAL BANK LIMITED BANK ALFALAH LIMITED STANDARD CHARTERED BANK (PAKISTAN) LIMITED MEEZAN BANK LIMITED UNITED BANK LIMITED NATIONAL BANK OF PAKISTAN NIB BANK LIMITED SILKBANK LIMITED ALLIED BANK LIMITED HSBC BANK MIDDLE EAST LIMITED - PAKISTAN OPERATIONS
Banks in Pakistan
2011
188.31 137.61** 106.49 93.39 84.00 77.53** 58.63** 58.58 57.14 55.57
2010
133.84 29.80 277.52 ** 72.52 73.55 69.65 31.20 52.77 94.53 74.82
A. Public Sector Commercial Banks (5)

First Women Bank Ltd. National Bank of Pakistan Sindh Bank Ltd. The Bank of Khyber The Bank of Punjab
B. Foreign Banks (7)

Bank of Tokyo - Mitsubishi UFJ, Ltd. Barclays Bank PLC Citibank N.A. Deutsche Bank AG HSBC Bank Milldle East Ltd. Industrial and Commercial Bank of China Ltd. Oman International Bank S.A.O.G.
C. Local Private Banks (22)

AlBaraka Bank (Pakistan) Ltd. Allied Bank Ltd. Askari Bank Ltd. Bank AL Habib Ltd. Bank Alfalah Ltd. Bank Islami Pakistan Ltd. Burj Bank Ltd. Dubai Islamic Bank Pakistan Ltd. Faysal Bank Ltd. Habib Bank Ltd. Habib Metropolitan Bank Ltd. JS Bank Ltd. KASB Bank Ltd. MCB Bank Ltd. Meezan Bank Ltd, NIB Bank Ltd. SAMBA Bank Ltd. Silk Bank Ltd Soneri Bank Ltd. Standard Chartered Bank (Pakistan) Ltd. Summit Bank Ltd (formerly Arif Habib Bank) United Bank Ltd.
Source: Banks annual reports Value of asterisk(*) - no of directors
FBs
2.4
21-27 Banks
SBs
3.7
SHARE OF POSITS P OSITS T TS TOTAL DEPOSITS
0.3
17.6 1 6
11-20 Ba Banks anks k ks
D. Specialized Banks (4)

Top T To p 5 Banks Ba
6-10 Banks nks k ks
22.7 7
53.4 53.
Industrial Development Bank of Pakistan Punjab Provincial Co-operative Bank Ltd. SME Bank Ltd. Zarai Taraqiati Bank Ltd
Page 22
The cost of failed mandates:

