Consumer Financing: Dilemma For banks in

PAKISTAN

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Table of Contents

Executive Summary

Section 1 INTRODUCTION

1.1 Background1.2 Purpose1.3 Objective1.4 Study plan

Section 2 INDUSTRY OVERVIEW

2.1 Banking Industry of Pakistan2.2 State Bank of Pakistan2.3 Products / Services in Banking Sector2.4 Consumer Banking: Globe at Glance2.5 Consumer Banking in Pakistan

i. Auto loansii. Home Loans

iii. Personal Loansiv. Credit-Debit Cardsv. Deposit Accounts

vi. Wealth Managementvii. E-Banking

2.6 SBP prudential Regulation for Consumer Financing2.7 Credit Information Bureau (CIB)2.8 Contribution of Consumer Banking in Economic Development

i. Overviewii. Consumer Financing & Economic Growth

iii. Implication for Economy2. Brief Overview of some local & foreign bank

i. MCBii. UBL

iii. FBLiv. Citibankv. RBS

vi. ABL

Section 3 REASEARCH METHODOLOGY

3.1 Strategy for Data collection 3.2 Primary Data Collection3.3 Secondary Data Collection

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Section 4 ANALYSES AND FINDINGS

4.1 Opportunities4.2 Challenges4.3 Problems faced by borrowers4.4 Future prospects of Consumer Banking in Pakistan

Section 5 CONCLUSIONS

5.1 Conclusion

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Acronyms

ATM Automatic Teller Machine

CIB Credit Information Bureau CWR Credit Worthiness Report

DFI Development Finance Institutions

MCB Muslim Commercial Bank

SBP State Bank of Pakistan

PRCF Prudential Regulations for Consumer Financing

NBFI Non-bank financial institutions

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EXECTIVE SUMMARY

The banking sector in Pakistan has been robustly engaged in consumer financing over the last seven years by unleashing a variety of products. The excess liquidity in banks due to high inflow of remittances stimulated the banks to get into this business. Since then, it has swelled at an unprecedented growth rate. The consumer loans reached Rs.325 billion during 2006, whereas till June 2007, they further increased to Rs.354.4 billion. The banking sector is earning record profits by charging unrealistic and exceptionally high interest rates. As a result, despite considerable ratio of non-performing loans, the annual profitability of banks has reached 76% on annual basis over the last few years. In recent months, deceleration trends are on the rise consumer financing due to increasing loan default and use of credit worthiness information by the banks. From the macroeconomic standpoint, consumer financing has significantly contributed to economic turnaround of Pakistan by stimulating consumption and investments. There has been a phenomenal increase in private consumptions due to easy availability of credit from banks. However, in tandem with this development, the manner in which consumer financing is being delivered has seriously jeopardized the Competition factor in economy.The most important issue is that Pakistan has one of the highest interest rate spread in the world. An analysis of the interest rate behavior in Pakistan reveals that the spread has vacillated between 5.95% and 9.58% during the period from 1990 to 2005. In recent years, the spread has exceeded 7% on the average. High interest rate spread indicates that competitiveness in the banking sector in Pakistan is either absent or is very poor. A cartel-like behavior in banks appears to have taken place within the policy space provided to the banks by the State Bank of Pakistan.This issue is largely attributable to weak regulation of interest rates despite that the State Bank has the powers to control the spread through monetary policy. While non-operating loans and high administrative Costs could be considered as the major reasons in countries where spread Is high, these cannot be said true of Pakistan because banks are earning Huge profits at the cost of savings of the depositors. High interest rate Spread is damaging the competitiveness in economy in general, and in the financial sector in particular. The SBP should exercise its Powers to determine reasonable rate of returns for the banks as well as the depositors. As a matter of priority, interest rate spread should be reduced, at least, to the level of average spread in the South Asian region.Another critical issue is that almost all consumer loans are on the basis of variable mark up, which has reduced the loan servicing capacity of the borrowers due to progressive increase in the rates. In addition, the growth in consumer financing has put great inflationary pressure on the economy. Acquisition of easy bank credit by the household consumers has spurred the demand for many essential and luxury items. Ultimately, the increase in demand has not only escalated the prices of essential items, but has also stimulated hoarding and black-marketing thus multiplying the problems for poor consumers. In fact, proliferation of loans has given rise to new development challenges. For instance, the need for new roads in metropolitan cities is directly linked with growth in auto loans provided by the banks. From a consumer perspective, consumer financing has been helpful in improving the quality of life of the people who have the capacity of servicing the loans. However, there is mounting evidence that this capacity is deteriorating due to high spread and variable interest rates on loans. Depositors are not getting due returns due to high difference between lending and deposit interest rates. Further, the volume of consumer complaints is rising day by day due to processing delays, service inefficiencies, hidden charges, and poor disclosure practices.Lack of consumer education on banking terms and conditions, policies, rules, and regulations is also a critical factor in securing financial rights. As the consumer financing portfolio is increasing, quality of related banking services is becoming a serious issue. Processing delays, service inefficiencies, unauthorized debits and non-compliance with requirement of providing monthly bank statements are few examples of poor quality of banking service.

