KARACHI, June 24: The new foreign banks wanting to enter the local market would be required to set up incorporated subsidiaries, according to the State Bank sources.

However, the existing foreign banks can open up more branches under the current rules and procedures, they added.

In a way, the SBP would formalize a situation that has existed, in actual practice, for the past few years. The central bank had suspended issuing licences for new commercial banks as the economy was considered over-banked. However, the acquisition of locally incorporated banks by foreigners was permitted. These included Union Bank and Schon Bank.

Now, the franchise for branches of new foreign banks is suspended and instead, the new applicant would have to float a subsidiary.

When a subsidiary is launched, it would be required to have the minimum paid-up capital (prescribed by the State Bank) which, for commercial banks, has been raised to Rs1 billion. Currently, the capital of a foreign bank is linked to volume of deposits and because of fewer branches of foreign banks, the deposit base, in most cases, is low.

The State Bank would be following the example set by the UK Financial Authority by prompting Pakistani commercial banks to merge their operations and float two subsidiaries. Two banks from Bangladesh are also being advised to consider merger to strengthen their business. In Pakistan, Faysal bank was the first to be incorporated locally under the presidentship of a former SBP governor I.A. Hanfi. Subsidiaries can be better monitored by the central bank as compared to branches run by foreign banks.

Presently, the share of domestic market of the foreign banks is dominated by three western banks. The presence of other foreign banks is not very strong. In the current domestic and external environment, existing foreign banks are also not tempted to make substantial investments barring one or two locally incorporated banks with Arab stakes.

“There are at present two classes of foreign banks in Pakistan — three banks with strong presence, fairly reasonable branch network, large client base and a diversified range of products and services, while the second tier consists of the remaining 10 banks with a few branches, narrow client base and limited range of products, says a State Bank official.

The SBP is of the view that “the new capital requirement would force some of them out of business and others towards mergers, leading to healthy competition and wider participation in the financial sector activities.”

The SBP wants “fewer and strong banks” and is pursuing a policy of consolidation and mergers of small banks through voluntary mergers. There are banks, says SBP governor Dr. Ishrat Husain, which are “too weak to withstand exogenous shocks, manage risks prudently or innovate new products and services.” Some foreign banks with weak presence have sold their stakes. These include Gulf Commercial Bank, Soc-Gen and Emirates.