LAHORE - Private credit offtake is not picking up pace in a high Discount Rate scenario, where so far in 2013 gross advances have only grown by 3 per cent despite the fact that DR came down to 9 per cent in Jun 2013). On the other hand, poor law and order situation in the country is likely to make it difficult for banks to lend money.

Banking sector experts said that in the past few years, banks made profits through investment in government papers, to compensate for lesser lending to the private sector, and a squeeze in banking spreads due to monetary easing. Bank deposits grew by 9.5 per cent during the first half of this year.

Banking sector experts said that although monetary tightening is likely to bode well for the banking sector, with the MPR on savings deposit linked to the DR, growth in banking spreads will now be slower than in previous monetary tightening cycles. Experts could see greater upside to earnings if banks opt to focus more on building up their Current Account deposits base and lowering the share of Savings Accounts in their deposit mix.

CPI inflation in November 2013 clocked in at 10.9 per cent YoY with 2QFY14-to-date number averaging at 10.0 per cent. Going forward, with inflation numbers in sequential quarters expected to keep heading higher, experts re-iterate call of a further 100bp interest rate hike by the end of FY14 (June 2014) to the 11.0pc DR mark. The same is built into our base-case for Pak banks. Meanwhile, with inflation rising faster than expected, they flag the risk of sharper and earlier than expected rate hikes.

Though linking the MPR on Savings Deposits to the DR has limited banks’ spreads accretion from higher interest rates, any tightening beyond the 11.0 per cent mark is likely to change earnings expectations for Pak banks. Bank’s which have a high CASA (more tilted towards Saving Accounts) are likely to lose out compared to banks with low percentage of savings deposits.

As far as the big five banks are concerned, MCB and HBL fall in the category of high saving deposits with 53 per cent and 47 per cent respectively of total deposits parked in saving deposits. Hence a 50bp incremental DR would result in 1 per cent upside to 2014E earnings.

In first half of 2013, banks have tried to boost profits by increasing their non-interest income, and some of them have succeeded remarkably.

But as monetary easing continued, and the minimum return of six per cent on savings deposits remained unchanged, banks utilised most of their surplus funds in government papers. And as the yields on government papers remained flat or fell at times, their profitability was hurt.

Witnessing a decline in their core interest incomes, most banks increased their non-interest incomes through investment advisory, brokerage and custodian services.