Is private-sector lending riskier now?

Updated July 29, 2019

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Bankers say people had to borrow to avoid defaults on their past loans taken at floating rates.
Bankers say people had to borrow to avoid defaults on their past loans taken at floating rates.

Banks’ lending to private-sector businesses declined 12 per cent amidst slow economic growth last fiscal year.

It may remain sluggish even during this fiscal year owing to projected slower GDP growth and concerns about loan defaults. In the first nine months of 2018-19, the loan infection ratio, or the percentage of bank loans categorised as non-performing, inched up to 8.2pc from 7.9pc for entire 2017-18, according to the State Bank of Pakistan (SBP).

Non-performing loans (NPLs) that stood at Rs636.7 billion at the end of 2017-18 went up to Rs690bn by March 2019. The economic slowdown also affected the pace of cash recoveries against NPLs. In the latest Jan-March period, banks made cash recoveries of Rs14.7bn only against Rs25.75bn in the preceding quarter.

Bankers say people had to borrow to avoid defaults on their past loans taken at floating rates

Going forward, banks will naturally keep a closer eye on NPLs while lending to private businesses, especially the corporate sector. In June 2018, the infection ratio of corporate loans was 7.9pc. But as large-scale manufacturing began facing problems, the ratio gradually shot up to 8.4pc in March 2019.

The government is replacing its inflation-stoking borrowing from the central bank with the borrowing from commercial banks. Naturally then their lending to private-sector businesses will remain low. Concerns about the possibility of an increase in bad loans amidst projected slower economic growth and higher interest rates will make private-sector lending all the more selective and restrained. The economy is expected to grow just 2.4pc while the benchmark Karachi interbank offer rate is now 14.3pc-plus for one year as opposed to 7.5pc a year before.

In the last fiscal year, banks’ lending to private-sector businesses fell about 12pc to Rs588bn from Rs658bn a year before. This happened as economic growth shrank to 3.3pc from 5.5pc and credit demand from the manufacturing sector remained depressed. In 2018-19, banks made Rs417bn worth of net loans to this sector against Rs420bn in 2017-18. Credit demand from the manufacturing sector remained sluggish as the output of large-scale manufacturing tanked. In the first 11 months of 2018-19, the LSM output declined 3.5pc whereas it had recorded 5.7pc growth in the same period a year ago.

In 2018-19, credit demand from export-oriented industries remained low also because those industries that saw exports growing got more rupees for every dollar of export earning, thanks to the rupee depreciation. Besides, costlier bank loans in the wake of monetary tightening also discouraged most industries from rolling over previous loans — a fact stated by the central bank in its third quarterly report for 2018-19.

In the last fiscal year, banks’ lending to private-sector businesses fell about 12pc to Rs588bn. This happened as economic growth shrank to 3.3pc from 5.5pc

Lending to commerce and trade sector (exporters, importers and local wholesalers) totalled Rs65bn in 2018-19, lower than Rs69bn in 2017-18. But within this group, lending to wholesalers went up to Rs53bn from Rs38.5bn a year ago.

This indicates the fall in sales and gross margins of wholesalers due to weak economic growth plus their need for greater bank borrowings to finance operations amidst a weaker rupee and higher inflation.

Lower economic growth and consequent financial hardships faced by people at large also resulted in a bigger increase in personal loans. Bank employees themselves had to borrow more (about Rs16bn) in 2018-19 against Rs12bn in 2017-18. Bank borrowing by individuals (non-bankers) totalled Rs17.5bn in 2018-19 against less than Rs12bn in 2017-18.

More bankers and ordinary people had to turn to bank borrowing owing to the consequent fallout of low economic growth on income levels. But bankers say people also had to borrow to avoid defaults on previously taken loans on floating rates as they continued to become pricier with ongoing monetary tightening.

In May 2019, the weighted average lending rate of banks on fresh lending (excluding zero-rated and interbank lending) shot up to 12.04pc from 7.62pc a year ago as a result of monetary tightening.

Apart from the prospects of a further slowdown in the economy, this massive increase in the average lending rate can also potentially depress credit demand across the board. But consumer credit, which is always the priciest, is sure to take the hit first.

Except in the case of personal loans that help people meet widening gaps in their current income and expenses, other segments of consumer borrowing will likely witness a slowdown in 2019-20.

Even in 2018-19, mortgage and car loans saw slower growth on an annual basis. Banks made net fresh loans of Rs10bn for house building in the last fiscal year against Rs22bn in 2017-18. Similarly, bank loans for the purchase of automobiles almost halved to Rs22bn in 2018-19 from Rs43bn in 2017-18.

The ongoing documentation drive aimed at punishing the non-filers of tax returns also squeezed demand for mortgage and housing finance, resulting in lower credit off-take.

Now that the federal budget has relaxed the once-so-tight rules governing sales of property and automobiles, demand for housing and car loans may pick up in 2019-20. But given the fact that economic growth is projected to decelerate further, this seems to be a distant possibility.

In the case of automobiles, their prices will also play an important role in demand building. Prices of cars, jeeps, bikes and other vehicles have already witnessed several upward revisions chiefly because of a weaker rupee, which has lost about one-third of its value against the dollar in the past 13 months.

Published in Dawn, The Business and Finance Weekly, July 29th, 2019