Saturday, March 6, 2010

Bank profits

Editorial -- Express Tribune (coming out in the market soon)

According to a report in this newspaper, profits of the banking sector rose sharply by 24 per cent during 2009 – this at a time when the economy is doing badly and experiencing very low growth. Normally in such an environment the financial sector would not be doing well – and in particular banks and other lending institutions. This is because business activity tends to slow down and according demand for loans for investment purposes – on which banks make their much of their income – goes down. Furthermore, since profitability and returns on investment opportunities in the economy in general also decline, those who partake of such opportunities also see their incomes hit. So if one were simply to go by commonsense banks should see their incomes dwindle when an economy is not doing too well – as is happening in Pakistan’s case. The question then arises that what is the reason for Pakistani banks seeing such a significant rise in their profits, during a year when the economy has not performed so well. And the only answer that would make sense – both from an economic as well as a logical point of view – is that banks in Pakistan have substantial monopoly power and that they work together (as in collude) to fix interest rates that they charge on their loans and in the process ensure high profits for themselves. This would also suggest that the industry regulator – the State Bank – does not do a particularly good job of safeguarding the interests of consumers, i.e. account-holders and that it seems beholden to the corporate power of the banking system.

The fact is that barring a year or two, banks in Pakistan have seen a substantial rise in their profitability every year. And while this may be well and good – and perhaps necessary to some extent – for the growth of what is a key sector of the economy, it needs to be reasonable, in that it should not come at the expense of the consumer. However, given its consistency and magnitude of growth the profitability could only have come in this particular manner and by the SBP not playing its due role. Proof of this also comes from the fact that since long banks have had a very large spread – i.e. the difference between the rate offered to account-holders and that charged from loan applicants, so the wider the spread the greater the bank’s profit. In the past, this matter was raised in the media but the then SBP head more or less dismissed it by indicating that it was one of the key drivers behind growth in the sector. But it should be clear to the State Bank now that this is not a very good argument since profitability and growth need to be kept at reasonable levels otherwise a relatively small segment of society – banks and their shareholders – will gain at the expense of a relatively large swathe – i.e. accountholders. This imbalance needs to be corrected and this can be done if the State Bank carries out its responsibility of safeguarding the rights of bank consumers.

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