When banks ignore public duty
Syed Salim Raza
Regulators and national nancial authorities have to ensure that banks create their earnings by generating activity in the real economy. This challenge today is of course most severe in US, UK and the Eurozone but it applies equally to developing countries, and to Pakistan. The public mandate for banks is to manage national mechanisms for payments, and to increase national savings, and transform them into investment for productive national enterprise. In the EMs, the intermediation role of the banking system is the central agent for economic development. Governments back their banking systems with their own (Sovereign) credit as needed, via Central banks and the national treasury. The general publics reliance on government support allows banks to operate with very high leverage: every $100 on their balance sheet is supported by just $8 of their own shareholder funds (capital), against $92 of public funds (deposits). The counterpart of this public trust is the implicit commitment of the banks to foster economic development, while preserving their capital through conservative risk management. But banks can fail this trust. The public service objective can be compromised by private, purely nancial, prot-maximising activity. Periodically, such speculative risk exposure can- and does stretch too far, and losses force banks to fall back on Government for life-support. The speed with which crises spread across the banking system makes market selfcorrection, or any kind of private, market solution, completely unviable. If nancial crises and ensuing losses erupt from the drive for excess prots for banks shareholders, then Government is effectively complicit in allowing the privatization of banking prots, while losses are passed on to taxpayers. That nancial capitalism is prone to excess, and that banks can become the Achilles heel of capitalism, was known well before the onset of the current nancial crisis and illustrated starkly by the Great Depression. FDRs reforms put a series of restrictions on what banks could do, focusing their remit to savings and loans. But the post Reagan market liberalization set aside a number of those restrictions. Banks diversied into much higher risk investment banking activities, became the darlings of equity market players, with prot, dividends, and share prices soaring. Prot-maximisation to create shareholder wealth seemed to have become an acceptable goal for the banking system whereas the implicit social contract would have required that banks be managed rather like public utilities i.e. aim for moderate return on capital through long-term, and stable, income growth, generated from productive lending. The counterargument of banks would have been that the high prot expectations of investors would have to be met. If they were not, banks share price would languish, and their cost of capital would rise, which would hamper their capacity to grow. Therefore high-return, albeit higher risk, business lines needed to be pursued, alongside normal business. The 2007 nancial meltdown was the result. The US, UK and EU face huge, perhaps generational, costs, from the present nancial crisis. While the current crisis may illustrate a multi-origin, perfect storm, there is recurring international history of banks regularly pushing the chase for higher yields to an unsustainable limit. The chain of such instance stretches forward from the 70s accumulating momentum over time. The Latin American debt crisis, the S&L crisis, the extended Japanese crisis (banks led up the asset price ination); the Tequila (Mexican) crisis; the Nasdaq crash; the Asian crisis; rounds of crises in Argentina, Russia and Turkey; etc. Banks had to be supported by governments, or monetary and scal concessions had to be given to ease pressure on banks all of which had public costs. Looking forward: the reforms being undertaken aim to restrict the use of public deposits to mainstream banking activity i.e. savings products and balance sheet loans. Investment banking activity will not be funded by customer deposits. Derivatives are not to be used for speculative positions. And so on If these reforms work, banks will indeed begin to look more like utilities, as mentioned earlier. But the reality is that power of banks over credit creation, including credit to Government itself, gives them immense capacity to negotiate greater freedom out of regulators.
The growth in earnings of the banking sector should track the progress of the real economy. If nancial earnings outstrip real growth, wealth created is unsupported by economic value. The sanctioned authority for banks to use high leverage (at least 12 times the initial capital), is the principal spur to the creation of this bubble wealth, which will sooner or later have to be written down, hitting banks capital, and with the potential to precipitate nancial crisis.
Page 24
First, the sustainability of economic recovery in the US and Europe will depend critically on credit expansion by banks, to compensate for low private demand. Secondly, globalization and free ow of international capital has made banks a much bigger part of national economies than formerly. In the US, over the 50 years to 2008, the share of the manufacturing sector in total economy-wide prots, dropped from 49 percent to 15 percent; while the prots of the nancial sector doubled, from 15 percent to 35 percent. The nancial economy became much more protable than the real economy simply because it uses high leverage, with all its attendant risk. But nance, today, still holds the power, even though it has cost the developed world 2-3 percent of GDP for four or ve years, plus direct costs that may end up in trillions of dollars. That is the cost of the failed mandate. The banking system in the Emerging Markets (EMs) has avoided the high-risk strategy of banks in the US, UK and EU. So, have they better achieved the public purpose? As domestic markets usually lack the full-blown array of specialized nancial services of the developed world, EM governments expect commercial banks to play a transformational role, with respect to key development priorities i.e. nancing infrastructure; agriculture, SME and less developed regions. In consequence, governments have taken extensive ownership of their banking systems, and taken the lead in mobilizing the development of specialized lending capacity, in the public sector. In the BRICs, for example, government ownership in the banking system in China is 90 percent; in India, 70 percent; and in both Brazil and Russia, about 45 percent. In addition, BRICs have a range of Government-owned specialized institutions for long-term project development. A study at the Max Planck Institute at Bonn (Sept 2010, Kroner and Schnabel) argues that, given sufcient political maturity, social and development objectives have been met more successfully when public ownership has been signicant, with a demonstrable spillover into higher growth (this study, among others on the same theme, counters the extensively quoted cross-country study by LaPorta et al in 2002, that documented a negative correlation between public ownership and economic growth). Public intervention in nance absolutely does not preclude private ownership, even extensive private ownership, of nancial services. With the possible exception of China, the nancial sector in BRICs is completely open to the private sector. Public-sector banks both compete with, and gain management and product expertise from, the leading private sector banks. The greater bias on development, as opposed to prot-maximisation, aligns public/mixed ownership to accepting longer term, and sometimes lower, returns. Private owners of banks may not share the same objectives. Nevertheless, an important issue does arise here. All banks employ predominantly public money. Is it reasonable for any, then, to opt out of a solid commitment to development nancing? Should a schematic of compulsory, directed lending for national priority sectors be laid down for all banks (e.g., as in India); and if not, should some form of sanction apply, if banks wish to opt out of directed developmental lending, such as a higher tax rate? However, regulatory compulsion is undesirable: if banks will not participate voluntarily, then the government has to set up its own capacity to address development nance. The duty must not lapse through default. In Pakistan, we have a well capitalized, professionally managed banking sector, with predominantly (80 percent) private sector ownership. But the nancial sector as a
whole, in Pakistan, has not made noticeable progress against its development mandate. There are new forms of nancial services that hold promise for increasing nancial inclusion. Branchless banking, and alongside it, the spread of mobile banking, is making steady inroads into the formerly unbanked. Pakistan well emerge as a regional leader in this area. In the longer run, the effort may achieve fast incremental integration of informal markets, into the formal banking system. But our mainstream commercial banking has lacked dynamism. The banking system has been stagnating. After a rapid growth in credit and deposits post privatization (after 99), both have as a proportion of GDP - shrunk. Bank deposits are now 28 percent of GDP, versus 34 percent in 1999. Private sector credit, after reaching 30 percent of GDP in 2007, is down to 16 percent now the lowest level in decades. Both ratios are well below that in other EMs, and much weaker than in the region. For India, deposits to GDP are 57 percent, in Bangladesh 54 percent; and loans are about 50 percent of GDP in both countries. Secondary markets in Pakistan remain stunted. Common Money Market instruments Commercial Paper, Acceptances have failed to develop, and the Bond market is small and stagnant. Mutual funds have made some progress, but overall at Rs300 billion, remain only about six percent of bank deposits (compared to the global average of 30 percent). With respect to the priority sectors of infrastructure, SME, agriculture and regional lending, commercial banking activity has in fact declined. Our development nance institutions were closed down, and at present, Pakistan lacks dedicated institutions for infrastructure and specialized project nancing. With respect to other priority sectors, bank lending to agriculture, has been stagnant, at only seven percent of GDP (while the sector amounts to 23 percent of GDP), while the SME sector now draws only six percent of total credit, down from 17 percent some years ago. With respect to regional nance overall excluding Sindh and Punjab, the rest of Pakistan has about Rs700 billion in deposits, but loans to the regions are under Rs100 billion. Banks use the regions as sources of funds for their lending operations, mainly in Central Punjab and Karachi. Governments borrowing costs; with competition from the funds, banks would have to raise rates paid on deposits; and declining holdings of Government paper would have forced banks to increase lending to the private sector. Without a banking sector that has the diversication to service all parts of the economy, we will postpone the revival of national growth. And the public mandate of the banking sector will remain unfullled - albeit that banks will remain protable, through their lending to Government. But not for long if national growth stays muted, government decits are likely to increase. With domestic debt servicing already taking up half of national tax revenues and growing faster than tax revenues debt serviceability will impose extremely challenging burdens, even in the near future. What can be done is well known. It is tiresome to repeat initiatives that have seen stalled starts, over time, in the SBP, and at the Ministry of Finance. We need to set up project and infrastructure nancing capacity, and mortgage and agricultural lending, in specialized entities, most likely in PPP modes; build a proper Government debt market, so corporate bond markets can develop, on the back of it; we need to reengage with the SMEs, via vitalized institutional capacity, using venture capital and perhaps an alternate stock market for small companies listing; etc. If the private sector will not take the lead in developing appropriate initiatives, then let the leadership come from public-private initiatives just as long as the institutions are independent of ministries, and have independent, and largely private-sector boards that oversee governance and that appoint CEOs. Our still maturing political institutions, and an underdeveloped nancial framework, will not qualify us for a Government-led nancial sector as required in the Max Planck Institute study mentioned earlier. Looking out a few years, Pakistan can achieve sustainable levels of GDP growth rates of 6-8 percent, if it has been able to develop its infrastructure; its power capacity; its mining resources; its agricultural productivity; and developed a new generation of businessmen from its SME sector. Major EMs pave the way for growth through technically strong and diversied nancial institutions nurturing the priority sectors mentioned. We need to do the same.
Syed Salim Raza is the former Governor of State Bank of Pakistan. He holds a Masters degree from Oxford University and has had an illustrious career in banking.
If nancial crises and ensuing losses erupt from the drive for excess prots for banks shareholders, then Government is effectively complicit in allowing the privatization of banking prots, while losses are passed on to taxpayers.
While withdrawing from general development lending, banks have built up huge exposure to the public sector to slightly over 50 percent of their credit books, from 32 percent in 2008. Most of this nancing supports governments power and PSE losses, or commodity purchases a totally unproductive use of national savings, which does not increase the size of the economic cake. In holding government securities, the leading banks had been able to earn 2-3 percent more than the rate they pay their depositors for similar maturities. Obviously, there is a big market anomaly at work here: Governments should normally raise money at the lowest price in the market. But as heavily dominant buyers of Government paper, taking an 80 percent share, the banks use their buying power to turn Government into a price-taker. It need not be so. A dynamic mutual funds market would have competed with banks for buying Government paper, with several virtuous economic effects competition for its paper would have reduced the
Page 25
Focus is on cost of deposits, not size

Husain Lawai President Summit Bank Limited
Developing a team with unied vision and goals is the biggest challenge after a string of mergers and acquisitions, President Summit Bank Limited, Husain Lawai told BR Research. The small bank which has expanded its asset size from Rs 5.696 billion in FY06, to Rs 129.22 billion in CY12 is built on a mountain of mergers and acquisitions, and is aptly named Summit Bank Limited (SMBL). Behind the string of M&As and the consequent rapid rise of the Bank, is President Summit Bank, Husain Lawai who led a consortium of local and foreign investors in the acquisition of Arif Habib Bank Limited (AHBL) in 2008. Since that time, Lawai has guided majority share-purchase agreements with MyBank Limited and Atlas Bank Limited, both of which were subsequently merged into SMBL. The interview came at a time when SMBL is in consolidation mode. Lawai revealed that the process of team building is ongoing, and will likely be completed by the end of this year before the core team has been carved out of the combined resource pool of the three, formerly separate banks. All three banks had been using different systems to manage operations, so after the reconstitution of the Board, the rst task we undertook was the implementation of a single, efcient and effective set of systems and procedures, he said highlighting SMBLs vigorous focus on transparency and accountability. But when it comes to the human resources employed by the Bank, President SMBL treads cautiously. At the end of the day, it is fairly easy to shufe the Board of Directors. What really matters is the experience that each client receives when they walk into your bank, said Lawai adding, We have a national presence so it takes time to propagate and implement the same values throughout the organization. The Bank President conceded that the persistently negative bottom line has remained an eyesore; all three banks had bad portfolios with a hefty proportion of bad debts, he said. However Lawai highlighted that capital worth Rs1.5 billion was injected in the Bank last year and we are putting in another Rs2 billion this year after which we will be MCR-compliant. The Bank has cut losses consistently every quarter over the past 15 months, he said and cited that the average cost of deposits has been reduced from as high as 14 percent to 7.6 percent, presently. He credited the lower cost of deposits to a change in the mindset of branch managers and staff that are now increasingly focused on generating core deposits from middle-market customers. PRI ofce said Lawai adding that, We have partnered up with Western Union to offer the best IT platform for home remittances, which will hopefully propel our position in this segment going forward. Instead of limiting itself to a brick-and-mortar presence, Summit Bank has embraced branchless banking with the help of Ufone; tapped the existing network of Punjab Provincial Bank and others to be able to distribute remittances across the country. For the long haul, banks need to inculcate persevering relations with their customers. In SMBLs case, this realization is to culminate in the form of new products aimed at children. Husain Lawai revealed that a new product offering, especially designed for minors was launched on January 10, 2013. The former head honcho of MCB, is not xated on growing the banks asset base immediately. The focus is on the cost of deposits, not on size because it is always easy to attract deposits; what matters is how much you have to pay for them, he summed up the agenda. Lawai contended that by diversifying the deposit base and securing low-cost of deposits, the Bank will be well poised to grow while shoring up the bottom line. The discount rate would be 8 percent if I was Governor, SBP contended Husain Lawai. Backing his view, he explained In a country where more than half the economic activity is generated from undocumented sectors, the discount rate has a limited impact on growth and ination. Conversely lowering the benchmark rate will spur investment in the documented sectors which is crucial for reviving our stagnating economic growth. Our studies show that borrowing from the informal sector in Gujerat, Gujranwala, Sialkot and other cities cost upwards of 30 percent, so there is tremendous opportunity for banks to lend here contended Husain Lawai. However, he cautioned that banks have to be more personalized and prudent in their operations, spending time to learn about each client, their requirements
SUMMIT BANK
ASSET SIZE
5.696 BILLION
RUPEES
129.22 BILLION
RUPEES
FY06
CY12
In a country where more than half the economic activity is generated from undocumented sectors, the discount rate has a limited impact on growth and ination. Conversely lowering the benchmark rate will spur investment in the documented sectors which is crucial for reviving our stagnating economic growth
There was a time when our ten biggest depositors constituted 45 percent of the total bank deposits. Now they make up only about 12 percent of this tally, which is quite reasonable said Lawai. In the drive to boost low-cost deposits he highlighted the Banks current account product which offers health insurance to depositors, matching the deposited amount in the account. This product has been quite successful and we will also re-launch it soon with a strong marketing campaign he revealed. SMBL ranks seventh among banks for distribution of home remittances, according to the State Bank of Pakistan,
AVERAGE COST OF DEPOSITS

