CONSUMER FINANCE

SUBMITED BY: Zaira Habib

ID : 7980
Sec : D

LETTER OF ACKNOWLEDGEMENT

13th April 2010

Mr. Sharique Ayubi
Faculty of Finance
IoBM
Korangi Creek
Karachi

Dear Mr. Sharique Ayubi

It has been a great experience working on this report on “Consumer

Financing” as for term project and I’m very thankful to Mr. Sharique
Ayubi for giving me an opportunity to work on this report.

I would like to thank you for your full support. If you have any queries
you can contact me at zaira_habib@hotmail.com

Sincerely
Zaira abib
7980

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CONTENTS

CONTENTS............................................................................................................................3
ROLE OF CONSUMER FINANCE
COMPANIES.........................................................................................................................5
TYPES OF CONSUMER FINANCE (LOAN):....................................................................9

REGULATORY FRAMEWORK FOR CONSUMER FINANCING...............................12

STYLIZED FACTS..............................................................................................................13
CONSUMER FINANCE–MYTHS AND FACTS..............................................................14
CONSUMER FINANCE IN PAKISTAN...........................................................................16

POTENTIAL RISKS & FUTURE OUTLOOK.................................................................17

PERSPECTIVES ON CONSUMER FINANCE IN PAKISTAN......................................20
ISSUES AND CHALLENGES FROM CONSUMER PERSPECTIVE...........................22
SOCIAL & ECONOMIC IMPACTS OF CONSUMER FINANCING............................23
RECOMMENDATIONS......................................................................................................24

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INTRODUCTION
Consumer finance has to do with the lending process that occurs between
the consumer and a lender. In some instances, the lender may be a bank
or financial institution. At other times, the lender may be a business that
offers in house credit in exchange for the business of the
consumer. Consumer finance can include just about any type of lending
activity those results in the extension of credit to a consumer.

Most people have received financial assistance in obtaining desirable

products through the use of consumer finance methods. In retail banking,
the lender extends secured and unsecured loans to consumers who wish to
purchase automobiles, homes, or engage in other activities that require
substantial financing, such as remodeling a home.
Generally, consumer lending of this type caries some degree of
competition, since the consumer with a solid credit rating can often shop
around and secure superior interest rates and terms for the loan
agreement.

At the same time, not all forms of consumer finance are in the best
interests of the consumer. In many parts of the world, institutions are in
the business of lending money even to consumers with poor credit
ratings, or who lack a reasonable ability to repay the borrowed funds.
This can take the form of credit card offers, loans with extremely high
rates of interest included in the finance structure of the loan, and other
terms that will be difficult if not impossible for the consumer to meet.

As with any type of financial arrangement, it is important for

the consumer to understand the exact nature of the commitment that is
made as part of any consumer finance strategy. By understanding and
accepting the terms and conditions associated with any lending situation,
the consumer is pledging that the ability to repay within terms is present,
and that the consumer has every intention of complying with each
component or section of the loan agreement. To this end, it is in the best
interests of the individual consumer to seek out the most desirable
arrangements for any type of consumer finance, taking care to avoid any
situation that will place an undue amount of stress on the resources in the
possession of the consumer.

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ROLE OF CONSUMER FINANCE

COMPANIES
It was the American industrialist who developed and propagated the
concept of mass production which has led to a mass consumption
economy not only in America but through most parts of the world. One
important consequence of mass production was the rapid increase in the
use of installment credit. With its propagation, the America businessman
was at least assured that his market – the consumer – would have the
purchase “vehicle” with which to obtain his mass-produced goods.

What happened with cars in America in the 1920s and with automatic
washers and television sets after World War II has been replicated in
Western Europe, gradually in most Asian countries, and certainly now in
Thailand.

Installment selling, in spite of its having been practiced elsewhere in the

world for so many numbers of years, is relatively new in Thailand. There
is no clear record as to when installment selling was started here. It has
been observed that the practice caught up rather slowly but gained a more
rapid momentum in the last 10 years, due largely to the greater degree of
competition (entry into the country of more foreign goods) and the
growing influence of the more sophisticated distribution system brought
by the foreign businessmen.