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Section 1.0 INTRODUCTION

1.1. Background

In Pakistan all banks & DFI’s works under the supervision of the State Bank of Pakistan, the four major sectors in which SBP has divided banks operations are Corporate, SME, Agriculture and Consumer. SBP provide regulations according to which all banks should work & continuously keep a track that banks are complying through the regulations or not.

1.2. Purpose In recent years, Consumer Banking has made tremendous progress and has played a positive role in boosting the economy and in meeting the needs and requirements of the consumers. Whether large or small bank, multinational or local, each one of them is geared towards making its mark in an already competitive environment that is the outcome of consumer banking. The growing economy and further improvements in the level of household income have created many opportunities for consumer banking. In this case the past, present and future of consumer banking will be analyzed.1.3. Objective

This case will give an overview of the problems in current system of consumer banking from the point of view of both borrowers & lenders and explore the upcoming opportunities in the area of consumer banking. Main Objectives would be;

Problems in current system of consumer banking Solution for problems faced by lenders & borrowers Exploration of opportunities in future Role of consumer banking in Economic Development

1.4 Study Plan

Section – 2.0 of this case is totally based on secondary data consist of an overall view of Pakistan Banking Industry, consumer banking in Pakistan and brief introduction of few banks which are selected for data collection. Section 3.0 consists of methods used for data collection. While analysis and findings are included in section 4.0 and section 5.0 comprises of recommendations and conclusions.

Section 2.0 INDUSTRY OVERVIEW

2.1 Banking Industry of Pakistan

Banking sector of Pakistan has under gone a significant transformation in the recent years and has also acted as a catalyst in the revival of the economy. Many privatization, acquisitions and mergers took place during the last few years which started form privatization of Muslim Commercial Bank and from time to time Allied Bank Ltd, United Bank Ltd and Habib Bank

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Ltd were also privatized by the government. These years also witnessed the acquisition of Union Bank by Standard Chartered Bank and recently Muslim Commercial Bank acquires Royal Bank of Scotland. All these privatization, acquisition and mergers resulted in high foreign investment in Pakistan and improved performance of the banking industry while it has also helped banks to gain more market share in short span of time.The market of banking in Pakistan has dominated by large commercial banks. Foreign banks have been in operation for a long time as well, but their business is concentrated wit large multinational clients.Pakistan has a highly developed financial sector consisting of public & private commercial banks, DFI, leasing companies, mutual funds, Islamic venture capital fund companies. The commercial banks have assets of over one trillion rupees of about 80% is held by domestic banks.

2.2 State Bank of Pakistan

The State Bank of Pakistan (SBP) is the central bank of Pakistan. The State Bank of Pakistan Act 1956, with subsequent amendments, forms the basis of its operations today. The headquarters are located in the financial capital of Pakistan, Karachi with its second headquarters in the capital, Islamabad.The State Bank of Pakistan looks into a lot of different ranges of banking to deal with the changes in economic climate and different purchasing and buying powers.

