Currently, banks are dealing with two traditional challenges: low demand for private-sector credit and the need for mobilising fresh deposits. The reason is the economy is still struggling to expand after 0.4 per cent contraction in the last fiscal year.

Lending to the private sector is expected to pick up pace in coming months. Industries have started working after months-long full or partial lockdowns imposed to contain the spread of Covid-19. Besides, the government continues to borrow heavily from banks and this trend is likely to stay in the absence of adequate tax revenue generation.

So at the end of the day, banks’ interest incomes should remain strong and they should be able to mitigate the impact of less-than-desired demand for private-sector credit.

But the challenge of fresh deposit mobilisation is a bit complex. Banks currently find it difficult to mobilise fresh deposits for two reasons. First, the slashing of 625 basis points in the central bank’s policy rate — from 13.25pc to 7pc — between mid-March and the end of June this year has depressed rates of return on both saving and fixed deposits.

And secondly, since the economy is still struggling to grow, people and businesses don’t have much to save after drawing down on savings in the last fiscal year when the economy contracted 0.4pc. But that does not necessarily mean that banks’ deposits are going to shrink.

Banks are finding it difficult to generate deposits as interest rates are down and the economy is in bad shape

Regardless of the level of economic activity, all formal financial transactions continue to be routed through banks — and this transfer of money from one account to another ensures the feeding of a large number of deposits.

Besides, foreign funding and foreign exchange inflows from the International Monetary Fund (IMF), World Bank and other global financial institutions continue to feed government deposits with banks. And higher inflows of foreign investment and home remittances are reflecting in inflated convertible public- or private-sector foreign currency deposits.

The recently launched Roshan Digital Accounts for overseas Pakistanis that are aimed at encouraging them to invest in equities and government debt instruments will also help expand the banks’ deposit base. After all, overseas Pakistanis will feed these accounts with additional money (over and above the amount they send back home for routine expenses of their families) to be able to make such investments.

Higher spending by federal and provincial governments to prop up the economy and to help industries and businesses would lead to increased financial transactions and movement of funds from one account to another. All that would also reflect positively on the deposit base of the banking sector.

The problem area is that of fresh deposit mobilisation for the purpose of saving. Banks mobilise such savings through short-, medium- and long-term deposits. Since growth of such deposits largely depends not only on the lucrativeness of the interest rate but also on the state of the economy, it is no wonder that banks are finding it difficult to mobilise these deposits as interest rates are down and the economy is yet to pick up pace.

In calendar years 2018 and 2019, saving deposits of all banks combined had witnessed 9.33pc and 9.36pc growth, respectively, according to the State Bank of Pakistan’s statistics. But that had happened before monetary easing began. Data for this year is not available, but despite the banks’ efforts to roll out new schemes, both traditional and Islamic, it is obviously difficult for them to see such a level of growth in saving deposits in calendar year 2020.

The task has become all the more difficult given the National Savings schemes and accounts. A moderate enhancement of saving deposits is still possible because part of all routine financial transactions routed through banks somehow touch banks’ saving accounts at some stage as money transfers take place.

Fixed deposits of banks had grown only 4pc in calendar year 2018. But a massive interest rate tightening of 675 basis points by the SBP between July 2018 and July 2019 led to near-quadrupling of the deposits’ growth rate to 15.5pc in calendar year 2019. Another reason for this huge growth was that part of foreign funding under the China-Pakistan Economic Corridor (CPEC) and foreign exchange support to help Pakistan tide over the balance-of-payments crunch had come from Saudi Arabia, United Arab Emirates and China in the shape of term deposits. In calendar year 2020, the situation is different — interest rates are down and no major foreign exchange funds from friendly countries are being placed in term deposits.

So growth in fixed deposits on this account can falter. But overall deposits of banks have risen by 11.6pc in eight months of this calendar year — from Rs14.6 trillion at the end of December 2019 to a little more than Rs16.3tr at the end of August 2020.

If the housing sector starts growing as it is expected to, then that can help fixed deposits grow as builders, land developers and building constructors often keep clients’ money, paid in instalments, in fixed deposits. The government’s fixed deposits are also likely to grow as independent power producers (IPPs) start making payments after the recently concluded renegotiation of their agreements. Rates of return on three-, five- and 10-year bank deposits remain lucrative for the government and for pension and provident funds of government institutions as well as the corporate sector. But small and medium-sized investors, mostly individuals, remain concerned about inflation-adjusted returns on such deposits and they switch over to other areas when net returns fall.

After the monetary easing between mid-March and the end of June, banks have reduced returns on both saving and term deposits. Details of tenor-wise repricing are not available publicly.

But the overall weighted average return of banks on fresh deposits (excluding zero markup and inter-bank deposits) stood at 5.51pc at the end of July 2020, down from 10.06pc at the end of July 2019.

This indicates the possible extent of downward adjustments in returns on saving and fixed deposits. Banks understandably find it difficult to mobilise fresh deposits from non-captive clients (i.e. clients that can afford to stop opening new saving and fixed deposit accounts).

Published in Dawn, The Business and Finance Weekly, September 14th, 2020