Something has to be said about the culture of the Thais with regards to
their response to the idea of installment credit. It is perhaps the sense of
apprehension for foreign-bred schemes, and justifiably so, that was
responsible for its slow start. There is, likewise, the element of giving
out information on oneself that provided a resistant factor to its
acceptance. Even now it is generally difficult for a trading company or
financing company to solicit credit information from the prospective
buyer.

The Thai consumers are a sensitive lot. For one, they generally avoid
being goaded into signing any kind of formal contract. They feel that if
you, the seller, trust them, and then there should not be any need for
elaborate contractual agreement. Hence the strong resistance to fill up

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complex information sheets. The apprehension for having anything to do

with the legal implications of a formal contract is another reason for them
to shun organized plans. This is why most local retailers admitted that
they really have not practiced any advanced installment plans. Their
credit sales could extend anywhere from one month to six months without
as much as an invoice to support the transaction. One has to be
“flexible”, they would insist. How much carrying charge does the retailer
in these cases then add to his normal cash price? This again is usually
without any standard basis. Between 10% to 20% mark-up for credit
terms of up to six months is not uncommon.

Another side to the sensitivity of the Thai consumer is in the mild affront
which he takes if he is queried to need some credit. Sometime ago, we
launched a direct-mail campaign to a selected set of professionals
offering them financing service. Much to our chagrin, some took offense
and quickly disclaimed any need for financing.

In spite of all these, the impact of installment selling in Thailand could

not be abated. The demand for durable consumer goods was stimulated
while the ability on the part of the consumers to acquire said goods has
been greatly facilitated – thanks to the increased availability of consumer
credit.

The commercial banks have heretofore played a major role in the

financial structure of Thailand; yet consumer credit assistance has been
left with much to be desired. This situation has lent itself to the
widespread use of the so-called unorganized money market in Thailand.
In fact, it has been estimated that of the financial transactions carried out
during 1966 and 1967, 75% to 80% took place in the unorganized sector
of the Thai financial system.

To some extent, the way the unorganized financial market has thrived
could partly be traced to the innate preferences of the Thai consumers.
The flexibility and the informality of it all – not to mention its virtual
secrecy, therefore avoiding any “loss of face” – were some reasons for
this preference. The matters of cost, or of interest, become secondary.

Apart from the commercial banks, the pawnshops in Thailand have been
credited with having contributed as well to the country’s economic
development. It is they who have coped mostly with the specific
demands of the average consumer. It may be said that pawnshop

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transactions is at least one notch better than those availed from the private
money leaders.

The pawnshops, to be sure, are adequately regulated by the government.

The private money lenders, however, which consist much of the
unorganized sector of the Thai financial system, are outside any official
supervision. It is generally known that such financial dealings were
carried at an excessive cost to the consumer and with little, if any,
protection to him. Much of it has depended on the liberal use of post-
dated cheques. It used to be that to issue a bad cheque was a criminal
offence – until August this year – when the law was revised. The
proponents of the law argued that to obtain credit information was next to
impossible and only a grave penalty would secure the creditor. On the
other hand, those who supported its revision argued that reckless granting
of consumer credit resulted from this very implication – and that it did
not help in the proper development of credit structure in the country.

When Commercial Credit Corporation (Thailand) Ltd., otherwise known

as CCC, was formed in 1964, it marked the birth in Thailand of a true
consumer finance company – with the prime objective of serving the
consumers’ needs. In a way, it could also be said that it started the
finance company era. For just within a few years from then, finance
companies have literally mushroomed.

Finance companies have flourished since. Ostensibly they have offered

services which the commercial banks have considered outside their
regulated sphere such as financing hire–purchase sales of durable
consumer goods. By the same token, they have carried on certain
banking operations such as accepting funds from the public. Since public
welfare and safety – or as we would like to refer to as consumer
protection – were now at issue, the government finally passed the Finance
Company Law. Henceforth finance companies would be regulated as
from September 21, 1972.

One immediate good effect of these regulations is that it will enhance the
consumer’s confidence in finance companies. He would now perhaps be
more acceptable to such basic credit practices as filling up credit
application forms, signing contractual agreements, receiving payment
notices and, hopefully, be more conscious of his credit rating. Slowly but

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surely, a gradual shift to utilization of consumer finance companies is

deemed inevitable.

