'Low interest rate to inflict negative impact on banks' profitability'

LAHORE: The low interest rate would have a negative impact on the profitability of the banking sector as banks enjoy a better spread against higher interest rates, said financial market experts.

It may be noted that the base rate has come down to seven percent, a drop of 6.25% in the last three and a half months. On June 30, banks had an annual increase of 12% in their deposits, totalling over Rs16 trillion, which, in the technical sense is their liability. Lend funds safely against sound collateral would be a challenge for banks in such a situation, as with monetary policy committee's recent decision, effective July 01, 2020, banks' loan portfolio of Rs3.3 trillion would be re-priced at lower rates.

Already, the principal amount of loans worth Rs 566 billion have been rolled over for one year and this facility is extended for another three months with SBP's new policy. The performance of these loans will be critically reviewed in the coming months in terms of their credit rating against an uncertain situation.

Talking to Business Recorder, financial market expert Asif Baig Mirza said the banks were now required to upscale their loan portfolio towards the housing sector to five percent instead of current 0.2 percent, and that too at a concessional rate. Despite the fact that this is a good step towards the revival of the economy and the industry, the banks' liquidity will require extra monitoring. These will be long-term loans against short-term deposit base. Further, there is also a need to devised foreclosure law to be effectively applied in case of default. This is very crucial in terms of risk management.

In order to achieve the much-desired goal of enhanced financial inclusion, the digitized banking should be extended at an exponential pace, he added.

Under the IMF's conditions, he said, the government was not borrowing from the State Bank of Pakistan (SBP). "It is relying more on commercial banks, which gives rise to concentration risk and needed to be checked."

It may be noted that the macroeconomic slowdown led to a rise in nonperforming loans in the banking sector by 250 basis points world over. Private sector banks had the highest exposure to credit risk during the outbreak. Nonperforming loans arose from loans issued to small and medium scale enterprises (SMEs), airlines, hotels, tour operators, restaurants, retail, construction, and real estate businesses. During the pandemic, there was a general decline in the volume of bank transactions, a decline in card payments, and a fall in the use of ATM cash machines worldwide. This led to fewer fees collected by banks which negatively affected banks' profit.

However, Asif asserted that the default risk has gone down with the lowering of interest rates. The credit off-take to the private sector should be orchestrated tactfully to create vibrancy in the economy, more job creation, and more exports, etc.

During the coronavirus pandemic, many of the fast policy responses were insufficient even though the policies were formulated with good intentions. Monetary policy, for instance, helped to calm financial markets but it did not stop the recession.

Sh Munir Ahmed, another financial market expert, said the expansionary monetary policies adopted in many countries during the outbreak encouraged economic activities but economic agents were unable to engage in economic activities because governments had imposed social distancing restrictions amid fear of contacting the coronavirus during the outbreak.

Fiscal policy spending appears to be more effective in mitigating the effect of the Covid-19 pandemic than monetary policy decisions, particularly because the adoption of accommodative monetary policies by many central banks can exacerbate inflationary pressures that could worsen macroeconomic stability in the short-term, he added.

Copyright Business Recorder, 2020