PRESENT SCENARIO
14
PERCENT
7.6 PERCENT
and ability to repay, instead of relying on blanket benchmarks. President SMBL is convinced that, if we can improve our judicial system to expedite the hearing of cases, the industry-wide problem of non-performing loans will be comprehensively overcome. Drawing examples from other countries where courts provide denite time lines for the resolution of nancial disputes, he called for accountability within the judicial system whereby the superior courts may ensure timely judgments on bank-related cases. Speedy justice is the key to curbing a culture of default with impunity, he summed up.
INTERVIEW BY:
ALI KHIZAR AND SOBIA SALEEM
Page 26
Laid back banking is not an option for smaller banks

Mohammad Aftab Manzoor | President, Soneri Bank
Laid back banking, which the large banks can afford to do, is not possible for small and medium-sized banks, contended President Soneri Bank. The weighted average cost of funds for the Bank, is close to seven percent which is about twice that of some of the biggest banks in the country. Simple arithmetic dictates that we must lend out against our deposits, instead of dabbling in T-bills, said Mohammad Aftab Manzoor.
Soneri Bank is clearly not ratcheting up its consumer lending portfolio anytime soon, barring a sudden change in interest rates. Consumer business is based on volume. Small numbers do not justify the costs, and the current lending rates are not low enough for sustainable consumer lending at the moment, said Manzoor. Manzoor asserts small and medium-sized banks must nd niches within which to concentrate and expand. Since Soneri Bank has made steady inroads among local businesses, the domestic retail sector is home eld for the Bank. Although the HR shufing continues, eighteen months after initiating this drive, the average age of our management is lower yet their diversity in experience has increased, says President Soneri Bank. He also highlighted that new automated systems, centralization of activities and procedures have been implemented to improve efciencies and streamline operations. Previously we were mislabeled as a small, specialized bank, he says insisting that this classication couldnt be further from the truth. We have over 220 branches and our product portfolio rivals that of even larger nancial institutions. Soneri Bank has enhanced its media footprint of late, to increase awareness regarding its range of product offerings. Soneri added 25 new branches to its network in the outgoing year; a drive the Banks President says will continue in efforts to serve existing clientele better but also to initiate the unbanked populations of small towns into the fold. The law and order situation and energy challenges are the biggest deterrents to business activity; not the interest rate says Manzoor. He insists that the Bank has not been reluctant in lending to viable businesses, but he insists that banks ability to provide term nancing is limited at best. He contends that while the commercial banks lend to businesses in lieu of working capital requirements, other institutions need to be developed to cater for their long-term nancing needs.
Soneri Bank has stepped up efforts to mobilize deposits while agressively working on lowering its cost of funds as well as maintaining its administrative expenses at the current low levels
220
BRANCHES
ADDED
SONERI BANK HAS OVER
He concedes that no sector is large enough for a bank to solely focus on it and the harsh conditions faced by business in lieu of security and energy make it hard to lend to banks. But the Bank President insists on aggressive private sector lending in an environment where most banks are content to buy Government debt. When you are lending to the private sector, you cannot expect zero defaults, he said. The banks cannot afford to be too aggressive though; as Manzoor warns that another economic crisis in the country could imperil the existence of smaller nancial institutions.
Recovery laws and private sector lending

Voicing the concern shared by most bankers, he highlights that the legal system is not conducive for banks to lend aggressively to the private sector because there are so many loopholes and lacunae that defaulters get an easy ride. He contends that even after a decree from court, banks face further hurdles to recovery when they attempt to enforce the courts decisions. Listing out the hurdles to expeditious settlement in the legal system, he highlights that not only are the courts understaffed; there is, at times a lack of understanding of banking procedures. The processes must be simplied and a concept of turnaround time should be introduced so that there is a denite time-frame for the resolution of recovery cases, according to him. Right now, default suits borrowers because they can bank on dragging out the ensuing lawsuit through the courts for years on end, while the nal verdict usually mandates only partial repayment says Manzoor. He insists that recovery laws must be reframed to favor honest businesses and to discourage willful defaults which strain the banking system and reduce avenues of nancing for hard-working and deserving enterprises. Manzoor also called for legislation to slam down on credit offences as major offences.
NEW BRANCHES
TO ITS NETWORK in CY12
25
Sea changes at Soneri Bank

Soneri Bank has stepped up efforts to mobilize deposits while agressively working on lowering its cost of funds as well as maintaining its administrative expenses at the current low levels. Soneri Bank has undergone signicant changes internally since Manzoor took its helm. In his initial assessment of the Bank, Manzoor honed in on the need to revamp its human resources and introduce modern technologies and procedures to improve efciency. If you pick the right human resource, half the job of management is already done, he asserts, highlighting recent moves to inject fresh blood into the Bank, while sifting redundant resources.
INTERVIEW BY: ALI KHIZAR AND SIDRA FARRUKH
Page 27
A TALE OF TWO COUNTRIES

Ayesha Ashraf Jangda
Islamic Banking has witnessed rapid expansion over the years and can truly be considered a global industry both in terms of geographical spread and asset coverage. According to GIFR, the global size of the Islamic nancial services industry is US$1.1.3 trillion with 500 institutions operating in more than 75 countries of the world. In this article, we review two countries namely Pakistan and Malaysia and compare their progress in Islamic banking. While comparing the journeys taken by these two countries, it can be said that they have established their own unique models of Islamic nancial system. The Malaysian model has acquired more sophistication and is more successful considering Malaysia is considered as an international hub for Islamic Finance industry in the world. However, in Pakistan it has only been since 2002 that a practical approach is taken by stakeholders to build a dynamic Islamic nance infrastructure. The efforts have lead to build a successful model which has potential to surpass the nancial inclusion achieved by its conventional counterparts by countering it unique set of challenges.
A comparative analysis of Islamic Finance Industry in Pakistan and Malaysia
BRIEF HISTORY
Independence:
14 August 1947
Population Division
State Religion:
Independence:
Islam 5% Others
31 August 1957
Population Division
State Religion:
Islam 39.6% Others includes
95% Muslims
Sunni 75% Shia 20%
includes Christians and Hindus
60.4% Muslims
Sunni 75% Shia 20%
19.2% Buddhists, 9.1% Christians and 6.3% Hindus
MALAYSIA
PAKISTAN
GDP Growth Rate US$ parity :
2.4% (FY11) 96.72 (as of Dec 7, 2012)