As for the retailer, he is quick to admit that the continuing impact of

consumer credit has shown favorably in his sales book. A doubling of
volume between 1960 and 1970 were reported by the retailers we
sampled. Much was attributed in the introduction of installment credit.
Consumer credit has thus served as a potent marketing tool for the
creation and building up of demand and penetrating into the markets.

Meanwhile the pressures of competition have led to granting longer credit

terms, and lower down payments. In the automobile hire – purchase
market, 15% down payment, where it used to be 35%, is not uncommon.
Thirty-six months term has become standard while the precarious 48-
months term is believed forthcoming. In the appliance business, an
advanced payment of the first monthly installment serves as down
payment.

While selling terms have become more liberal, yet the consumers’ lack of
exposure to standardized credit procedures have prevailed. The gap
widens.

Much can be done. In the direction, effects towards the upgrading of the
credit profession have been started. We suggested last year through the
Thailand Management Association that the formation of a professional
association to be called the Association of the Credit Managers in
Thailand would be one way to achieve this goal. It is gratifying to note
that the TMA has already put this into action. Within its framework, it is
hoped that a fluid interchange of credit information can be practiced in a
prudent and discreet manner.

We believe that with passing of the Finance Company Regulations,

consumers’ confidence in finance companies will increase; as much as it
will lead to the development of standardized financing procedures.

The needs of the consumers are very many, while their financial
resources are few and limited. Those of us who are directly involved in
the granting of consumer credit are trying to bridge that gap between
needs and means. To accelerate this process, we in the business must

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play a significant role in settling the standards so that he – the consumer –

is not only served but protected as well.

TYPES OF CONSUMER FINANCE (LOAN):

Consumer loans can be divided into different categories. Some
commonly known types are:

• Credit Cards:

One of the most widely used forms of consumer loan; Credit cards
have got such a huge user base because of the convenience factor.
People use it for shopping at large retail stores, dining out in
restaurants or at petrol pumps. Best thing about these loans is that
consumers can avoid the interest altogether by paying back shortly
after the transaction, otherwise a small percentage is added into the
basic amount on monthly basis as interest.

• House Finance or Auto Loans:

Another very important type of loan, house finance or mortgage

has helped many to be in possession of their own house. Auto
finance is a loan that succeeds in the time of economic growth.
However, both of these loans are subject to manipulation by
dishonest parties.

• Installment vs. Non Installment Loans:

Installment loans are relatively smaller loans which the borrower is

required to return in monthly installments, whereas non installment
loans are needed to be paid off in a lump sum after a fixed period
of time. Most of the time consumer loans fall in “installment based
loans” category

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SPECIAL TYPES OF CONSUMER LOANS:

There are a number of special types of consumer loans, loans that are
different from traditional consumer loans. These include home equity
loans, student loans, and automobile loans. These loans are discussed
below.

Home Equity Loans:

Home equity loans are also known as second mortgages. In a

second mortgage, you use the equity in your house (i.e., the difference
between what you paid for the house and what you could sell the house
for today) to secure your loan.

The benefits of a home equity loan are that you can usually borrow up to
80 percent of the equity in your home, and the interest payments may be
tax deductible. With this type of loan, you can also get a lower interest
rate because the house is secure—it can’t be moved.

One disadvantage of this type of loan is that it limits your future financial
flexibility because you can have only one outstanding home equity loan
at a time. Moreover, a home equity loan puts your home at risk; if you
default on a home equity loan, you can lose not just your credit score but
your home as well.

Home Equity Lines of Credit (HELOC):

Home equity lines of credit are basically second mortgages that use the
equity in your home to secure your loan. These are generally adjustable
rate notes that have an interest-only payment, at least in the first few

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years of the note. Generally, interest rates are variable and payments
cover only interest in the first few years. These have lower rates of
interest than other consumer loans.

The benefit of these loans is that the interest may be tax deductible,
reducing the cost of borrowing. The problem is that these loans will often
keep people from making the hard financial choices to curb their
spending. Why worry about spending when you can get a home equity
loan or HELOC to pay it off? These loans sacrifice future financial
flexibility and put your home at risk if you default.