2.3 Products/ Services in Banking Sector

Some major services in banking industry of Pakistan:

1. Current Accounts2. Foreign Currency Accounts3. Merchant Services4. Remittance Service5. Investment Banking6. SWIFT Service7. ATM’s8. Pay Orders9. Demand Draft

2.4 Consumer Banking: Globe at Glance

The subprime mortgage crisis is an ongoing real estate crisis and financial crisis triggered by a dramatic rise in mortgage delinquencies and foreclosures in the United States, with major adverse consequences for banks and financial markets around the globe. The crisis, which has its roots in the closing years of the 20th century, became apparent in 2007 and has exposed pervasive weaknesses in financial industry regulation and the global financial system. The crisis hit a key point when Lehman Brothers and other important financial institutions failed in September 2008.The crisis can be attributed to a number of factors pervasive in both housing and credit markets, factors which emerged over a number of years. Causes proposed include the inability of homeowners to make their mortgage payments, due primarily to adjustable rate mortgages resetting, borrowers overextending, predatory lending, speculation and overbuilding during the boom period, risky mortgage products, high personal and corporate debt levels, financial products that distributed and perhaps concealed the risk of mortgage

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default, monetary policy, international trade imbalances, and government regulation (or the lack thereof).The International Monetary Fund(IMF) estimated that large U.S. and European banks lost more than $1 trillion on toxic assets and from bad loans from January 2007 to September 2009. These losses are expected to top $2.8 trillion from 2007-10. U.S. banks losses were forecast to hit $1 trillion and European bank losses will reach $1.6 trillion. The IMF estimated that U.S. banks were about 60 percent through their losses, but British and Euro zone banks only 40 percent.Slump in real estate sector caused huge losses to UAE banks that financed property developers, construction contractors and suppliers. What compounded the impact of the slump was the multiplier effect, selling goods and services on credit to each other and all suppliers borrowing from banks; this led to a long chain of loan defaults. The success stories of innovative lending techniques like group-based lending (Grameen model), self-help groups (Indian model), solidarity group (Latin American model), community-based organization (village model) and other approaches results in a paradigm shift in lending methodologies to small farmers/borrowers. The Grameen bank of Bangladesh, Bank for Agriculture and Agricultural Cooperatives (BAAC) Thailand, and Bank Rakyat Indonesia (BRI) has evolved the most successful agri/rural sustainable financial institution models.

2.5 Consumer Banking in Pakistan

Consumer banking which is one of the fastest growing sectors of Pakistan Banking Industry is also now major interest point for the banks. Initially the consumer banking sector was only focused by the foreign banks but its efficiency & profitability attracted others to come towards this business but still the major share of consumer banking in Pakistan is in the hands of foreign banks.

In a generic sense, institutional arrangements that provide consumers with financing support to enhance their consumption and as a result thereof, improve their standards of living should fall within the broad definition of consumer finance. For the past 50 years commercial banks had completely ignored consumer finance as an activity to some extent.

The major types of consumer banking services are:

1. Auto Loans

In Pakistan auto loans are purchase of brand new or used, imported or local cars for private/public use. Auto financing and auto leasing both facilities are offered by most of the banks. Salaried persons/Self Employed Professionals/ Business Persons who meet the terms and conditions to qualify for the finance are eligible for the loan. Some banks are also offering both variable rate & fixed options for auto loans. The average market rate for auto loans is 15.49%.

2. Home Loans

The loans taken for Buying, Building or Removing of house/land are classified as home loans. For home loans both variable rate & fixed rate options are also available. The

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maximum duration offered by banks for home loans is generally twenty years that’s why banks conveniently give loans to permanent employees of any firm to ensure strong repayment ability. The average market rate for home loans is 14.40%.

3. Personal Loans

Personal Loans are generally unsecured type of loans but in certain cases when the amount of personal loans increases the normal limit its remaining potion must be secured. Personal loans include loans for the purpose of education, marriage, purchase of consumer durables, furnishing, traveling, etc. generally the limit for personal loans is between Rs.100,000 to Rs.10 million approx.

