Productivity, export and debt: SBP asks govt to exercise greater prudence

KARACHI: The State Bank of Pakistan (SBP) Friday said the government needs to take appropriate policy measures to improve productivity, export competitiveness and debt sustainability to revive economic activities.

According to the Financial Stability Review (FSR) for CY22, issued by SBP, in the latest wave of Systemic Risk Survey (SRS), market participants have identified political uncertainty as one of the leading risks facing the financial system along with foreign exchange rate risk, inflation, and energy crisis.

The assessment of macroeconomic dynamics reveals a number of challenges for the banking sector and the repayment capacity of borrowers may come under stress, leading to asset quality concerns for the banks, the FSR said.

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Particularly, the business model of MFBs needs a review to improve performance of this important sector. Also, banks’ earnings from advances and non-interest incomes are likely to moderate due to subdued economic activities and banks’ increased risk aversion towards private sector credit, the FSR predicted.

While the prevailing high return on government securities and strong government financing needs can augment banks’ earnings, increased public sector exposure has a number of implications including crowding out of private sector credit and re-pricing/ revaluation risks, among others.

Moreover, credit demand, especially from government, will require enhanced efforts for mobilization of deposits to meet the liquidity needs of the system.

In this regard, the SBP suggested that there is also a need for the government to diversify its sources of funding and tap alternate sources including enhancing tax revenues to achieve fiscal consolidation.

Going forward, According to FSR, financial stability dynamics would be contingent upon evolving conditions at international and domestic fronts. While the conflict is lingering between Russia and Ukraine, core inflation in many countries remains sticky though global headline inflation has declined.

On the domestic front, the current account deficit has narrowed considerably due to sizable import compression; however, the overall external account position continues to remain under stress. Furthermore, the record high inflation and prolonged delay in the completion of ninth review under IMF program are key challenges to the economic outlook, the report mentioned.

In addition, the pace of economic activities has decelerated; which is reflected in the lower estimated growth rate of 0.29 percent for FY23.

Dynamics of financial stability are subject to quite uncertain and complex factors; therefore, SBP regularly conducts scenario analysis on periodic basis to identify the likely path of banking sector’s soundness indicators over next two to three years in different assumed hypothetical scenarios.

The results of the latest macro stress tests suggest that in the face of continued hypothetical stress, the banking sector may experience increase in NPLs. However, the banking sector in general and the large systemically important banks in particular, are expected to show sufficient resilience to withstand assumed severe macroeconomic shocks.

The overall CAR of the sector is likely to remain above the minimum regulatory requirement under both business-as-usual scenario and a stressed macroeconomic scenario over the projected three-year horizon.

According to SBP, the banking sector has ample capital and liquidity cushions as well as risk management capabilities which have been built over decades under a prudent regulatory framework and tested against a variety of severe stresses in the past.

Moreover, repeated episodes of severe weather events in Pakistan and heavy losses over the last few years highlight the significance of risks posed by climate change for both the economy and financial sector.

Similarly, there is a global trend of rise in technology and cyber risks due to increased digitalization and growth in digital financial services.

While regulatory guidance and surveillance continue to focus on these emerging risks, financial institutions also need to improve operational resilience by proactively assessing and mitigating these emerging, as well as conventional, risks by appropriately strengthening risk management capacities and building necessary financial cushions, the report said.

Reassuringly, SBP’s supervisory framework proactively monitors and assesses both firm specific and system-wide risks to financial stability and takes corrective actions to address these risks.

During the year under review, SBP took a number of measures to improve its supervisory regime in key risk areas, especially in respect of climate risk, cyber security, contingency planning and crisis preparedness along with general supervisory capacity.

The SBP is cognizant of the prevailing risks and with the available toolkit and capabilities, it stands prepared to take necessary and timely measures to preserve financial stability and support economic growth by ensuring smooth supply of credit and financial services in the economy.

Copyright Business Recorder, 2023