Student Loans:
Student loans have low, federally subsidized interest rates; these loans are
often used to pay for higher education. Examples of student loans that are
available to parents and students include federal-direct loans, plus-direct
loans, Stafford loans, and Stafford-plus loans.
One benefit of student loans is that some have specific advantages, such
as subsidized interest payments and lower interest rates. Also, you can
defer payment of federal-direct loans and Stafford loans until six months
after you graduate or discontinue full-time enrollment. The disadvantages
of these loans are that there is a limit to how much you can borrow, and,
like all debts, you must pay these loans back.

Automobile Loans:

An automobile loan is a consumer loan that is secured by the automobile

that the loan is paying for. This type of loan usually has a term of two to
six years.

The advantage of an automobile loan is that it usually charges a lower

interest rate than an unsecured loan. The disadvantage is you must make
interest payments, and since vehicles depreciate quickly, you are often
left with a vehicle that is worth less than what you owe on the loan you
got to purchase the vehicle.

Payday Loan:
Payday loans are short-term loans of one or two weeks; these loans are
secured with a postdated check. The postdated check is held by the
payday lender and cashed on the day specified. These loans charge very

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high interest rates—some payday loans charge more than 500 percent on
an annual percentage rate basis (APR). I recommend that you avoid using
these loans completely.

REGULATORY FRAMEWORK FOR

CONSUMER FINANCING
SBP has issued separate Prudential Regulations for Consumer Financing,
and continues to issue directives in response to the changing market
dynamics, to ensure the prudent risk management of banks’ consumer
finance portfolio.

Some of the safeguards laid out in the regulations are:

1. Prior to offering consumer finance as a product, banks/DFIs are

required to establish appropriate risk management systems, in
addition to strong internal audit and control functions. They have to
ensure that the applications are adequately equipped and trained.

2. Banks/DFIs are required to ensure the implementation of effective

collections procedures and mechanisms to efficiently obtain
repayment of monthly loan installments, while also dealing
appropriately with delinquent customers.

3. Banks are required to obtain the e‐CIB Credit information report

prior to approval of a loan to ensure that the customer has a clean
credit history and is not over‐leveraged.

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4. Banks are advised to institute necessary checks to ensure that clean

loans are not used to participate in Initial Public Offerings (IPOs).

5. Specified limits on the exposure against total consumer financing

as well as percentage of classified consumer financing, both in
terms of capital, are laid out in the Prudential Regulations.

6. Banks are required to ensure that total financing facilities are

commensurate with the borrower’s income.
Source: Banking Policy and Regulations Department (BPRD), State Bank of

Pakistan

7. Banks are required to maintain a general reserve at least equivalent

to 1.5 percent of the consumer portfolio which is fully secured, and
5 percent of the unsecured portfolio, to protect themselves from the
pro‐cyclical nature of this business.

8. Banks follow stringent provisioning requirements against classified

loans, which protect them from potential erosion in asset quality.

STYLIZED FACTS
Consumer Finance refers to lending to individuals by formal financial
institutions, for meeting their personal needs. Consumer finance products
cater to the salaried and self-employed segment: essentially those people
who can demonstrate an ability to service the loan facility in line with
their documented cash flows. Existing players in this area include
commercial banks, DFIs, leasing companies and modarabas. The analysis
in this article is however based on the consumer finance exposure of the
banking sector

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CONSUMER FINANCE–MYTHS AND FACTS

Access to, and growth in, consumer finance carries both social and
economic significance for the society. In the absence of such products
from the formal banking sector, people used to borrow from money‐
lenders in the informal sector at exorbitantly high interest
Rates. Banks have now facilitated them in acquiring the necessities of life
by providing credit against their future incomes and cash flows, at rates
far lower than those demanded by players in the informal sector. Since
the consumer finance function in itself is quite labor intensive, demand
for this product has led the banking sector to employ a significant
segment of the active workforce both on full‐time and part‐time basis.
Banks themselves have also benefited from the diversification of their
credit portfolio, as well as capital savings under the Basel II regime, and
consumer finance has brought higher returns and stability in earnings.

