SBP expects banking sector’s exposure to govt to remain high in H2CY24

KARACHI: The central bank expects the banking sector to maintain high exposure to the government in the second half of 2024, which needs serious measures from the treasury to lessen the reliance on banks to meet fiscal demands.

The SBP issued the Mid-Year Performance Review of the Banking Sector for 2024 on Wednesday. The review covers the performance and soundness of the domestic banking sector for the January to June 2024 (H1CY24) period.

“The banking sector is expected to continue on the path of steady performance. The expansion in balance sheet is likely to be driven mainly by investments owing to persistent borrowings needs of the government,” the SBP said.The banks’ advances are expected to gain momentum in the fourth quarter of this year due to, inter alia, seasonal factors, the expected recovery in economic activity and easing of financial conditions, it added.

Earnings of the banking sector are likely to remain steady on the back of increase in the volume of earning assets and will likely support the solvency position. A continued economic recovery may enhance both credit need as well as the repayment capacity of the borrowers and further improve the credit risk profiles of the banks, it noted.

“The recent upgrade in sovereign credit rating is a positive development, however, the timely realization of a new IMF programme will significantly help revive financial inflows,” it said and added nonetheless, the banking sector’s exposure to the government is expected to remain high in H2CY24 and it demands earnest measures by the treasury to reduce reliance on the banking sector for fiscal needs.

“The banking sector, due to its capital cushions and buffers, is expected to remain resilient to adverse hypothetical but plausible shocks to key risk factors as well as macroeconomic conditions.”

The review highlights that the balance sheet footing of the banking sector expanded by 11.5 per cent in January-June 2024, which was mainly driven by investments in government securities as the government demand for bank credit remained high.

Advances, however, posted a contained growth due to net retirements by the private sector although long-term financing to SMEs showed some revival. The decline in private-sector advances was significantly lower as compared to H1CY23. On the funding side, deposits increased by 11.7 per cent in H1CY24 with a major impetus from savings and current deposits. The higher pace of assets growth however necessitated additional funding, which kept banks’ reliance on borrowing intact.

The review notes that the asset quality profile of the sector remained satisfactory, as gross NPLs witnessed subdued increase. The total provisioning coverage against NPLs further improved to 105.3 per cent by end June-2024, as with the application of IFRS-9, the banks also started to provide general loan loss allowances for performing loans. Earnings, nonetheless, slowed down owing to declaration in return on advances and contraction in net interest margin. Non-interest income such as fee income and trading gains on government securities, however, supported profitability. The performance indicators such as return on asset (ROA) and return on equity (ROE) thus declined to 1.2 per cent (1.5 per cent in June 2023) and 20.4 per cent (26 per cent in June 2023), respectively. The solvency position of the banking sector remained strong as capital adequacy ratio improved to 20 per cent (17.8 per cent in June 2023) and was well above the minimum regulatory environment.

The review reveals that in the wake of gradual improvements in macroeconomic conditions, domestic financial markets witnessed relatively lower stress during H1CY24. As per the results of the 14th wave of SRS (July 2024), the top three prevailing risks highlighted by independent participants of the survey include ‘energy crisis’ followed by ‘volatility in commodity prices’ and ‘foreign exchange risk’. The respondents, however, expressed confidence in the stability of the financial system and competence of regulators.