If the State Bank of Pakistan had done earlier what it has been doing lately and proposes to do now more vigorously the country would have far more banks than it has now. And the existing banks would have far less non-performing loans than Rs250 billion and loans defaulting around Rs140 billion.
But loan defaults and the larger non-performing loans have become a world-wide phenomenon in recent times and more and more major banks are exposing their weakness in this vital area in the advanced as well as developing countries. Japan where the problem is too acute despite having very low interest rates is estimated to have bad loans of $1,800 billion. Germany has a serious banking problem following its economic stagnation. France has been suffering from this malaise for long and major banks are merging themselves to reduce their losses. It all began with the savings and loan association debacle in the U.S. which resulted in a loss of over $450 billion for the tax payers in the US in the 1980s.
The US is acting more resolutely now and the stock market regulators last month fined top US banks of $1.4 billion and came up with several conditionalities for dealing with share transactions.
In such an environment the State Bank of Pakistan came up with its comprehensive prudential regulations for banks in January 1992 and subsequent supplementary regulations from time to time as the situation needed. But until recently their enforcement has not been very rigid so that the banks, particularly foreign banks, could not protest they are over regulated in Pakistan. And now the State Bank has come up with a master circular encompassing all the earlier circulars for the benefit of the external auditors of banks who have to detect all irregularities in good time and prevent more of the same.
The regulations are adequate. What matters is how punctilious are the bank managements in enforcing them and how diligent are the auditors in detecting irregularities to the notice of the relevant authorities.
The external auditors of the banks are now required to submit a special Report based on the specific guidelines given in the circular hitherto after conducting the statutory audit to the State Bank of Pakistan and send a copy of that to the managements of the bank concerned. Action against the banks in the light of the irregularities revealed would follow.
Many of the problems of the banks followed nationalization of banks in 1974. Banks came under the control of the bureaucrats of the Ministry of Finance who got themselves appointed as bank chiefs after or before their retirement. Political control of the banks followed and large loans were given on political basis. Senior bank executives themselves indulged in a variety of malpractices. Encouraged by that the militant union leaders too took their share by misusing bank assets freely.
Not that the private sector banks were in good order before their nationalisation. According to M.R. Khan, controller of banks in the State Bank of Pakistan then, all except two banks were bankrupt before they were nationalised. That means that nationalization replaced one set of abuses within the banks with another set of abuses which became larger and more periodic in the 1970s and 1980s.
A number of new banks came up following the de-regulation of banks and permission to set up new banks. Simultaneously major banks like the Muslim Commercial Bank and the Allied Bank were privatized. In fact the Allied Bank was taken over by its staff paying a far higher price per share than Mian Mohammad Mansha and others did for the purchase of the MCB.
Malpractices were to follow in some of the new banks as well as the old banks quick. The new owners of banks misused both the deposits of the public as well as the capital fund. As a result the Indus Bank, the Mehran Bank and the Schon Bank folded in a rash of scandals. And the Capital Bank did in its own birth as the sponsors showed the capital subscribed by the public as their own contribution to the capital.
The well established Bankers Equity collapsed following massive misuse of its funds. Later the largest development finance institution in the country, the National Development Finance Corporation, collapsed under a heap of scandals and had to be merged with the National Bank of Pakistan to save the depositors and prevent a run on other banks by the public to withdraw deposits and give birth to a general banking collapse.
The Allied Bank, which was bought over by its staff, has been on the verge of collapse more than once following the embezzlements of its funds and other malpractices by its top officials. The bank has become somewhat stabilised following the appointment of a professional banker to head it.
For all their offences too few top bank executives have been punished. The varied banking courts should have dealt with them too instead of trying to recover the lost loans of banks. Similarly the auditors of banks have got away with condoming or glossing over serious offences by the banks’ chiefs. They too should have been punished for their collusion in banking offences or cussedly condoming or glossing over them. And that applies to the State Bank of Pakistan auditors as well. They were said to be small in number and not competent enough to do the job well.
Will all that change now following the Prudential Regulations of the State Bank and the recent master circular issued to the auditors in particular by the State Bank? Will the auditors be punished for their faults and failures or serious neglect of their basic duties?
Until recently private sector borrowing from banks has been small and certainly far less than the targeted for good economic health of the country. But following the drop in the lending rates of banks and the State Bank’s insistence that banks should be more helpful to the private sector investors, private sector loans given in the second half of 2002 have risen by 49 per cent over the Rs. 38 billion given out as loans in the same period in 2001 which was Rs39 billion. While the loans given in the last half of the year was Rs59 billion the target for the whole year set by the State Bank is Rs99 billion.
The banks are also entering several other new areas besides simple lending and receiving deposits. Their performance hence needs to be watching carefully and their accounts audited properly.
The State Bank has now separated its function of regulating and supervising of banks and financial institutions from its other core function of formulating and implementing monetary policy. The central bank knows well that any setback in this sector will now come to be criticised seriously by the public. As a healthy banking system is essential for the health of the economy and well being of society as a whole.
The State Bank cannot do far better unless the ethical and efficiency level of the auditors rises markedly. In a period in which the failures of the major auditors around the world, particularly in the US, have come to be condemned severely,the auditors in Pakistan cannot afford to lag behind and let the corporate sector and the economy as a whole go down. The State Bank’s initiative in this regard will be greatly welcomed, in a country where too many controllers of the corporate sector and its banking arm are ready to misuse them for their own immoderate gains.