However, this phenomenal growth in consumer finance has also raised a

debate regarding its downside risks and implications. It is generally
perceived that this particular asset product has:

(i( it has given rise to consumerism in Pakistan, which has

contributed to the low level of national savings

(ii) Fueled inflation

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(iii) Led to the rise in speculative activities in asset markets. An

analysis of actual facts and figures, however, dispels these
notions as follow:

• Consumer Finance has certainly met the individual consumer’s

needs for personal

• expenditures, but in doing so, it has also generated demand for

consumer durables and other goods and services which have in turn
translated into a chain of economic activities. For the consumer,
monthly payments for servicing the loan are a form of forced
savings. Rather than promoting consumerism, this product has
contributed in enhancing the standard of living of the middle class,
which is the back bone of any economy.

• An analysis of inflation dynamics does not support the claim that

consumer finance is the reason for the build‐up of inflationary
pressures in the economy. Core inflation, which is more sensitive
to the level of credit and associated increase in demand

• Personal loan is the only product which is not tied to a specific

purpose, and thus could potentially be utilized for speculative
transactions in asset markets. However, its potential for spurring
speculative activities is limited because of the fact that:

(a) Given its unsecured nature, this loan is priced competitively and is not
an attractive funding
Option for speculators;

(b) Its main target market is mainly the fixed income / salaried
Segment of individual customers who are generally risk averse and are
not known to
Indulge in speculative activities;

(c) Such loans are relatively smaller in amount (average loan size Rs.
200, 00) than other categories of consumer finance, whereas speculative
Transactions in asset markets generally require larger sums of money;

(d) the level and annual growth of this particular portfolio is quite small
in comparison with other possible contributory factors such as the

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liquidity generated by increased foreign remittances and reverse capital

flight, as well as the easy interest rate regime that prevailed up until a few
Years back, where disbursed loans for even small corporate entities and
businesses could potentially have been miss‐utilized.

Essentially, consumer finance, if utilized judiciously and within prudent

limits, is a handy tool for propelling economic growth, ensuring smooth
consumption patterns and improving credit risk diversification. That said,
indiscriminate growth in this asset class in an unstable macroeconomic
environment, without a corresponding strengthening of risk management
systems, could potentially create systemic vulnerabilities

CONSUMER FINANCE IN PAKISTAN

Commercial banks in the Pakistan financial sector have traditionally

focused on meeting the financing needs of the corporate sector in their
normal course of business, and until the recent past, it had remained their
bread and butter at the neglect of the needs of the household sector.

Whereas individuals did avail revolving financing facilities from banks,

this activity remained confined to fully secured loans against tangible
liquid securities (usually government securities, bank deposits etc.) in line
with SBP’s margin requirements on such collateral. Consumer financing
in a broader sense remained a relatively less explored avenue (due to its
high risk nature) for revenue generation for banks until a few years ago,
when surplus liquidity and slow credit growth from the corporate sector
forced the banks to focus their attention on previously ignored areas for
the growth of their asset base.

Consumer finance has now gained accelerated momentum. SBP has also
recognized the need to promote economic growth through the viable
avenue of consumer loans as part of its demand inducement policies and
has made requisite provisions in its regulatory framework to guide
financial institutions accordingly. As a result of these measures consumer
financing consumption stands at around 7.6 percent of the total credit off-
take, as at end-June 04. Initially, Credit Cards were introduced by
Citibank in 1994, and since then a variety of products have inundated the

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market in the form of auto financing, mortgage loans, personal loans

(both secured and unsecured). Offshoots and variants of such products
include co-branding services being offered by banks in collaboration with
leading Oil Marketing Companies, manufacturers of consumer durables,
etc.

POTENTIAL RISKS & FUTURE

OUTLOOK
1. General provisions against consumer financing

Banks are required to maintain a general reserve at least equivalent

to 3 percent of their consumer finance portfolio. This provision is
in place to protect banks from the risks associated with the
consumer finance business.

2. Appropriate Risk Management Policies

Consumer financing has given a boost to the aspect of

consumerism in the country. Whereas well-managed consumerism
is a healthy aspect of the economy, banks need to be careful about
devising and maintaining prudent risk management policies with
respect to consumer loans. The adverse affect of increased
consumerism is an increased risk of default if economic activity
slides to the extent that it results in unemployment and affects
consumer’s ability to repay. In this respect banks need to chalk out
prudent lending and credit assessment policies in line with SBP’s
.Prudential Regulations

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3. Training of staff involved in Consumer Financing