4. Credit-Debit Cards

Credit Cards mean cards which allow a customer to make payments on credit. Supplementary credit cards are considered part of the principal credit card. Initially only foreign banks were offering credit cards in Pakistan but now many local banks is also offering credit card facility. Credit card is covered by three networks VISA, Master Card & American Express. Debit cards are accepted at all ORIX Network in Pakistan and it can also be used as ATM cards

5. Deposit Accounts

All the commercial banks are offering different kinds of deposit accounts these account varies from customer to customer and fill the need of every type of customer. Few of the accounts provide high interest while some pay low interest & some don’t pay any interest. Some major categorizes of deposit accounts are;

Current Accounts Saving Accounts Foreign Currency Accounts Business Accounts Term Deposits Accounts

6. Wealth Management

Wealth management is a new kind of service introduced in consumer banking sector now a days. It covers all aspects of securing future of bank’s customers; it includes insurance, tax advisory, financial consultancy, investments plans etc. However, since this service is mainly offered by few foreign banks that why bank’s customers don’t have any idea about Wealth Management Service. Almost all the banks are offering insurance services to some of their customers but the concept of wealth management is not behind it.

7. E-banking

To facilitate its customers all banks local & foreign are offering high technological e-banking services. These services let the banks customers to perform many banking activities easily without any restriction of time & place. Some of the major e-banking services provided by the banks are;

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Phone banking Internet banking Plastic cards Online banking Mobile banking ATM

2.6 SBP prudential Regulation for Consumer Financing

The SBP issued Prudential Regulations for Consumer Financing (PRCF) in the last quarter of 2003, and came into effect on January 1, 2004. Previously, prudential regulations were designed for a predominantly public sector banking system and geared towards wholesale and commercial banking. The objective of PRCF is to carefully monitor and supervise the consumer financing activities of the banks and DFIs by limiting their exposure in terms of equity, devising predefined criteria for the financial institutions undertaking this activity, and encouraging self regulation through more transparency and greater disclosure. In this respect, disclosure requirements have been prescribed by the SBP.

2.7 Credit Information Bureau (CIB)

CIB was established as a part of Banking Surveillance Department in 1992 by the SBP under Section 25(A) of Banking Companies Ordinance, 1962. The Bureau is a repository of credit information of borrowers. The member lending institutions provide credit data of their borrowers to the bureau which consolidates, updates, and stores the same and provides this information to its member institutions in the form of credit worthiness reports (CWR). CIB aids financial institutions to make well informed credit decisions in timely manners minimizing the credit risk.All banks, DFIs, non-bank financial institutions (NBFIs), Modarabas and microfinance banks operating in Pakistan are members of the CIB.

2.8 Contribution of Consumer Banking in Economic Development

Overview:In Pakistan, consumer finance despite rapid growth during initial period of 2-3 years has started declining. During past few years the domestic consumer finance emerged as one of the key factors to boost economic growth despite its comparatively low share of 14% in the total private sector credit compared to its share in other countries like India and Indonesia where it stands at 24% and 30% respectively.

Consumer Financing & Economic Growth:

Lending through credit cards, personal loans, auto loans, loans for durables and housing finance emerged main streams of consumer finance. They shaped domestic demand and

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lending strategy by the banking sector in quite subtle ways. Consumer finance also brought social change through higher circulation of money and relaxation of income constraints for borrowing particularly among those middle class segments that were eager to become part of growing economy and keen to benefit from economic growth.

Implications for Economy:

Consumption is the key to economic growth for one simple reason that its sets pace for production of commodities and manufacturing of goods of different sorts. The dilemma of managers of national economy over the years was to execute a well defined strategy of economic growth along with taking measures to bring structural changes in economy through prudent administration, fiscal and monetary.Developed economies register growth because of domestic consumption and exports. These twin factors guarantee their economic survival in this highly competitive world. In Pakistan, exports are growing slow and consumption is fuelled by financially strong segments of society who totally depend upon remittance sent by their relatives working abroad, profits earned through speculative investment and as beneficiaries of expansionary fiscal policy pursued by the government.

