Low returns may shake savers' trust -DAWN - Business; 22 August, 2004


22 August 2004	Sunday	05 Rajab 1425

Low returns may shake savers' trust
By Mohiuddin Aazim

KARACHI: Trust is central not only to relationships based on love. Trust is the byword for banking as well! Most people keep money with the banks of their choice because they have trust in them. If the returns on their deposits do fall, they do not rush to withdraw their savings. They keep waiting. They do this in the hope that things will change for the better.

More than 28.8 million depositors in Pakistan also show an excellent understanding in dealing with banks. They have been getting humiliatingly low returns on their deposits but are waiting for better times to come. Institutional depositors have, however, been shifting their accounts from one bank to another and from banking to non-bank areas of investment including stock market and real estates.

But small savers continue to suffer in silence. Banks have been offering a negative rate of return on deposits for quite some time. More disturbingly, they have structured their deposit rates in a manner that offers higher return on larger amounts of savings. This does have an economic sense but it contributes to the widening of the gap between the rich and the poor. Besides, it makes the job of money swindlers easier. Frustrated at getting highly negative returns from banks, people fall prey to so-called investment and saving schemes, regardless of whether these are fake or genuine, and whether they really offer higher returns.

Just to have an idea of how much profit banks are offering on bank deposits see Table I. The table indicates that banks have generally offered a negative or lower-than-inflation return to their depositors during the first half of this year. The returns were much lower than year-on-year increase in inflation from January to June 2004. The rates of return were even lower than the average inflation of 4.57 per cent in the entire fiscal year 2003-04.

Table 1
Name of	Return on	Return on	Return on
Banks	six months	one year	three year
1. ABN Amro	0.5	1.49	2.48
2. Allied Bank	1.25	1.5	2
3. Askari Bank	1.5	2	2.5
4. Bank Alfalah	2	2.25	6.5
5. Bank Al-Habib	2	2.25	2.75
6. Bolan Bank	3.25	3.5	4
7. Citibank	1.45	1.65	2.75
8. Deutsche Bank	1	0.9	NA
9. Faysal Bank	3.45	3.93	4.5
10. First Women Bank	1.4	1.55	2.7
11. Habib Bank	1.5	1.8	2.5
12. Habib Bank AG Zurich	2	2.5	3.5
13. Metropolitan Bank	2.25	3	4
14. Muslim Commercial Bank	1.75	2	2.5
15. National Bank	1.7	1.8	2.2
16. PICIC Commercial Bank	3.25	3.75	4.75
17. Soneri Bank	3	3.5	4
18. Standard Chartered Bank	0.75	1	2
19. Union Bank	3.5	4	4

Table II shows year-on-year consumer inflation or inflation measured by the Consumer Price Index in each of the first six months of this year. As the table shows, minimum inflation was 4.31 per cent in February and maximum 8.45 per cent in June. The rates of return on even one-year fixed term bank deposits offered between January and June this year did not come closer to these figures.

Table II
Month	CPI Inflation
	(per cent)
Jan-04	5.15
Feb-04	4.31
Mar-04	5.33
Apr-04	5.99
May-04	7.13
Jun-04	8.45

But bankers argue that it is simply not possible for them to offer inflation-matching returns to the depositors when they are lending below the inflation rate.

Now this is where the State Bank's monetary policy comes into picture. The central bank has been following a lax monetary policy since November 2002, which has resulted in the gradual lowering of lending rates by the banks, thus facilitating the economy to grow faster. But banks reduced their deposit rates too aggressively to cut lending rates. Many of them failed to reduce their overall cost of operations in a big way; very few shared a larger portion of their profits with depositors. For them, earning higher profits and distributing the same among the shareholders was more important than handing out higher returns to their depositors. This thinking keeps the gap between average lending and deposit rates at a level, which is higher than desired, though far better than in the previous years. See Table III for weighted average lending and deposit rates of banks in the first six months of this year.

Table III

Month	Avg. Lending	Avg. Deposit	Difference
	Rate	Rate	(In basis
	(per cent)	(per cent)	points)
Jan-04	5.04	1.34	370
Feb-04	5.3	1.32	398
Mar-04	4.69	1.3	339
Apr-04	5.07	1.21	386
May-04	5.42	1.21	421
Jun-04	5.05	1.21	384

Dawn interviewed Syed Ali Raza, head of state-run National Bank and Mr. Shaukat Tarin, chairman of Union Bank and head of Pakistan Banks Association to learn how they view the overall situation with particular reference to falling deposit rates. Here is what they said:

DAWN: Do banks realize that they are paying a real negative rate of return to their depositors? What makes it difficult for them to raise the rates of return on all deposits in general and on saving deposits in particular?

