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Thursday March 28, 2024

‘High interest rates to keep Pakistan’s growth sluggish’

By Our Correspondent
February 07, 2020

KARACHI: Rating agency Moody’s sees Pakistan’s economic growth to remain subdued this fiscal year primarily due to high interest rates, saying the government’s heavy borrowing needs would also absorb bank lending at the expense of the private sector over the next 12 to 18 months.

Moody’s Investor Service said high interest rates would hurt business and consumer confidence as well as private-sector debt repayment.

“High exposure to government securities (40 percent of assets) link banks’ credit profiles to that of the sovereign,” the rating agency said in a latest report. “Our outlook for Pakistan’s banking system is stable.”

Pakistani banks hold government securities worth Rs8.7 trillion, a sum equivalent to 6.9x their Tier 1 capital at the end of September 2019. Including lending to the government and public-sector entities, the exposure rises to 8.8x of Tier 1 capital.

“We expect government exposure to remain high over our outlook horizon because Pakistani banks will remain the main source of financing for the government,” it said. “We expect the government’s commitment to stop borrowing from the central bank to increase government reliance on banks for meeting its financing needs.”

Moody’s said high interest rates, coupled with the challenges noted above, would weigh on economic growth.

“We expect real GDP growth of just 2.9 percent for the fiscal year ending June 2020, down from 3.3 percent in 2019 and 5.5 percent in 2018,” it said. “Interest rates have increased by 7.5 percentage points since January 2018.”

Moody’s said exchange rate has stabilised in recent months and appears to have found a near-term equilibrium, while long-term interest rates have fallen below short-term interest rates, indicating that markets expect the State Bank of Pakistan to lower policy rates over the next few years.

However, Moody’s expected private-sector lending to grow by around 10 percent in 2020 as initiatives to deepen financial inclusion would partly offset high interest rates and banks’ more risk-averse stance.

“We expect non-performing loans (NPLs) to rise slightly as a result of high interest rates and banks’ troubled foreign operations,” it said. NPLs stood at a high 8.8 percent of gross loans as of September 2019, although risks are mitigated by the fact that banks’ loan portfolios only make up 37 percent of total assets.

Moody’s said stable customer deposits and ample liquidity would remain key strengths of the banking sector. Customer deposits make up around 69 percent of total assets, and “we expect these to grow by over 12 percent this year, providing banks with plentiful low-cost funding,” it said.

“We expect (banking) net profit to rise in 2020, a result of stronger net interest income thanks to higher interest rates and government bond yields,” it added. “Profitability will remain constrained nonetheless by subdued trading gains and dividend income.”

On anti-money laundering requirements of the Financial Action Task Force, Moody’s said failure in compliance could lead international banks to cut correspondent bank relationships, affecting banks’ foreign-currency liquidity, business generation capabilities and also leading to higher refinancing and compliance costs.

Habib Bank and United Bank have surrendered their US banking licences and closed their US branches partly as a result of AML concerns. Pakistan is awaiting a decision this month from the global financial system’s watchdog about whether or not to keep the country in a grey list of countries with AML deficiencies.

Banks are expected to maintain comfortable liquidity buffers, with core liquid assets (cash and bank placements) accounting for 12 percent of assets as of September 2019, complemented by the banks’ investments in government securities. Around 64 percent of the government securities are treasury bills, which are accepted by the State Bank of Pakistan as collateral for repo funding.