Section 3 RESEARCH METHADOLOGY

3.1 Strategy for Data Collection

Data has been collected through two sources which are:

3.2 Primary Data Collection

Four local banks & three foreign banks are selected for collecting data regarding consumer financing. These banks are;

Foreign Banks Citibank N.A Royal Bank Of Scotland Standard Chartered Bank Of Pakistan

Local banks Muslim Commercial Bank (MCB) Faysal Bank Limited (FBL) Bank Alfalah Habib Bank Limited

3.3 Secondary Data Collection

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Secondary data has been collected from different articles, websites, news papers and journals. For secondary data collection the main focus was on local materials while some information on consumer banking in different countries has been collected to see the trends and new opportunities.

Section 4 ANALYSES AND FINDINGS

4.1 Opportunities

The most preferred category for issuing consumer loans is salaried individuals & one of the most important reasons behind this is that are more reliable and they have regular source of income or incase of any problem they can also be approached for any query. The two other categories which are businessman and self-employed people are considered after organizational employees, these two categories can also give a great business to consumer banking industry, but suitable conditions & polices must be prepared to disburse more loans to them.

One of new concept introduced in the area of consumer banking is Wealth Management Service. The service is classified as an advanced type of financial planning that provides high net worth individuals and families with private banking, estate planning, asset management, legal resources, and investment management, with the goal of sustaining and growing long-term wealth.

4.2 Challenges

The consumers as well as the banks are entitled to certain financial rights, which must be protected in an institutional-cum-legal framework, which is capable to strike a balance between rights of both entities independently. The dilemma in Pakistan is that the consumers remain a weaker party in comparison with the banking sector, thus balancing the equation in favor of the latter. The market-oriented vision of economic managers has served the banks more favorably than the consumers.The banking sector has demonstrated capacity to influence the policies, procedures and rules in its favor, as it is better equipped with financial resources, knowledge, technology, and lobbying with the governance machinery. This leverage is leading to emergence of a whole range of problems and grievances, especially in relation to consumer financing, thus negatively affecting the ability of consumers to articulate and protect their financial rights, and access justice if these rights are violated by the banks.

4.3 Problems faced by borrowers

The major problems faced by customers in getting a consumer loan are improper guidance, slow processing and bank statement. Whether a person is applying for auto loan, personal loan, home loan or a credit card it must have a bank account and a good bank statement this makes easy for a customer to get a consumer loan and also helps banks to assess its customers better but most of the time people who apply for a consumer loan even don’t have bank account or they are not actively using that account which makes difficult for them to get

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a loan. The most actively used consumer financing product is Credit Card and one of the major problems faced by bank’s customer on credit cards is its high interest rate, it’s very easy for anyone to get a credit card now days because it don’t require any collateral, the only major thing that is required by the bank to issue a credit card is a bank account with a good balance. Generally we can specify the problem faced by borrowers into following points;

High Interest Rate Spread:

Low interest rate spread is an important indicator of the efficiency and competition in the financial systems and helps in economic growth through increased investments. However in Pakistan the spread has vacillated between 5.95% and 9.58% during the period from 1990 to 2005, which points towards a cartel-like behavior of the banking sector.

If we look at the nominal and real interest rates, it becomes evident that consumers have had suffered a great deal at the hands of banks. From 1990 to 2004, the nominal weighted average lending rate has always been higher than inflation rate. The banks keep the lending rate high enough to ensure that the real lending rate is almost always positive. In recent years, the spread has exceeded 7% on the average. The high difference between lending and deposit rates indicates that the depositors are not getting due returns, as compared to huge profits being earned by the banks.

Weighted Average Lending and Deposit Rates in February 2008

Average Lendig rate Average Profit on Deposits

Spread0

2

4

6

8

10

12 11.23

4.17

7.06

Source: State Bank of Pakistan, 2008

Deteriorating Quality of Services:

As the consumer financing portfolio is increasing, quality of related banking services is becoming a serious issue. Processing delays, service inefficiencies, unauthorized debits and non-compliance with requirement of providing monthly bank statements are few examples of poor quality of banking services.

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Unsolicited Financing:

Aggressive marketing campaigns launched by the banks are targeting the consumers and repeatedly encouraging them to purchase a loan or credit card. This supply driven approach is creating artificial consumerism on one hand, and is limiting the choices for consumers, on the other. A car lessee, for instance, is bound to insure the car from insurance company of the bank’s choice.

