The budget for the current fiscal year is aimed at dampening growth. Taxation measures are such that they would force companies to produce less. The eroded real income of people, on the other hand, would reduce their spending. A new demand-supply equilibrium so achieved would “stabilise” the economy and correct the “imbalances” in the economic structure.
So, demand for private sector credit will remain low. That suits the government. Low credit demand from the private sector coupled with banks’ traditional aversion to reaching out to the maximum number of potential borrowers, will enable banks to borrow liberally from other banks.
But bank credit comes at a cost. And the cost matters more and more every year as the stock of government bank borrowing increases with time and the cost of servicing this debt also increases. Mindful of this fact, the government has imposed higher rates of taxes on those banks that will now be investing heavily in bank debt papers. (These taxes are in addition to the already heightened overall corporate tax, super tax and poverty alleviation tax.)
In an already tight interest rate regime with expectations of further rate tightening, government borrowing will be costlier. The imposition of taxes on banks investing heavily in government debt papers will, on the one hand, earn some revenue from those very banks that would be charging high-interest rates on lending to the government.
The demand for private sector credit will remain low, which suits the government, but this will harm the small guys the most who don’t get a big slice of the pie even when things are going well
On the other hand, it will discourage banks from investing too much money in government debt papers leaving the avenue for lending to the government for other banks as well.
That competition will naturally keep interest rates on banks’ government lending — or yields on government debt papers — from rising too fast. Besides, it will also help mitigate the crowding out effect of the government bank borrowing from banks and enable banks to meet genuine, even though squeezed, credit demand from the private sector.
However, it is not only the low levels of liquidity that prevent banks from lending generously to the private sector. Nor, it is entirely the crowding out effect since the central bank keeps pumping in liquidity in the interbank market, particularly ahead of auctions of the government bills and bonds.
And, as far as the crowding out effect is concerned, we have seen banks investing too heavily in government debt papers even at times when the yields on those papers were far lower than the rates of interest charged on corporate, agricultural and consumer sub-sectors of the private sector.
The imposition of taxes on banks investing heavily in government debt papers will earn some revenue from those very banks that would be charging high-interest rates on lending to the government
The problem lies in banks’ lethargic attitude toward investing in developing proper systems for emerging credit risk assessment, credit administration, development of tailor-made financing products for the various segments of the private sector and timely recovery of loans.
That is why they have remained fond of lending to big companies with rich banking history and proven track records of loan repayments and borrowers from amongst consumers from whom loan recovery is the easiest. Their agricultural lending becomes huge at times when the agricultural sector is doing well only because agricultural production loans are repaid within a year. (This keeps the share of their agricultural development loans that are repaid in three or more years very low).
Banks also remain averse to lending generously to small and medium enterprises (SMEs) for the simple reason that credit assessment, credit distribution and credit monitoring of SME loans and their recoveries all require greater expertise and specialised technology. And banks are less willing to invest in the acquisition of the required expertise and technologies.
In the past eleven months, between July 2021 and May 2022, banks lent Rs1.144 trillion to private sector businesses (PSB), the latest State Bank of Pakistan (SBP) stats show. But their net fresh lending to agriculture, forestry and fishing stood at just Rs30 billion. Don’t confuse this number with Rs1.031tr gross lending that banks provided to the agriculture sector extended during these eleven months. That shows total lending even though over Rs1tr worth of recoveries were also made within this period.
Similarly, despite all the hype about Apna Ghar and Roshan Ghar housing schemes, the construction sector got only Rs25.2bn bank loans between July 2021 and May 2022.
Both the agriculture and construction sectors are known sources of large-scale employment generation. With such paltry amounts of bank money pumped into farms and housing, the creation of jobs becomes too difficult.
Banks’ lending to SMEs remains low. A separate SBP report reveals that in the last year, between April 2021 and March 2022, banks total lending to SMEs stood around Rs56bn only.
Unless banks become willing to make more net fresh lending to the agriculture sector, the construction sector and SMEs, not only job creation would remain an uphill task for the economy but the private sector businesses’ growth will not be sustainable.
But banks have conveniently ignored this even when the government policies aimed at growth. It would be too optimistic to expect them to lend more to these areas more generously at a time when the government itself is pursuing the policy of dampening demand growth in the name of “stabilising the economy” on the insistence of the International Monetary Fund. Ideally, banks should always reach out to the under-served and unserved segments of private-sector borrowers.
Published in Dawn, The Business and Finance Weekly, July 4th, 2022