Banks under fire

The banking industry is making big headlines these days, due to its growing interest in sovereign instruments. Double-digit returns on short-term risk-free investments appear too enticing for banks to pass up.
Aided by governments growing financing needs and high discount rate, the total Investment to Deposit Ratio (IDR) for all commercial banks expanded to 41 percent at the end of 2010 compared to an average of 30 percent exposure maintained in investments during the past five years.
The growth in investments came at the expense of private sector borrowing, since banking industry (all commercial banks) registered an average of 4 percent annual growth in advances during the past two years in spite of an average 16 percent annual jump in the deposit base during the same period.
Since a few giant banks hold roughly half of the total banking assets, the shift in the industry-wide trend is largely driven by the behaviour of the group of five large commercial banks, which remained aggressive on the investment front in CY10.
This can be gauged by the increase of around 6 percentage points in the groups IDR to 38 percent at the end of CY10 as they kept advances level unchanged in the face of 13 percent growth in deposit base. Although, IDR for both mid-sized and small banks had dropped in CY10, they managed to increase their exposure in investments during the 1QCY11.
The banks weakening role as a financial intermediary- that transforms bank deposits into bank loans and plays an important role in stimulating economic growth- has been forcing regulators and analysts to closely review the role of commercial banks.
Besides, the latest report by SBP revealed that the top five banks contributed towards 95 percent of the total pre-tax profits of the industry. While out of the remaining 35 banks, 17 booked net losses and 18 banks contributed only 5 percent in the total earnings.
Given this scenario, regulators need to devise policies to beef up financial health of mid-sized and small banks to control monopoly and cartel-like practices in the industry.
Undoubtedly, the growth in profitability helped large banks to receive huge applause from equity holders. But, higher earning spread also gave food for thought to depositors using savings accounts, whose contributions form the major share of the groups deposit base.
The report also highlighted the growth of toxic assets during CY10. In fact large banks, mid-sized banks and small banks all saw growth in NPLs amounting to 17 percent, 38 percent and 19 percent, respectively. But taking into account the present scenario, when banks are tilting their asset portfolios towards investments; the growth in toxic assets should decline down the road.