Poor Information Disclosure Practices:

Although PRCF require the banks to ensure transparency through disclosure, access to information related to consumer financing remains a critical issue. A strong culture of secrecy prevails in the banks, as they avoid providing even ordinary and insensitive data.

Requirement of Collateral:

Small farmers which constitute 69% of rural households got only 23% of bank loans, whereas big landlords, who represent only 4% rural households, got 42% of institutional credit. One of the reasons for this disparity is the inability of small farmers to provide collateral to banks.

4.4 Future prospects of Consumer Banking in Pakistan

Banks are focusing more on consumer finance and their strategy is fully complemented by the company’s marketing consumer durable. Now an individual can acquire from a mobile phone to an expensive automobile on monthly installments if he/she can convince the lender about regular income and repayment ability. It is a two-way traffic and both the lender and borrower have realized their rights and obligations. Financial institutions are in the business of lending and cannot afford delinquent loans. Similarly people desirous of improving their lifestyle wish to continue accumulating new assets. Therefore the best practice to follow is ‘you keep me happy I will keep you happy’. Consumer financing has started slow down now.

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Types of Consumer Complaints in 2006

The growth was 29% or 72.4 Billion in the first half of 2006 as compare to the total consumer portfolio equal to Rs.325 Billion or 13.5% of the overall loans of the banking sector. The growth has shrunk to 9% in first half of 2007. The reason for this is not the precautionary measures taken by bank but higher rates due to which consumer are shying away from consumer financing. The diversion of the Government borrowing from central bank to commercial banks is also creating a crowding out impact thus leaving a little room to the banks to remain aggressive in the area of consumer financing.

Section 5 CONCLUSIONS

5.1 Conclusions

Consumer financing has expanded in Pakistan at an unprecedented growth rate over the last seven years. The banks have intensively capitalized upon the demand for consumer financing and earned record profits within the generous space of credit policy provided by the State Bank of Pakistan (SBP). This space has further motivated the banks to get into unsolicited financing by aggressively marketing products even where no genuine demand exists. Despite that a regulatory framework is in place, the banks appear to have failed in terms of full compliance with SBP regulations, and in satisfying majority of their customers against various service parameters.At the macroeconomic level, consumer financing has significantly contributed to economic turnaround by stimulating consumption and investments. There has been a phenomenal increase in private consumptions due to easy availability of credit from banks. However, in tandem with this development, the manner in which consumer financing is being delivered has seriously jeopardized the competitiveness in economy. A cartel-like pattern appears to have emerged in the banks, given that interest rate spread is among the highest in the world.

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Moreover, consumer financing has significant impact on inflation, which is rising sharply. In face of the economic challenges facing Pakistan, the SBP can no longer afford to overlook the state of poor competition in the financial sector.From a consumer perspective, consumer financing has been helpful in improving the quality of life of the people who have the capacity of servicing the loans. However, there is mounting evidence that this capacity is deteriorating due to high spread and variable interest rates onloans. Depositors are not getting due returns due to high difference between lending and deposit interest rates. Lack of consumer education on banking terms and conditions, policies, rules, and regulations is also a critical factor in securing financial rights.In recent years the regulation for tenure and amount of consumer financing has been changed many times but still the bank’s customers are not totally satisfied by the tenure of consumer financing. Improper guidance, slow processing and bank statement are the major problems faced by bank’s customers in getting consumer loans. The reason for these problems is that people applying for consumer loans don’t have proper information about the requirements by the banks and due to high number of applications & lengthy procedure by banks, the loan processing is slow. Middle class wants to enjoy all the luxuries of life without taking into consideration the impact of these luxuries financed obviously by commercial banks on their monthly income. Very few borrowers know that the rate of interest being charges on consumer finance by the financial institutions is too high as compared to prime interest. In case of credit cards, despite of many changes in bank policies and strict regulations by SBP still bank’s customers are facing hidden charges problem. Due to unclear policies and term & condition of banks, customers are not able to know about different charges of banks and the problem of hidden charges occurs. On the hand, although Credit Information Bureau (CIB) provide complete and accurate information about the bank’s customer credit records but still loans default occur in consumer financing. The problem is not with only due to false