Due to a lack of previous experience and expertise in consumer

credit analysis, banks also need to have adequate training facilities
in place to impart ongoing training to the staff directly involved
with various aspects of consumer financing

Role of Consumer Credit information bureau .4

Another factor which has hindered the development of
consumer finance in Pakistan is the absence of a centralized
Credit Information Bureau which maintains the credit history
of all individuals availing such loans from the banking sector.
The risk here is that individuals can over-leverage themselves
by taking several loans from various banks where each bank
calculates the debt-burden profile based on its own loans,
hence there is a higher risk of willful as well as circumstantial
.default

SBP has made it mandatory for all banks engaged in consumer

financing to become a member of at least one Consumer
Credit Information Bureau. Apart from the credit data
maintained by the Credit Information Bureau at SBP itself (for
all facilities of Rs 500,000 and above), a few efforts have been
made in the private sector to establish such databases. A
company by the name of ‘Data Check’ started operations a
few years ago for which banks have to take membership in
order to obtain default data on individuals. This then becomes
one of the mandatory checks for all applications, before they
are put up for approval. If a default status is detected, the
application is not processed any further. Moreover, banks are
also encouraged to share data amongst themselves.

Whereas the significance of the above-mentioned databases

cannot be ignored in credit analysis, in order to fully protect
banks from accommodating habitual defaulters, a centralized
database for all loans sizes, with details of both the default and
regular status, needs to be developed given the increased
reliance on consumer financing by both lenders and
borrowers.

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5. Portfolio Management through the generation of periodic

reports

This is another important area which has been emphasized in the

Prudential Regulations as well, without which the survival of a
consumer finance structure is questionable. It is important to
monitor the booked portfolio on the basis of delinquency reports
which can be further categorized into demographic and other
details in order to establish cause and affect relationships between
the defaulters and their profiles. These reports also serve the
purpose of establishing necessary triggers for the management to
take pre-emptive action against potential loan defaults.

6. Collections (and Recovery) Systems

Support of a well-functioning Collections unit is an essential

infrastructural requirement for any Consumer Finance unit.
Strong collection expertise in terms of trained resources and
computer systems are very important back-office components of a
Consumer Finance business. A collection unit is responsible for
monitoring ongoing periodic payments by individuals in addition
to tracking and classifying defaults and initiating repossession and
recovery activities.

7. Credit cycle impact

Given that Consumer Financing is a relatively new area, and most

of the banks are relatively new entrants in this business, the full
impact of the Credit cycle on the outstanding portfolio will only
becoming evident with the passage of time.

8. Asset Liability matching in case of Housing Finance

Given the longer tenors associated with housing finance, it is

important for the lending institutions to match the tenors of their
assets and liabilities in order to avoid any problems in case of
default on these loans.

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Given that the total consumer financing portfolio currently forms around
7.6 percent of the total loans and advances of the banking sector,
concerns voiced by financial analysts regarding the possibility of
excessive consumer financing leading to the downfall of the banking
system are not entirely justified.
However given the pace of growth of Consumer Financing and its
increasing popularity, financial institutions need to carefully plan the
expansion of their respective portfolios by minimizing the impact of the
above-mentioned risks with adequate systems and resource support, in
order to be able to sustain and positively avail the benefits of this growth.

PERSPECTIVES ON CONSUMER FINANCE

IN PAKISTAN

Rapid growth in the consumer finance portfolio of the banking sector in

recent years has generated an ensuing debate, mostly critical of its alleged
role in inducing consumption‐led growth in the economy. The general
perception is that consumer finance has created problems for the less
financially literate customers. This chapter aims to explore some of these
perceptions and present data and evidence in perspective, while taking
into account the high sensitivity of these loans to increasing interest rate
dynamics. Notably, the household sector in Pakistan is underleveraged by
global standards, and emergent risks are well‐managed by the banking
sector.
Consumer finance is an established financial product across the globe,
particularly in mature economies, where it constitutes a significant
portion of banks’ lending portfolios. In the Pakistani banking sector,
however, the evolution of the consumer financing portfolio is a more
recent phenomenon, as banks have traditionally focused on lending to the
corporate sector and public sector entities. While two prominent foreign
banks took the lead in introducing credit cards in the banking sector in the
mid‐‘90s, their outreach was limited to the top‐tier of salaried customers
and businessmen.

