Private sector credit continues to be main driving force behind monetary expansion

Private sector credit expansion was by far the largest factor behind monetary expansion between July 1, 2004 and January 15, 2005 - the period for which data for both the State Bank and the scheduled banks were available. Money supply was provisionally estimated to have increased by Rs 225.1 billion (or 9.05 percent) during this period. Private sector credit expansion for the same period was Rs 284.9 billion - well over the full year Credit Plan target of Rs 200 billion.
Excessive expansion in the private sector credit during the year so far occurred despite the increase in nominal interest rates during the period, and was stated to have been driven by continuing growth sentiment and the attractiveness of consumer loans at rates ruling below average lending rates.
The expansionary impact originating from the government sector was though limited to Rs 41.8 billion, but was very close to the original full year target of Rs 47 billion envisaged in the Credit Plan for 2004-05.During the year, so far, money supply was estimated to have gone up by Rs 225.1 billion or 9.05 percent compared with Rs 190.7 billion or 9.17 percent in the corresponding period last year.
Component-wise, the currency in circulation and deposit money went up by Rs 106.7 billion and Rs 118.4 billion between July 1, 2004 and January 15, 2005 compared with Rs 90.6 billion and Rs 100.1billion respectively in the corresponding period of 2002-03. Analysis of two principal causative factors of monetary expansion revealed that entire expansion occurred on account of Domestic Credit Expansion (+ Rs 230.1 billion) of the banking system as change in Net Foreign Assets of the Banking System actually exerted a small contractionary impact (- Rs 5 billion).
The accounts of the State Bank for the week ended January 15, 2005 showed that total assets/liabilities of the Issue Department of the Bank went up by about Rs 11 billion, to Rs 716.6 billion. On the liabilities side, the notes in circulation increased by Rs 10.9 billion to Rs 716.5 billion. On the assets side, Government of Pakistan securities increased by Rs 13.5 billion to Rs 229.3 billion, while approved foreign exchange came down by Rs 2.7 billion to Rs 422.8 billion.
On the same date, total assets/liabilities of the Banking Department of the State Bank decreased by Rs 1.1 billion to Rs 606.4 billion. On the assets side, major items recording increases were investment in government securities (+ Rs 2.1 billion to Rs 115.7 billion), government debtor balances (+ Rs 1.4 billion to Rs 5.1 billion), and loans and advances to scheduled banks for the export sector (+ Rs 0.9 billion to Rs 104.9 billion). Items recording major declines on the assets side included balances held outside Pakistan in approved foreign exchange (- Rs 0.7 billion to Rs 139.1 billion), loans and advances to NBFIs for the housing sector (- Rs 1.4 billion to Rs 11.2 billion) and other assets (- Rs 3.6 billion to Rs119.1 billion). On the liabilities side, major items recording increases included increases in deposits of banks (+ Rs 6 billion to Rs 165.5 billion) and other liabilities (+ Rs 2.1 billion to Rs 54.2 billion). Items recording major declines included deposits of the federal government (- 4.4 billion to Rs 1.8 billion), provincial governments (- 3.4 billion to Rs 32 billion), and other deposits (- Rs 1.2 billion to Rs 289.2 billion).
Total assets/liabilities of scheduled banks during the same period went up by Rs 3.1 billion to Rs 3,198.7 billion. On the assets side, items recording increases included advances other than those to banks (+ Rs 11 billion), balances with the State Bank (+ Rs 4.2 billion), the investment in central government securities (+ Rs 3.5 billion), and cash in tills (+ Rs 3.2 billion). On the other hand, the investment in treasury bills and other investments declined by Rs 15.7 billion and Rs 1.3 billion, respectively.
Total demand and time liabilities of scheduled banks rose by Rs 0.9 billion to Rs 2,261.7 billion. Time deposits (general) declined by Rs 14.2 billion to Rs 1,054.7 billion, while demand deposits (general) increased by Rs 15 billion to Rs 1,104 billion. Scheduled banks borrowings from the State Bank and other liabilities also increased by Rs 1 billion to Rs 175.5 billion and Rs 2.5 billion to Rs 568.2 billion, respectively.
Based on combined accounts of the banking system, the credit off-take by the private sector grew by Rs 284.9 billion between July 1, 2004 and January 15, 2005. At this level, it was substantially higher compared with both the full year's plan target of Rs 200 billion and the last year's comparable credit expansion of Rs 174 billion. Excepting credit in the amount of Rs 0.4 billion which was extended by specialised banks, the entire credit to the private sector was made available by the commercial banks. Nearly 6 percent (or Rs 16.5 billion) of total commercial banks credit to the private sector went to financing exports compared with Rs 19.8 billion (or about 9.9 percent of total private sector bank credit) extended for financing exports in the corresponding period of 2003-04.
As stated above, the increase in private sector credit occurred despite the increase in nominal interest rates during the period and was stated to have been driven by continuing the growth sentiment and the attractiveness of consumer loans at rates ruling below average lending rates. The yield on benchmark six-month Treasury Bills rose by 209 basis points to 4.32 percent during July-January FY05 compared with the rise of 96 basis points during August-June FY04. Yields on other government papers also rose by varying proportions.
According to available data on sectoral credit distribution, bulk of credit (well over 50 percent) went to the manufacturing sector especially the textile sector, which constituted about 40 percent of the total private sector credit off-take and 75 percent of credit availed by the manufacturing sector. Among other sectors, Consumer Financing accounted for about 16 percent of total off-take by the private sector with 57 percent of it going to acquisition of automobiles, 22 percent to housing finance, and 9 percent to purchases through credit cards.
Excessive monetary expansion on the back of the private sector credit is suggestive of adopting appropriate measures on the policy front, including adequate inching up of lending rates and strict adherence to originally targeted monetary expansion. This is essential to contain surging inflation, which already had impacted disastrously the lives of the common man especially the more deprived sections of the society.
During the week ended January 15, 2005, liquid foreign exchange reserves of the country declined by $ 18.1 million to $ 11,841.3 million as compared with a much larger decline of $ 103.5 million for the week ended January 8, 2005.
The draw-down of reserves since September 2004, when the reserves reached their maximum level of $ 12,338.1 million, is stated to be the result of financing abnormally high oil imports and increased imports of machinery especially to satisfy textile sector's up-gradation requirements. With the resultant draw-down of reserves, the rupee came under considerable pressure in the recent past.
According to the State Bank, the real effective exchange rate index showed a depreciation of 6.9 percent during July-December 2004 compared with the depreciation of 3.8 percent registered in the corresponding period last year. The depreciation against the US dollar for the same period worked out to 2.16 percent. Recently, in the wake eased supply of dollars, the rupee has, however, started showing signs of some strength.
Accordingly, the free market rate improved from Rs 59.85 and Rs 59.95 to a dollar for buying and selling, respectively on January 8, 2005 to Rs 59.80 and Rs 59.85. The inter-bank rate (selling) also appreciated a little from Rs 59.60 to Rs 59.46 per dollar.