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Nine Year Average Interest Rate Spread of 14 Countries

Source: SBP Annual Report

customer records but also due to wrong policies and improper assessment by bank which cause defaults on consumer loans. The target market for issuing consumer loans for banks is middle class because they have the strong ability to pay off their loans. Upper class is generally not targeted for consumer financing because they have enough resources & purchasing power to buy any product. High markup made personal loans and credit cards the most preferred category of consumer financing by the banks. While in terms of loans amount the biggest category of consumer loans are auto & mortgage loans and they are preferred by banks because they have collateral which provide security in case of any default. Auto loans have become very trouble-some for the private banks. The rate of defaults has increased at phenomenal rates. The cars are auctioned at lower prices which do not recover the entire amount invested by bank. To compensate the loss caused by these auto loans private bank charge high mark up on cars. House and car financing are safe modes of financing from the banker’s point of view as the every rising real-estate and car prices coupled with safety margin in the shape of down payment allow the bankers to enjoy a sound night sleep.

Most of the bank’s customers prefer local banks for general banking activities this is mainly due to large branch network, wide range of services and low service charges provided by the local banks. But for consumer banking, customers prefer foreign banks in Pakistan; this is due to high range of consumer banking services provided by them. Foreign banks which are the introducer of consumer bank in Pakistan still retain the major share of consumer financing in Pakistan. During the last five years consumer banking had witnessed a high growth in Pakistan but its growth rate is declining now which is due to the high markup rate charged by banks and high increase in non-performing loan (NPL) with low recovery rate. Maintaining the critical balance between savings, investments and borrowers debt-servicing ability is possible if input prices remain stable, affording business sustain their profitability and interest rate remains stable. There is no denying to the fact that consumer credit within prudent and sustainable limits is desirable for economic growth, smoothing consumption and improving credit risk diversification. At the same time unsustainable consumer growth in weak macroeconomic environment, ineffective prudential and regulatory framework, weak

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RBS

Source: SBP Annual Report FY 07

risk management system and legal infrastructure can create systemic vulnerabilities. The consumer finance is money lending affairs to a needy for his well beings and ultimately to rise his living standard in the society. It is financing facilities that generally and wholesomely support consumption and as a result improves the overall living standards of households. Credit card is a risky mode of finance as no collateral is available to cover risk. Perhaps this is the reason that this segment of bank finance has been allowed to operate on the terms of the bankers without any worthwhile monitoring by SBP. The growth in our economy has led to increasing consumption trends, resulting in the widening demand and supply gap. However as the people of the country become more educated they have realized the benefits and conveniences of using plastic money as a mode of payment. At the moment less than 1% population of the country is using plastic money in Pakistan; therefore one can put complete blame of inflation and price hike on it. Inflation in basic food items which is 11% is not directly linked to plastic money or consumer financing. Developed countries facing rampant consumerism find plastic money most efficient and acceptable mode of payment. The total Non-Performing Loan of commercial banks in Pakistan has touched level of Rs.154 Billion which is covered by 66% provisions in 2007. The local private banks have loan loss coverage of 63% as on June 30, 2007. And for public banks and foreign banks this ratio stood at 74% & 86% respectively. Foreign banks in Pakistan have loan loss coverage of 86% and they have provided more than the required provisions against Non-Performing Loan.

Share of Products in Total Consumer Financing Portfolio

40.40%

16.39%

36.36%

12.55%

Personal loansMortagage loansAuto loansCredit Cards

Source: Banking Surveillance Department, Quarterly Performance Review of the Banking System. June 2007

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Growth in Consumer Financing (July-January 2007 and 2008)

Portfolio Fiscal Year

2007 2008

Mortgage Loans 15.5 17.6

Credit Cards 19.2 6.9

Auto Finance 8.0 6.0

Personal Loans 7.9 3.0

All 10.4 6.6

Source: State Bank of Pakistan Second Quarterly Report for FY 08

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