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Emulating the experience of various foreign banks who had a head‐start

in this area, domestic private banks have exhibited remarkable adeptness
in adopting new procedures for credit risk assessment, setting up the
requisite policy and collections units, and upgrading the scope of their IT
based systems. In doing so, they successfully introduced several
innovative products for the individual consumer segment. On the demand
side, the consumer, who previously did not have access to bank credit
without sufficient liquid collateral, responded well to these initiatives.
A combination of factors are responsible for the widespread popularity of
consumer finance in recent years: the financial liberalization process over
the last decade or so, has led to the creation of a banking system which is
largely owned and operated by the private sector, and is free to allocate
resources in response to the demands of a market based mechanism.
Secondly, the influx of liquidity in the banking sector since FY02
motivated banks to diversify and expand their earnings base by venturing
into previously untapped areas, and third, the easy monetary policy stance

Of the central bank from FY02 to FY05 provided eligible customers with
financing options at historically low rates to meet their consumption
demand. In this backdrop, consumer finance has emerged as one of the
most promising asset products for banks.

Providing access to purchasing power to the middle‐class consumer has

been the most significant achievement of this product class. Not only
have people been able to raise their standard of living by purchasing
various consumption goods which were previously treated as luxuries in
reach of only a few, demand for these goods has also led the
manufacturing sector to expand its capacity, such that both backward and
forward linkages have contributed to the expansion in economic
activities. Banks’ auto loans product and loans for consumer durables, for
instance, have been instrumental in this aspect. Though still small in
proportion, the rising demand for mortgage finance reflects the individual
consumer’s need and financial capacity, to acquire private ownership of
housing units. Hence in promoting their consumer financing products,
banks have played their due role in promoting economic development in
the country.

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Despite the many positive developments associated with consumer

finance, its role in promoting consumerism in Pakistan has generated a
debate, with mostly negative connotations.

ISSUES AND CHALLENGES FROM

CONSUMER PERSPECTIVE

1. Variable Interest Rate

According to the annual report of the banking ombudsman, in

Pakistan almost all consumer loans are on the basis of variable
mark up rates.

2. Increasing Inflationary impact

Acquisition of easy bank credit by the household consumers has

spurred the demand for many essential and luxury items.

3. Deteriorating quality of service

As the consumer financing portfolio is increasing quality of related

bank services is becoming a serious issue.

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4. Lack of consumer education

The technical documents prepared by the banks affect the financial

rights of uneducated customers.

5. Poor information disclosure practice

There is no law in Pakistan, which entitles the consumers to access

information from the private banks as a legal right.

6. Intimidating recovery practices:

Banks recovery team reaches the borrower house to pressurize

them for payment of dues without any legal authority

7. Weaknesses in regulatory framework:

The banks formulates their own policies and procedures which

suits their interests best

Source: Consumer financing in Pakistan: Issues, Challenges, and way

forward published by CRCP

8. Unsolicited Financing

Aggressive marketing campaigns launched by the banks are

targeting the costumers and encouraging them to purchase a loan or
credit.

SOCIAL & ECONOMIC IMPACTS OF

CONSUMER FINANCING

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 CONSUMER FINANCE

• Increased consumption > increased output / Inflationary Pressure

(Demand-Pull Inflation)

• Increased dependence on foreign loans

• Lack of infrastructure to absorb and manage the increased number

of cars on the road due to easy auto financing

• Spending beyond their means behavior results in burdening the

economy and society

• Negative Saving-Investment gap as a result of spend now, save

later behavior in developing nations

• It’s beneficial for those who have the prerequisite responsibility,

maturity and financial literacy to manage their finances.

RECOMMENDATIONS
• High Interest

Rate spread should be reduced to increase competition in the

banking sector

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 CONSUMER FINANCE

• SBP Regulations regarding consumer financing

it should be enforced strictly to decrease the high profit margins of
the banks at the expense of the depositors

• Unsolicited financing

Should be discouraged to avoid unnecessary private consumption

at the cost of consumer savings

• SBP should bind banks to explain ALL applicable charges on

consumer loans before signing the contracts

• Consumer Education:

1. comparative information should be made available

2. Latest copy of terms, conditions, & schedule of charges should be

provided to applicants in the language of their understanding

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