BANKS are making big profits but some of them have started realising that government debt papers may hardly sustain their high profitability in a few years from now.

“This realisation is growing, particularly among second-tier banks,” says the president of a local bank. “That is why you see new consumer finance products coming up and banks focusing more on Islamic finance, agriculture, small and medium enterprises and microfinance.”

He adds that the future lies in these four areas instead of investment in debt papers.

During July 1 and December 11, banks’ net lending to the private sector shot up to Rs133bn against just Rs78bn in the year-ago period.

‘Even after reaching out to some unbanked segments of the population through microfinance and consumer finance, we are just starting to see credit flow getting thicker’

And this credit flow has heightened since October as the July-September quarter typically remains dormant owing to seasonal credit retirement. Regardless, banks’ performance in this area so far this fiscal has been visibly better. Is this a usual trend or does it point towards something substantial?

“After making big profits by investing in debt papers, banks have apparently realised that they need to lend more to the private sector to sustain their profitability in 2016,” says the head of credit division at another local bank. “And credit demand in the entire agriculture sector, some segments of industry and the consumer sector is supporting it.”

By end-September, banks’ advances-to-deposit ratio (ADR) had declined to 46.7pc even though banks’ year-to-date net profits had risen to Rs148bn from Rs115bn a year ago. This trend of low ADR and high profits had set in FY11 chiefly because banks’ investment in debt papers had started climbing up from FY09 due to the government’s relentless high borrowings.

The yearly growth in banks’ net advances was recorded at 7.8pc till September, down from 12.3pc in 2014, while the quarterly growth was negative in the July-September quarter. But the speed with which the net advances of several banks have grown in October-December is likely to improve the overall number for the half-year.

Meanwhile, banks’ net investment — the bulk of it in government debt papers — grew by a whopping 42.3pc in the year ending September 30. But bankers say this percentage may either remain intact or somewhat shrink for the October-December quarter, during which the relatively lower returns on debt papers had made banks a bit hesitant in parking their funds in them.

Another important aspect of the sector’s good performance in July-September was that banks’ net provisioning against bad loans remained unchanged at June’s level of Rs30bn.

Central bankers say the slight decrease in banks’ appetite for debt papers, more lending to the private sector and better loan quality management etc (in October-December) will all have a positive effect on the sector going into 2016.

However, bankers point out that the next policy rate decision, along with the government’s borrowing requirements and private businesses’ borrowing behaviour, will make a real difference.

Meanwhile, banks’ deposits had shrunk 2.6pc during July-September, which most bankers attributed to the seasonality factor, meaning that deposits tend to grow more from the second quarter of the financial year (i.e. from October). But they still cannot explain the magnitude of the fall, given that deposits had declined 0.4pc in July-September 2014.

Banking sector watchers say more plausible explanations likely include the low level of economic activity, lower-than-targeted revenue collection, withdrawals by depositors who were getting very low returns, and large withdrawals and the subsequent conversion of the funds into dollars for outward transfers through the black market.

Senior bankers admit that over the years banks have not been making serious efforts to bring deposits from unbanked people into banking system. They also acknowledge their lack of focus on credit marketing, except in case of consumer and trade finance.

“Even after reaching out to some unbanked segments of the population through microfinance and consumer finance, we are just starting to see credit flow getting thicker,” admits a senior executive of a local bank. “And deposit mobilisation from these segments has not been very promising.”

During July-September, banks made a loss of Rs3.7bn in dealing with foreign currencies. Bankers attribute this to swift changes in currency parities and the selling of dollars at certain levels to forex companies to check the speculative rise of the reserve currency.

Generally, however, banks book forex losses when their outlook on forex movements fall apart and upset their forward premium rates charged earlier on, or if forex flows at their doors don’t suffice their needs. “Many of us saw these things during July-September,” says the treasurer of a local bank.

He and other bank treasurers say speculative attacks on the rupee from outside the banking system kept the forex market disturbed in October-December as well, causing losses on their forex dealings. “But after strict SBP intervention to check speculation, the situation has calmed down.”

Published in Dawn, Business & Finance weekly, January 4th, 2016