WEF 2011 Ranking:
GDP Growth Rate
5.1%
US$ parity :
3.0425 (as of Dec 3, 2012)

WEF 2011 Ranking:
55
16
ISLAMIZATION PROCESS
PAKISTAN
Objectives Resolution adopted on March 12, 1949 by the Constituent Assembly of Pakistan. Council of Islamic Ideology created on August 1, 1962 to make recommendations to bring current laws into conformity with Islamic injunctions. Prot and loss sharing banking experiment started in January 1, 1981 to implement interest-free banking. The banking procedure adopted by banks in Pakistan since July 1, 1985 declared un-Islamic by the Federal Shariat Court (FSC) in November 1991. Shariat Appellate Bench (SAB) of Supreme Court delivered judgment on December 23, 1999 that laws involving interest would cease to have effect from June 30, 2001.
MALAYSIA
Muslim Pilgrims Saving Corporation (Tabung Haji) established in 1963. It is Malaysias rst Islamic savings corporation. Government formed National Steering Committee in 1981 to outline strategy to inculcate Islamic banking industry. The rst Islamic bank in Malaysia, Bank Islam Malaysia Berhad (BIMB), established in July 1983. First Islamic window at a commercial bank appreared at Bank Negara Malaysia in March 1993. Malaysia introduced Islamic debt securities market in 1990 and Islamic Inter-bank Money Market (IIMM) in 1994. Islamic Banking Scheme (IBS) established in 1999, to include interest-free banking system and full-edged Islamic banks.
In 1999, Islamic windows of three commercial banks merged On September 4, 2001, Government decided to introduce Islamic to form second Islamic Bank, Bank Muamalat Malaysia Banking practices in parallel with conventional banking sector. Berhad (BMMB), which in turn established RHB Islamic bank, Hong Leong Islamic bank, Maybank Islamic Berhad and Islamic Banking Division established at SBP in September CIMB-Tijari Islamic bank by 2004. 2003. It set criteria for establishment of Islamic commercial banks through Islamic Banking Policy 2004. In 2005, foreign banks such as Kuwait Finance House, Al Rajhi and Asian Finance given Islamic Banking licenses. First international Islamic Interbank Benchmark Rate developed by Thomson Reuters and Association of Islamic Banking Institutions Malaysia (AIBIM) in November 2011.
Page 28
Presence of Islamic Financial Institutions

Islamic Banks PAKISTAN MALAYSIA Islamic windows of conventional Banks Takaful Companies Islamic Asset Management Companies Asset Management Companies with Islamic Fund Modaraba Companies Corporate Sukuk market
5 16
12 22
5 8
1 9
15 35
25 -
Malaysia also has Islamic Investment Banks, Development Institutions with Islamic services, Islamic Inter-bank Money Market, Islamic stock broking company
Product Size
Pakistan Malaysia
TRAINING INITIATIVES, DEVELOPMENT AND ACADEMIC RESEARCH

PAKISTAN
Courses on Islamic economics, banking and nance have been included in the curricula of the following: National Institute of Banking and Finance (NIBAF) is also referred as State Bank Training Center; Institute of Bankers in Pakistan International Islamic University, Islamabad offers Ph.D Shariah (Islamic Law & Jurisprudence) and has Islamic Research Institute and Shariah Academy Center of Islamic Economics a division of Jamia Darul Uloom. Jamia tur Rasheed AlHuda Center of Islamic Banking and Islamic Economics (CIBE) Business schools; IBA, LUMS, IoBM, SZABIST, Muhammad Ali Jinnah University, PAF-Kiet among others
MALAYSIA
Training Institutes which inculcate education of Islamic nance are as follows: International Centre for Education in Islamic Finance (INCEIF) Malaysias global university of Islamic nance International Shariah Research Academy for Islamic Finance (ISRA) which promotes applied research in Shariah and Islamic nance Islamic Banking & Finance Institute Malaysia (IBFIM) Asian Institute of Finance (AIF) Institut Bank-Bank Malaysia (Institute of Bankers Malaysia) Islamic Banking and Finance Institute Malaysia Malaysian Insurance Institute
CRITICISM ON ISLAMIC BANKING

PAKISTAN
Unfortunately, the criticism in Pakistan on Islamic Banking is still on rudimentary basis ie. The question of whether or not available Islamic banking really is Islamic is still a matter of debate. Few local scholars debate and still consider Islamic Banking as not according to the real essence of Islam. Ulemas, such as those from of Jamia Uloom Islamiyah dont approve products of Islamic Banking. Their opinion is published in book titled Murwajah Islami Bankari. Academicians such as Dr Shahid Hasan Siddiqui have been writing articles debating the concept of Islamic Banking. Another criticism on Islamic Banking in Pakistan is that it has not realized it true potential considering 98 percent of the population is Muslims, not result in nancial inclusion of people and its behind the target envisaged by SBP in its strategic plan of 2005, a 12 percent market share by 2012.
MALAYSIA
Islamic banking in Malaysia has been criticized because of its application of bay' al-Inah in creating a number of so-called Islamic nancing products. Bay' al-Inah is a sale contract with immediate repurchase. It takes place when a person sells an asset in credit and immediately buys back the asset in cash at lower price. The classical jurists are in disagreement in assessing the legality of the contract. It was prohibited by majority of jurists including the Hanas, Malikis and Hanbalis, but allowed by Shas.
The author is Section Head, Corporate Strategy and Business Planning at Bankislami Pakistan Limited. She can be reached at: ayesha.ashraf@bankislami.com.pk
Page 29
Bank Islami
Inefcient real estate market a big impediment to mortgages
Bank Islami (BIPL) is the second biggest Islamic bank in the country, in terms of deposits as well as number of branches. The Bank has continued endeavours to enhance its branch network in the outgoing year; adding 39 branches in CY12. Given its aggressive stride, the Bank has churned out a consistent pace of 30 percent growth per year, since its inception. In a recent interview with BR Research, BIPL President Hasan Bilgrami pointed out, we have grown organically without any mergers and acquisitions, yet in comparison to our peers, we have exhibited higher growth throughout our existence. He recalled that BIPL added 10 branches in 2006, 26 branches in 2007 and another 66 in the next year. After consolidating operations over the next three years, in CY12 the Bank has once again resumed the extension of its network. We hope to add another 60 branches next year, subject to SBP approval revealed Bilgrami, adding that this will distinguish BIPL as the second biggest Islamic bank in Pakistan.
Hasan Bilgrami President, Bank Islami Pakistan Limited
doubled the size of its portfolio, so the experience proved to be a win-win situation for all key stakeholders. While BIPL is active on the home loans and car loans front; Bilgrami contended that the legal environment in the country is not conducive for banks to roll out such loans. The real impediment to a vibrant market for home loans is that the real estate market is quite inefcient. Then foreclosures are not easy to implement here, so banks are unable to really expand this portfolio even though they would want to he pointed out. But BIPL has taken a personal approach to building its home and car loans portfolios. We judge each application based on the personal relationship and history of the applicant, instead of relying on the same laundry list for everyone said the BIPL President. Since Islamic banks actually own the asset which they lend against, recovery is also not as cumbersome for them as it is for conventional banks. Hasan Bilgrami cites these as the core reasons due to which the countrys Islamic banks are so far the dominant players in the home loans segment.
BANK ISLAMI
39
NEW BRANCHES in CY12
Not an apologetic competitor