TARIN: Banks are fully cognizant of the current interest rate structure in the market. It is a phase in which depositors in general are getting a negative real return. From a peak of 13 per cent in mid-2001, the treasury bills rates came down to its lowest level of 1.27pc in August 2003. This also pushed down the lending rates drastically "and the banks had no option but to rationalize their deposit rates accordingly." During the same period, the government also substantially reduced rates on its own schemes (NSS schemes), thus reducing the interest rates burden on the federal budget."

RAZA: It must be realized that the return the banks offer to the depositor depends on the return received from the borrower. The easy monetary policy, coupled with excess liquidity generated by the external sector, had led to a sharp reduction in the cost of lending by banks. Also, during the past two years the banks have invested substantially in securities, T-bills and Pakistan Investment Bonds with low yields.

The decline in lending rates, accompanied by falling returns on banks' investment in treasury bills/PIBs, makes it difficult for banks to offer higher rates to their depositors.

However, there is a rising interest rate outlook, reflected in the upward shift in the yield on six-month T-bills which have started to go up gradually. "Once the existing stock of T-bills and PIBs held by the banks mature and are replaced by securities offering higher yields, banks may consider raising their rate of return to the depositors."

DAWN: Do banks have any particular scheme in hand for small savers i.e. those with savings up to half a million rupees?

TARIN: Commercial banks at this stage do not have any specific scheme to address the needs of small to medium level depositors. However, some banks may offer longer-tenor deposits at slightly higher rates than the typical short term ones.

This is a transition phase. What the market needs is a wide selection of mutual funds for the consumers/depositors to invest in, rather than keeping funds in low return bank deposits. The mutual funds market is slowly developing and in the medium term, educated depositors will have the option and will seriously look into investing in such funds. This is a natural progression that markets will move towards.

RAZA: The banks are offering products tailored to the needs of the market. The customers can choose from a variety of schemes that are being offered.

DAWN: How and from which sectors of the economy are banks mobilizing deposits at the present low rates? Don't the banks realize that deposit mobilization may become difficult in the years to come if they continue paying a real negative return to their depositors?

TARIN: Majority of the depositors are individuals and some corporate and financial institutions also keep deposits with us. The interest rate structure is a function of market conditions and available alternate areas of investments (mutual funds, equity, NSS etc.).

The commercial banking industry is quick to respond to emerging trends in the market and will always be able to retain required deposits at rates which will enable them to remain profitable. The adjustments in lending rates will take place automatically if in future, deposit rates show an upward trend.

RAZA: Banks are mobilizing deposits from all sectors of the economy. Internationally also, real interest rates have declined, and it is not specific to Pakistan only. "It is not only the banks which are offering low rates of return but the NSS rates too have been reduced dramatically. Globally we are passing through an unusual situation where almost in all countries, there is excess liquidity and negative real rates of return."

"Notwithstanding the lower deposit rates, the overall growth in deposits in the banking system has been over 15 per cent during the last one year." If, however, in Pakistan asset growth starts to be constrained by a non-commensurate growth in deposits "banks will start paying higher rates and will adjust their loan policy accordingly."

Jargon aside, what these bankers want to emphasize is thatbanks would not be able to give higher returns on deposits without increasing their lending rates. But they do admit that currently deposit rates of banks are clearly negative and that the depositors may in future start looking out for possibilities of high-yielding areas of investments including mutual funds.

Meanwhile, far below-inflation rates of return on bank deposits may continue to erode the net value of savings. Consider this to have a clearer idea of what it means:

A depositor kept Rs1 million with a bank in one-year fixed term deposit. That bank gave him 2 per cent return in January- June 2004. (Most banks offered 0.9-4.0 per cent return on one- year term deposits. So, the average return was about 2 per cent).

In this case the depositor earned a return of Rs20000 at the end of the day. Suppose, he got the return on his deposit exempted from mandatory deduction of Zakat. That left his earning of Rs20000 intact. But he had to pay withholding tax at the rate of 10 per cent. This reduced his net earning to Rs18000.

Now inflation. Exact incidence of inflation in January-June 2004 over the same period of 2003 is not known but let us assume that it averaged around 4.57 per cent (the actual inflation number for the last fiscal year). At this rate, inflation reduced the net value of his Rs1 million saving to Rs954,300. But as he earned a net profit of Rs18,000, the figure went up to Rs972,300.

So, the real value of Rs1 million shrinks to Rs97, 2300 when one invests the amount in a one-year term deposit. In other words, he has to bear a net loss of Rs27, 700. How long will the monetary managers and the bankers of this country let this situation continue? Sooner or later, people will start searching for more profitable avenues of investment. A large number of them may be retained within the documented financial market if there is a fast-paced growth in the mutual funds industry, or the equity market boom continues or the government comes up with investment schemes offering better rates of return. But many would be compelled to compare the real negative rates of return on bank and non-bank investment in Pakistan and in other countries. They would not hesitate in parking funds abroad if they find that the real negative return in other countries is less than in Pakistan. And, those who may not do this for one reason or the other may start investing money in undocumented sectors within the country.