Pakistan is grappling with a severe debt crisis, struggling under the weight of both domestic and international obligations. Despite this challenging economic environment, Pakistani banks are flourishing. Recent reports from the Financial Times indicate that Pakistani banks are among the most profitable in Asia, enjoying some of the highest returns in the region.
Booming Bank Profits Amid Economic Strain
In recent months, Pakistani banks have seen unprecedented profits. According to the Financial Times, seven out of the fifteen banks with the highest second-quarter total returns in the Asia-Pacific region are from Pakistan, including major players like Standard Chartered Pakistan and Bank Alfalah. The banking sector's after-tax profit almost doubled to Rs 642.2 billion ($2.3 billion) in 2023, driven largely by two years of sky-high interest rates.
Interest Rates and Inflation
Interest rates in Pakistan have hovered around 20% over the past two years, a measure aimed at curbing inflation, which peaked at 38% in June 2023. These high rates have significantly boosted the earnings of banks, which hold a substantial portion of government debt. Rehmat Hasnie, CEO of the National Bank of Pakistan, noted that banks capitalized on the opportunity for higher returns, describing it as basic economics where high-interest rates compensate for a depreciating currency.
The Role of Government Debt
Pakistan's total debt-to-GDP ratio exceeds 74%, with domestic debt—largely held by commercial banks—surging to over Rs 43 trillion as of March 2024. This figure represents nearly half of the GDP, up from Rs 11 trillion a decade ago. Government borrowings for budgetary support reached Rs 29 trillion by June 2023, almost doubling from Rs 15 trillion three years earlier. Banks’ sovereign exposure stands at more than 54% of their total assets, significantly higher than the average for emerging-market economies. Investments constitute about 56% of total assets in the banking sector, with a 40% increase in 2023 primarily from government securities.
Risk of Default and IMF Support
Pakistan faces a significant risk of default, a scenario that led to the restructuring of domestic debt. The country has sought and secured IMF bailouts nearly two dozen times since its first loan in 1958. In June 2023, Pakistan narrowly avoided default with a last-minute emergency bailout from the IMF. The country recently secured another three-year, $7 billion IMF loan deal, highlighting its ongoing economic struggles.
Taxation and Fiscal Measures
The government has attempted to claw back a portion of bank profits through higher taxation to manage fiscal deficits. Income tax expenses for banks were close to 50% of profit before tax last year. The banking sector paid Rs 618 billion in income taxes in 2023, almost double the amount from the previous year. Domestic credit to the private sector, however, was under 12% of GDP in 2023, down from 24% in 2008, raising concerns about the increasing reliance on banks for deficit financing and the resultant squeeze on borrowing space for the private sector.
Expert Opinions and Future Outlook
Experts indicate that the prevailing economic conditions in Pakistan seldom encourage businesses to take loans, and banks are wary of non-performing loans. Government debts are considered risk-free, offering better returns, which diminishes the incentive for banks to lend to the private sector. Mattias Martinsson, Chief Investment Officer of Stockholm-based Tundra Fonder, emphasized that high-interest rates in challenging times help compensate for a depreciating currency.
Bankers, however, claim that the profits from the past two years have strengthened their capital base, enabling them to absorb higher risks and potentially increase lending to small and medium-sized enterprises (SMEs). Rehmat Hasnie of the National Bank of Pakistan highlighted that higher profits have bolstered their risk absorption capacity, making them more inclined to support private sector lending.
Conclusion
Pakistan’s banking sector has turned the country’s economic crisis and substantial government debt into a profit bonanza, benefiting from high interest rates and investments in government securities. However, this has come at the expense of private sector lending, raising questions about the long-term implications for economic stability and growth. The ongoing risk of default and the necessity for continued IMF support underscore the fragile state of Pakistan’s economy. While banks have reaped substantial benefits, the broader economic challenges and structural issues suggest that significant hurdles remain in achieving sustainable economic development.