Our value proposition is not limited to the fact that we are an Islamic bank. Our product offerings, rates, reach, market penetration and overall customer experience rival any of the other nancial institutions operating in the country, asserted the BIPL President. He highlighted that the Bank has been able to draw many customers away from conventional banks due to its competitive product offerings. About half of our branches are in villages and peri-towns including some areas where even the biggest banks are not present he said, adding that Bank Islami has brought many new uninitiated people into the formal banking fold because of this presence. There are many people who have traditionally stayed away from banks because they consider these institutions un-Islamic. We have broken that mould and have been able to convince these unbanked people to use Shariah-compliant banking services, said Bilgrami.
The Sukuk situation

The Bank President highlighted that on the investments front, Ijara Sukuk is the only option available to Islamic banks, while conventional banks can invest over various tenors through T-bills and PIBs. Hence while they can manage rates quite effectively, Islamic banks have limited ability to hedge against falling rates. When quizzed over the Banks ADR, Bilgrami contended that while the ratio is lower than conventional banks, unlike those institutions advances by Islamic banks are growing in absolute terms. He also highlighted that deposits across Islamic banks have grown by an average of about 30 percent each year, while private sector credit offtake has been sluggish due to exogenous factors. Relaxation in the minimum rate to be offered by Islamic banks to depositors is not likely to drastically reduce the cost of borrowing for the banks, contended Bilgrami. He explained that under the new regulation, the maximum rate offered by Islamic banks and windows to any depositor cannot be more than thrice the minimum rate offered by the same institution. In the short-run, rates offered to depositors may drop but over time they will match the industry-wide trend said Bilgrami.
30
percent
GROWTH per year
Consumer lending, the old school way

Back in 2010, Bank Islami achieved a unique distinction globally, as it became the worlds rst Islamic bank to acquire the home loans portfolio of a conventional bank, Citibank. Bilgrami revealed that the conversion of that portfolio has now been completed. We made it economically attractive for the clients so they were happy while at the same time, Bank Islami
INTERVIEW BY: ALI KHIZAR AND MOBIN NASIR
Page 30
Banks must make efforts to differentiate a good bet from a bad one
Ahmed Khizer President, Burj Bank
BR Research: Briey relate the vision of Burj Bank and its plans for the near future. Ahmed Khizer: Burj Bank is the fastest growing Islamic Bank in Pakistan. It pursues an ambition of reaching new heights and achieving distinction in Islamic Banking by becoming a symbol of prosperity, progress and success. We have a rich Middle Eastern background with the support of ICD Jeddah (Islamic Corporation for Development of the Private Sector) which is the private sector arm of Islamic Development Bank, Jeddah. Other major shareholders include Bank Al-Khair from Bahrain, Gargash Enterprises from the UAE and Al-Romaizan from Saudi Arabia. Our Board of Directors has approved a ve-year plan which envisions rapid expansion. We added 25 branches to our network in the outgoing year, registering a signicant increase over the 50 branches that were present at the beginning of 2012. Subject to approval from the State Bank of Pakistan, we intend to add a similar number of branches to our network in 2013. Our service quality is the key differentiator. Based on this, we intend to compete with all other banks, not just the Islamic banks. BRR: How have deposits and advances for the Bank performed in the outgoing year? AK: The deposit growth has been phenomenal, registering a 80 percent increase in deposits in 2012. At the same time, we have brought down the cost of funds. We have grown across the country and have a very healthy ADR of 63 percent. It is very easy to invest in government securities when the interest rates are high. But that is not what the banks are there for; it does not spur the economy. Banks should be creating assets by building advances so that it generates a healthy economic cycle. Naturally, lending to the private sector comes with risks, but in banking we are in the business of taking intelligent, prudent and properly evaluated risks. BRR: What is the mix of your branches in terms of geographical placement? Some of the banks are focussing heavily in the rural segment from the nancial inclusion angle. What is Burj Banks view? AK: We follow the standard 2:1 urban rural ratio. Some of our peer banks have been quite aggressive in rural areas, which is one way of bringing the unbanked under the banking umbrella. But that is not the only way.
Another way is to tap those residing on the outskirts of major cities like Karachi, which is what we have done. We are also considering alternative distribution channels, including mobile banking. We have started with non-transactional services on cellular phones and will provide transactional services from next year. BRR: Deposit creation is not much of an issue but building the asset side is, especially the lending part. How do you cope with it in the current low interest rate scenario? AK: Yes, the deposits are coming in but we have to be careful at what cost they are coming in. We have done well on this front, building deposits and bringing the cost of funds down at the same time. On the ipside, there is still business in the private sector amongst the blue chip companies. We are providing cash management and investment banking services to large corporates and building clientele in the SME sector at the same time. We believe opportunities still exist in trade nance and consumer lending. There is demand from the private sector but banks have to put in the effort to differentiate a good bet from a bad one. After all, the core function of all banks is lending, not investing in government paper. We have worked hard on risk management and as a result, our NPLs are signicantly lower than the industry average. BRR: What are the consumer products that Burj Bank offers? AK: We have been offering car nancing for a little over year. Last month we nanced about 300 cars and have also signed an agreement with Honda to facilitate car buyers. But we are expanding cautiously on this front. So far, the delinquencies under this head are under one percent, but we will continue monitoring the portfolio as it matures. We are also conducting research to assess the feasibility of home nancing. We believe that Islamic banks have an inherent advantage in these realms because asset-backed lending makes it easier to deal with recovery issues. BRR: How much of an impediment is the lack of avenues on the investment sides? AK: It is an impediment as we only have Sukuks to invest in. We are working with the SBP to create more instruments, but that is not a Pakistan-specic phenomenon. There is a dearth of Islamic instruments globally. We also invest through equity placements as these are permissible under Shariah, as long as the equities are also Shariah compliant.
The core function of all banks is lending, not investing in Government paper. We have worked hard on risk management and as a result, our NPLs are signicantly lower than the industry-average
BURJ BANK ADDED
25
DEPOSIT GROWTH PERCENT IN CY12
BRANCHES IN CY12
80 63
PERCENT
CY 12 ADR
INTERVIEW BY:
ZUHAIR ABBASI AND MOBIN NASIR
Page 31
Islamic banks, regulators must work on providing a wider range of services

Wasim Sai | Global Head of Islamic Consumer Banking, Standard Chartered Bank
There is a pressing need today, to open up avenues for Islamic banks by ways of asset creation and liquidity management. That is the only way the industry is going to develop further in the country, said Wasim Sai, Global Head of Islamic Consumer Banking, Standard Chartered Bank. In a recent interview with BR Research, Wasim asserted that the Bank is bullish on Islamic banking in Pakistan. He pointed out that Standard Chartered Pakistan has set up 14 Saadiq branches in the country; while another 36 conventional branches offer Islamic windows. Besides, Saadiq clients can utilize teller services at all Bank branches in the country, he added. Total deposits held by Islamic banks in Pakistan have registered an impressive growth in recent years, but Wasim contended that, in Pakistan, the challenge facing this industry is on the front of asset deployment. If better opportunities were available there, we would be even more aggressive with our expansion plans. This comment alludes to the limited investment opportunities available in the country for Islamic banks. While conventional banks can park funds in Treasury bills, Pakistan Investment Bonds and other debt instruments with diverse tenors; the Islamic banks can only invest funds in Sukuks which have a three-year tenor and are re-priced every six months. The penetration of Islamic banks in other countries is signicantly higher than in Pakistan. In Malaysia, this number stands at 24 percent, in Kuwait it is over 40 percent, in the United Arab Emirates 22 percent of the banking sector is occupied by Islamic banks, while in Saudi Arabia the entire banking sector is on the verge of turning over completely to Islamic mode, pointed out the Islamic banking expert, adding that in Pakistan this number is still in single digits. Pakistan has one of the worlds largest Muslim populations, so this is a huge market. All that is needed are the right tools that are in line with religious considerations, and this sector can boom within the next few years. We would not be surprised if 5-7 years down the line, a third of the banking sector in Pakistan is controlled by Islamic banks, he said. Wasim called on the banks and regulatory authorities in Pakistan to re-evaluate what is permitted under Shariah structures with a view to developing Islamic banking in the country and increasing its penetration. He urged banking sector regulators across the Muslim World to work towards providing an enabling infrastructure; along with regulations that allow Islamic banks to expand their array of product offerings. It is a
Standard Chartered Pakistan has set up
Saadiq branches in the country; while another
14 36
conventional branches offer Islamic windows
Wasim Sai rejoined Standard Chartered Bank in January 2011 as the Global Head of Islamic Consumer Banking. In July 2012, he was also appointed as Chief Executive Ofcer of Standard Chartered Malaysias wholly-owned Islamic banking subsidiary Standard Chartered Saadiq . He had earlier served the bank for 17 years in Mumbai, Dubai and Colombo.
noble consideration that our religion discourages people from taking on debt to fund consumerism, he said adding, but regulators have to be mindful that this door is wide open for conventional personal nance, while the Islamic banks do not have commensurate mechanisms. He contended that since Islamic banks are limited in their ability to offer personal nance solutions to clientele; many individuals and businesses that would prefer to inculcate a relationship with an Islamic bank, remain unable to do so since all their needs cannot be met by that institution. In terms of business nance, Islamic banks can provide some solutions like Murabaha for export nancing, but cannot lend for working capital requirements. So a business will not receive end-to-end services like it could receive from the conventional banks he said. I believe we owe it to our customers to collectively work towards providing Islamic solutions for such needs so that they can exercise their choice of opting for Islamic banking, without hassle or fear of losing out on critical services which they expect from their bank. Highlighting the strengths of Standard Chartered in the Islamic banking arena, he said, In the international space, we are the only bank with end-to-end Islamic banking on our platform; from mass-market retail banking to international private banking. We offer comprehensive services to SMEs including an electronic platform for trade and cash management. We even have Shariah-compliant NOSTRO accounts in Euro and US Dollar.
INTERVIEW BY:
MOBIN NASIR AND SOBIA SALEEM
Page 32
Micro Finance: an effective anti-poverty tool

Sajjad Hussain
Poverty stands as a towering challenge for the global economy, particularly developing economies. It is an unacceptable human condition, but poverty is not unassailable; public policy and actions can, and must eliminate poverty. Micronance as a tool and mechanism for poverty alleviation has enormous potential and needs to be well understood. Traditionally, poverty alleviation was considered to be a charitable function and NGOs and donor provided subsistence to the underprivileged, while governments launched income support programs more because of political clout than anything else. But in more recent times, there has been a paradigm shift and policy makers are of the opinion that poverty can only be eliminated by providing means of earning livelihood to the poor. Dont give me sh tell me how to catch the sh". Micronance refers to the provision of a whole range of nancial services to low income earners, who can utilize the funding to nance their businesses, acquire household assets, improve consumption, and invest in health, education, fund emergencies and social obligations. In the past decade, micronance has been recognized as an effective development intervention for at least four basic reasons.
Services provided can be targeted specically at the poor and poorest of the poor. Economic growth and job creation can be stimulated, as small business development and access to housing nance generates new cycles of accumulation and contributes to higher levels of effective demand. These services can make a signicant contribution to the socio-economic status of the targeted community. Poverty can be reduced, as access to nance, in the form of saving and credit in the hand of poor; can enable them to build assets. Other services, such as insurance provide reasonable certainty to the income of the poor and reduce their vulnerability to economic shocks. By supporting womens economic participation, micronance helps not only to empower women but also enable them to participate in economic activity. The institutions that deliver these services can develop, within a few years, into sustainable institutions with growing outreach.
Page 34
Micronance in Pakistan has come a long way since 2000 and is gradually mainstreaming into the formal banking system. Eight MFBs have been established, including transformation of three micronance institutions, and two of the worlds largest MFIs have started operations in Pakistan. In Pakistan out of 18 million people about 30 percent are living below the poverty line. The pattern of growth in our country has always been pro-elite and pro-rich which has resulted in lop-sided growth of the national economy. We must understand that there are two pre-requisites to ensure that the benets of growth reach the poor.
Generation of massive employment opportunities for the poor and under privileged. Enhancing the consumption power of the poor.
The importance of micronance, therefore, cannot be overemphasized. Being cognizant of this fact, the Government of Pakistan promulgated Micro Finance Ordinance 2001. SBP introduced Prudential Regulations for MFIs, and took a number of other initiatives like, nancial inclusion program; institutional strengthening fund and micronance credit guarantee facility. Commercial banks are traditionally reluctant to nance small loans, mainly because of high transaction costs and lack of expertise to handle this kind of loans. Instead of considering this an additional opportunity for investment, they consider it as a losing proposition. So far, while none of the commercial banks or leasing companies has created a specialized micronance subsidiary, a couple of them have ventured into this market. Micronance market is dominated by women entrepreneurs, therefore, FWBL has a big opportunity but a lot of home work needs to be done. We must not forget that nancing is only one component, though very critical, but only one element of the value chain. The technical and institutional support mechanism, infrastructure facilities, technological absorption, and last but not the least well-trained human resource must all complement and supplement nancing. To drive holistic efforts towards poverty alleviation and inclusive growth, the Government, central bank and tax ofcials must be clear about what micronance is all about, and how it can contribute to the national economy and welfare. They should be able to differentiate between social assistance programs and sustainable micronance operations. Priority actions include:
Developing a supportive policy and legal environment to encourage the entry of new MFIs Simplifying regulatory, supervisory and tax requirements System should be able to accommodate different institutional structures Developing industry performance standards and a clear nancial reporting system that encourages sound management and nancial responsibility of MFIs
Photo courtesy: Alana McConnon, Google images
Incentives/disincentives for commercial banks to provide micronance Special emphasis on human resource training in the specic elds of operations
Commercial banks are traditionally reluctant to nance small loans, mainly because of high transaction costs and lack of expertise to handle this kind of loans
Currently, the MFIs are barely scratching the surface of overall demand. The current outreach of two million borrowers is less than 10 percent of the potential market. Banks ought to view nancing the poor not only as a social service but also as an additional opportunity for protable investment. The main challenges faced by micro inance providers are high transaction cost, limited outreach, small size of loan, limited product and services, small size of each loan, loan quality and leverage and effective rate of interest charged. To address these challenges, the micronance sector needs to be more innovative, more efcient, more transparent, more institutionalized. The average loan size in Pakistan is around Rs15,000 which is 30 percent of the domestic per capita income. In other comparable regions the same ratio ranges between 50 and 150 percent. The relatively small loan size compared to high transaction costs makes the proposition unviable for MFIs. They will have to increase the average loan size to remain sustainable. From the cost structure we are at par with South Asian providers and much lower than developed countries. But our MFIs are still unprotable because they are highly under-leveraged. Only 40 percent of their balance sheets are used for loans, while the rest is invested in government securities.
Sajjad Hussain is a former banker and has taught at the Institute of Bankers Pakistan. He holds a Masters Degree from Government College University Lahore and MBA from California, USA. He can be reached at: sajjad_100@hotmail.com
Working with the population at the bottom of the economic pyramid requires unique skills. As such, the human resources development challenges in micronance are different from other sectors. MFIs need relationship managers with experience and knowledge of local economic structures, business activities and the social environment. Structuring of loans has to be cognizant of cash conversion cycles. Remember, you will never nd two small businesses exactly alike as in the game of bridge two identical hands are never received, no matter how many million hands you have played.
Page 35
Unaffected by slowdown in private sector credit offtake:

Shafqat Sultana | President, First Womens Bank
FWBL IN 2012
As far as the First Womens Bank (FWBL) is concerned, there is no slowdown in the private sector credit offtake. Our clients are mostly operating educational institutions, clothing and apparel outlets, beauty salons, small and micro agriculture and horticulture busineses and food outlets highlighted President FWBL, Shafqat Sultana, in a recent interview with BR Research. All of these sectors have been performing quite well even as other sectors of the economy have registered little or no growth. The head of the Bank also highlighted some unique strategies adopted by FWBL. We have partnered with UNIDO and SMEDA this year, and together we are conducting training courses for women who come to us for business loans. This way, we are not only giving them the seed capital to start their own ventures; we are also developing the relevant skills to maximize their chances of success said Shafqat Sultana. 10 branches, which would swell its network to 52 branches. We are looking to expand into cities beyond Karachi, Lahore and Islamabad so the expansion in the branch network will lead us into new markets, said the Bank President, Shafqat Sultana.
Deposits Growth
12 BILLION 18 BILLION
RUPEES
CAUTIOUS ON CARS, BULLISH ON GOLD

FWBL has offered car loans for some years, albeit a limited scale. But the Bank is not keen on expanding this portfolio given the current economic conditions. We have given this aspect much thought and at the moment we are approaching the expansion of our car loans portfolio quite cautiously, said Sultana.
RUPEES
TOWARDS SELF-SUSTAINABILITY
Advances Growth
09 BILLION 10 BILLION
RUPEES
Advances by the Bank had hovered just under Rs9 billion at the beginning of 2012. We have ended the year with over Rs10 billion in advances revealed the Bank President. She also added that deposits have grown from Rs12 billion to Rs18 billion over the same period.
But the Bank is bullish on its upcoming gold deposits product. Under this offering, people can deposit their gold with the Bank and obtain advances against these deposits, she said expressing hope that the product will be well received by women who often keep a major portion of their We have partnered with UNIDO and savings in the form of this SMEDA this year, and together we are precious metal. Once the product is rolled out, First Womens Bank conducting training courses for women will be the second bank in the who come to us for business loans. This country, after National Bank of way, we are not only giving them the Pakistan with such an offering.
seed capital to start their own ventures; we are also developing the relevant skills to maximize their chances of success
RUPEES
But FWBL is not entirely immune to the macro economic conditions of the country. The consistent reductions in the discount rate have thinned the spreads for the Bank, impacting protability in the outgoing year. Yet the Bank expects to break past Rs100 million in prots for CY12. There is still much ground to be made up before the Bank can meet the minimum capital requirement mandated by the State Bank of Pakistan. But the Bank President is sure that the current pace of growth and an accomadative stance by the Government of Pakistan and SBP will ensure its long-term sustainability. Emphasizing the Banks niche, Sultana stressed, in a country where women face many hurdles in entering the work force, we have provided jobs to scores of young professional women, helped thousands others set up their own businesses and provided distinguished performers to the corporate sector. The Bank added four new branches to its countrywide network in CY12. In the upcoming year, the Bank is planning to set up another
FWBL is currently implementing new automated internal controls. Once the transformation is complete, the Bank intends to launch into branchless banking. In the initial stages, clients will be able to pay utility bills, check account balances and make transfers online. As we expand, we will try to develop a larger spectrum of offerings that can be availed without having to come into a branch, said the Bank President. We are really looking forward to the introduction of branchless banking because women are often hurdled by mobility issues and cannot make frequent trips to a branch. Branchless banking will let them keep a regular check on their accounts, dues and receipts without making the trip contended Shafqat Sultana. The Bank is also gelling insurance plans with its existing offerings of educational and healthcare loans.
INTERVIEW BY: ZUHAIR ABBASI AND MOBIN NASIR
Page 36
Financial inclusion landscape in Pakistan

Roar Bjaerum
In 2009, the World Bank carried out a study and found that only 12 percent of the adult population in Pakistan was actually part of the formal banking structure. Millions of Pakistanis were resorting to informal, undocumented nancial services and many more had absolutely no access to nancial services, making nancial inclusion a huge challenge for the country. This number was especially surprising because countries in the same region like Bangladesh, India and Sri Lanka had banking penetrations of 32 percent, 48 percent and 59 percent respectively. The main reasons identied for the low banking penetration in Pakistan were a lack of convenient and accessible banking infrastructure, high cost of travel and lack of awareness at the top of the list. But then, while very few people in the country had bank accounts, almost every household had a mobile phone with more than 100 million SIMs in the country. In this scenario, mobile nancial services presented itself as an incredible opportunity for nancial inclusion. Another study was conducted by the Boston Consulting Group in 2011 on the impact of nancial services in Asia. This study showed that a 3 percent increase in GDP can be achieved through mobile nancial services in Pakistan. The study proposed that mobile nancial services can lead to increased healthcare, opportunities for rural women and an increase in employment by 2020. 71 percent of the adult population can be reached through mobile nancial services by 2020 thereby bringing them into the banking mainstream. To build a mobile nancial services ecosystem in the country, the State Bank of Pakistan introduced its Branchless Banking regulations in 2008. Termed as one of the most robust and progressive frameworks developed for nancial inclusion, the regulations allowed for banks to work with telecom companies and build a mobile nancial industry in the country. Tameer Micro Finance Bank took the initiative and received the rst Branchless Banking license. In partnership with Telenor Pakistan, a new brand with the name Easypaisa was introduced in 2009 with the shared vision to bring nancial inclusion to the people of Pakistan. The partnership came about through the equilibrium of bringing both the banks and the telecominucations providers respective expertise into the business model. Easypaisa has been quite successful in its short three-year regime, winning the best Mobile Money launch award by MMT in 2010. In 2012, CGAP labeled Easypaisa as the third biggest mobile money service in the world, in terms of customers. The Easypaisa services introduced rst were made available through selected retail merchants all over Pakistan. These Over-the-Counter (OTC) services included bill payments and money transfers and top up services. Later, Easypaisa introduced mobile accounts; complete bank accounts opened for Telenor SIM users which enabled the user to make their transactions through their own mobile handset, anywhere, anytime. Mobile account users could deposit money or withdraw money from their mobile account from any Easypaisa shop. The market has welcomed Easypaisa services and the convenience of mobile nancial services has transformed the way the common man lives. In three years, Easypaisa now has a network of more than 20,000 Easypaisa shops across 700 cities in Pakistan; making it the largest nancial services network in the country. This number is twice the total number of bank branches, and four times the number of total ATMs in the country. Since launch, Easypaisa has carried out nearly 100 million transactions with the total throughput of more than Rs200 billion. More than 1 million new mobile accounts have been registered across the country and nearly 4 million Pakistanis walk into Easypaisa shops to carry out their nancial services every month. The Easypaisa service has been extremely successful in laying the ground work for mobile nancial services in Pakistan, prompting competitors to step into this new industry. The future of mobile nancial services is exciting as the new entrants will help the eco-system grow; with their marketing campaigns and their retail footprints. For Easypaisa, the focus will be more on expanding the product portfolio; offering banking products (lending, savings, insurance etc.). Recognized as the innovator in mobile nancial services, Easypaisa introduced the Khushaal product, which is a unique savings and life insurance product, completely free of charge. One of the targets for Easypaisa is to bring 10 million Pakistanis into formal banking net by 2015 thus contributing to the projected increase in GDP by the BCG Study. With a vision to change peoples lives in Pakistan, Easypaisa will continue to contribute to nancial inclusion for everyone and help to impart the benets of mobile nancial services to every Pakistani. The mobile nancial services industry in Pakistan is denitely set to see some exciting times ahead as competition increases and the ecosystem continues to progress and evolve.
In three years, Easypaisa now has a network of more than 20,000 Easypaisa shops across 700 cities in Pakistan; making it the largest nancial services network in the country. This number is twice the total number of bank branches, and four times the number of total ATMs in the country.
Roar Bjaerum is the Vice President, Fiancial Services for Telenor, Pakistan.
Page 37
Informal nance:
Chasing the shadows
Sidra Farrukh and Sijal Fawad
Out of a population of nearly 200 million, only about 15 percent have bank accounts, in Pakistan. Who is fullling the nancial needs of the remaining nearly 85 percent of the population or more considering not all account holders will borrow from banks who have not seen as much as the face of a bank teller? Its the informal lenders. Sources of informal lending include friends and relatives, bania, arthi and landlords in villages. Informal lending for consumption goods also takes place in the open retail market, particularly for electronic products, through an undocumented installment plan. Women in Pakistan have also invented a unique informal borrowing method called auntie committees whereby women in a particular location pool in a xed sum every month, and the total collected each month is handed over to a pre-decided person or through a lucky draw. While these kitty parties are more for the reason of social get together, there are some more business oriented boli wali committees prevalent in small to medium size trader communities that work through an auction process, which is a dynamic game with changing interest rates according to the needs and liquidity of participants. Besides these, local foreign exchange agents also sometimes provide loans to people who have insufcient funds to send overseas. It is believed that the amount of money changing hands through these informal means is comparable to that owing in the formal sector. This is evident from the fact that banking deposits in Pakistan are less than one-third of GDP. The Government debt to GDP ratio is double the banking deposits base, partially explaining crowding out of the private sector and reluctance of lazy bankers to reach the informal sector. Also, to evade taxes and keep black money off the radar, many businessmen do not opt for the formal banking sector. According to some studies, the informal economy of Pakistan is half the size of the formal i.e. close to $100 billion. Any effort to enhance documentation in the economy, such as tax amnesty schemes and doing away with legal investigations for money being remitted into Pakistan, could help in increasing banking density. Besides these, low literacy also explains low penetration in the formal sector. Literacy status can also inuence farmers' access to formal credit institutions because literate farmers are assumed to have better technical know-how and information about the market. They (also) have a better understanding of bureaucratic procedures involved in the application, acquisition and repayment of loans, explained Shehla Amjad and S.A.F. Hasnu in a 2007 research paper on rural credit.
Transforming the informal sector

Existence of shadow banking in Pakistan is not an eccentric fear. While driving around the metropolis, the construction and housing market seems to have taken a recovery stroll. Surely from where banks private sector credit stands, developers in the construction industry have backing from shadow banking to be able to create such lofty projects. While complete transformation sounds irrational and impractical, the key to avoid a shadow banking crisis, such as that in China, lies in converging the capacity and structure of the formal sector with the exibility of the informal sector. Besides this, a blend of enforcement and increased access to cheap credit through both licensed and community based loan schemes could also work. Tedious documentation procedures along with higher appetite for Government credit has made private credit off-take insipid with formal lending to the SME sector in dribs and drabs. The development of parallel debt markets for the corporate sector would be a blessing in disguise for the SME sector, leaving banks with more room for lending to the same. Inroads in the use of formal bank accounts require the removal of nancial, physical and bureaucratic barricades. Work on nancial inclusion and outreach via technology has been signicant especially with proliferating branchless banking across the country, but is still in its nascent stage. One very appropriate strategy for a lower middle income country like Pakistan could be what India did back in 2006. The Reserve Bank of India authorized banks to use various intermediaries to achieve greater outreach of the formal banking sector. These intermediaries could be any suitable local organization, NGO, MFI or a registered NBFI. They had the responsibility of identifying borrowers and conducting pre- and post-loan disbursement services. In Bangladesh, Grameen and other community-based lending models which involve village banking, credit unions, cooperatives and self-help groups that make small formal loans to the poor. Bringing the informal nancial sector under the regulated environment is important. The uncertain shadows of shady banking and shady business reect on society and the economy. It needs to be developed and there has to be a liaison, at least for the sake of the borrowers.
Adults with an account at a formal nancial institution Pakistan India Bangladesh 10% 35% 40%
Adults borrowing from a formal nancial institution in the past year 2% 8% 23%
Source: The Global Findex Database World Bank
Ironically, the recovery rate of these informal loans is quite high, and in the case of interest-based informal lending, the interest rate people end up paying is exuberantly high. Many cultural, religious and economic factors explain why informal lending continues to be a leading choice for the borrowing needs of many. Firstly, a general religious aversion towards interest (riba) keeps many people at bay from bank borrowing or putting deposits in savings accounts. The term sood khor (interest taker) is considered an abuse, and even though interest-based informal lending does take place in communities, it is never discussed in the open because of the stigma attached to interest. In addition, with Pakistans ill-dened property rights, it is not uncommon to nd more than one owner of a single piece of land, especially in rural and low-income urban areas. Because of this, people do not have legitimate assets to present as collateral to banks. In fact, many established sectors of Pakistan, such as road and housing construction, are not even given overdraft limits by banks because of a lack of legal, documented assets for collateral. Banks themselves are shy of lending to the general populace because of poor foreclosure laws and inadequate capacity of banking courts which often favor the borrower over the lender.
The writer is a Research Analyst at Business Recorder. She can be reached at: sijal.fawad@br-mail.com The writer works as Research Analyst at Business Recorder. She can be reached at sidra.farrukh@br-mail.com
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Illustration by Abdul Musawer Gulzar

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Editors note

B for banking and big business

BANKING REVIEW 2012 / January 28, 2013

Asst. Editor Research

Banking Review 2012

Monday, January 28, 2013 | www.brecorder.com/br2012

Senior Research Analyst

Sobia Muhammad Saleem

Abdul Musawer Gulzar

2013: HERE COMES A TOUGH ONE!

BANKING REVIEW 2012 / January 28, 2013

BANKING REVIEW 2012 / January 28, 2013

Small banks should actively seek mergers

INTERVIEW BY: ALI KHIZAR

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Revamp laws to revive consumer and mortgage lending

ALI KHIZAR AND ZUHAIR ABBASI

BANKING REVIEW 2012 / January 28, 2013

Following the money trail

PRIVATE SECTOR CREDIT SHARE

BANKING REVIEW 2012 / January 28, 2013

Mohsin Nathani Chief Executive, Standard Chartered Bank Pakistan

STANDARD CHARTERED BANK PAKISTAN IS ONE OF TWO PRIVATE BANKS WITH A

COVERAGE RA RAT IO RATIO IS CLOSE TO

INTERVIEW BY: ALI KHIZAR AND MOBIN NASIR

BANKING REVIEW 2012 / January 28, 2013

Banking: a business of restraints and constraints

Trends in Banks branchless interface

The writer is a Research Analyst at Business Recorder. He can be reached at hammadshah24@gmail.Com

Customer Interface with the branchless banking ecosystem

Thats where things are headed now!

BANKING REVIEW 2012 / January 28, 2013

Trends in Branch Banking Interface: 2012

Banking: At the cross-roads of immense possibilities

Branch Banking: One size need not t all

The writer is Research Analyst at BR Research. She can be reached at javeriaansar08@gmail.com

BANKING REVIEW 2012 / January 28, 2013

Economic growth necessitates development of long-term debt market

BRANCHES IN 158 CITIES

ALI KHIZAR AND JAVERIA ANSAR

BANKING REVIEW 2012 / January 28, 2013

Energy, agriculture and bilateral trade among sunrise sectors

of the multinational corporates wallets

BANKING REVIEW 2012 / January 28, 2013

Corporate debt market:

Where does Pakistan stand in this run?

CORPORATE BOND MARKET PERFORMANCE

80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 -

Developing corporate bond market

BANKING REVIEW 2012 / January 28, 2013

BANKING REVIEW 2012 / January 28, 2013

Hire more judges for banking courts

BARCLAYS BANK IN 2012

MOBIN NASIR AND SIDRA FARRUKH

BANKING REVIEW 2012 / January 28, 2013

Credit by banking sector (as % of GDP)

Islmic banks' infection & coverage

Regional real interest rates

20 2012 8.8 59.5 2011 7.6 63 7.3 58.6 6.3 51.7 10 15

(as % of gross loans)

Regional import cover (no. of months)

-10 2011 2010 2009 2008 2007 2006

BANKING REVIEW 2012 / January 28, 2013

140 120 100 80 60 40 20