Although the country's economy is growing for the last few years, however the State bank of Pakistan recently has warned that low risk premia and oil prices, besides continuing global imbalances has been identified as significant risk factors for the sustainability of present economic growth.
State Bank of Pakistan (SBP) has issued a new annual publication namely "Financial Stability Review 2006" (FSR) last week, which upgrades the analytical content of the "Financial Sector Assessment Report", published by the SBP since 2002.
The SBP said global economy had now for some time enjoyed good economic growth and increasing depth in financial markets, accompanied by significant financial innovation.
This growth co-existed with a rare combination of favourable economic indicators, with relatively benign inflation levels under the watchful eye of increasing more independent central banks around the world, SBP added.
"Low risk premia, an easy access to finance, oil prices, besides rising commodity prices and continuing global imbalances remained significant risk factors for the sustainability of present economic growth,” the SBP indicated.
Due to strong growth in the first half of 2007, the projected growth figure for the year is expected to remain the same, though the growth figure for 2008 has been reduced by 1/2 (half) percentage point, with the largest downward revision in the projected growth for the United States, which is now expected to grow at 1.9 per cent in 2008, as opposed to the 2.8 per cent growth projected earlier.
However, despite these developments, some of the factors contributing to favourable economic growth remain relevant in an analysis of global developments.
The most significant among these trends was the emergence of global savings in the last couple of years. This phenomenon particularly established a foothold in Asian economies subsequent to the East Asian crisis, which led the countries most, impacted by it to specially focus on issues related to financial sector stability, SBP said.
While, this has had a positive impact on these economies, the US current account deficit continues to be a cause for concern especially since it is being funded by savings of the Asian economies, and there are concerns about the sustainability of this pattern. Report revealed that Pakistan's progressive and dynamic financial sector continued its growth during fiscal year 2007 and its overall size reached Rs6.9 trillion mainly due to the reform process.
Whereas market capitalization of the Karachi Stock exchange grew by 38 per cent in fiscal year (FY) 2007 to reach 46 per cent of GDP. FSR report said that first sign of the current market turmoil suffered in February-March 2007. It was not until a series of events which unfolded in repaid secession from mid-July 2007 onward that the actual extent of the impact of the credit squeeze on financial market was realized by the central banks and market participants around the world.
The report highlights that Pakistan continues to be categorized among the low savers of the world. The analysis suggests that the financial system now needs to focus on providing innovative liability products to give the investor and saver various options to choose from, according to his own risk/return preference.
The role of Private Pension Schemes is particularly important as an incentive to smooth out consumption patterns over the life-cycle, by providing a forced saving mechanism aimed at overall social security. The challenges for the financial sector in the coming years would need to keep in view these challenges while building on the strengths and resilience of the financial institutions in maintaining the overall stability of the financial system.
The overall size of financial sector during calendar year 2006 (CY) has grown by 32 per cent or almost Rs900 billion over December 2005 to new peak of Rs6.9 trillion by June 2007, FSR said.
Banks with a share of 72 per cent in total assets continue to dominate the asset base of the financial sector. In terms of financial soundness indicators CY 2006 was the third consecutive year of strong financial performance of the banking industry. Some 17 per cent year on year (YoY) increased in the assets pushed the overall size of banking sector to Rs4.3 trillion by the end CY 2006, which further increased to Rs5 trillion by first half of CY 2007, FSR report informed.
The FSR gives a candid perspective and analysis of financial stability, and provides an objective view on the developments in the financial sector. Providing an in-depth analysis of issues of relevance, the report offers an exhaustive overview of the financial institutions and markets.
Capital markets continue to perform well, with market capitalization at Rs4 trillion by end-June 2007, and the KSE-100 index at 13,772 points, a historically high level depicting a growth of 38 per cent over end-June 2006. The salient feature of the year was the volume of capital inflows, and of foreign investment in the equity market.
Foreign participation as measured by SCRA flows reached a level of 6.8 per cent of the market capitalization by end-June 2007. KSE is one of the best performing markets in the region, and continues to trade at a discount in comparison.
Central bank said that structural transformation of the financial sector is significant and is owed to the dedicated implementation of the reform process. The financial sector has grown substantially both in size and qualitative terms in recent years. The reform process is paving the way for a more diversified financial sector, equipped to facilitate the economic growth process. The outreach of the financial sector, albeit slow, continues to gain ground with the expanding network of commercial banks, microfinance institutions and Islamic banks in all parts of the country.
In the last three years, commercial banks have operated on a sound capital base with an enviable record of financial performance. The quality of the risk-based capital provides further comfort as the share of core capital in the overall risk-based capital has reached 80.3 per cent by June 2007, compared to 73.7 per cent in CY05. These changes in the capital adequacy ratio, together with the improved quality of capital, have enhanced the resilience of the banking sector to withstand unexpected shocks.
Banks have made inroads into the previously under-served segments. The diversification of bank credit in recent years is evident in the rise in share of SME, agriculture and consumer finance in outstanding credit to 15.4, 5.8 and 14.3 per cent respectively at end-June 2007.
On-going mergers and acquisitions (M&As) have exerted a profound impact on the ownership structure of the financial sector. The financial sector is predominantly led by the private sector, constituting both domestic and foreign financial institutions, controlling 64.9 per cent of overall assets, FRS informed.
Within the banking sector, private ownership has grown to 78 per cent of assets, and entry of foreign, Islamic and microfinance banks are adding depth to the financial sector. In terms of asset holdings, the insurance sector is still dominated by public sector entities and lacks dynamism, the report added.
Banks have made inroads into the previously under-served segments. The diversification of bank credit in recent years is evident in the rise in share of SME, agriculture and consumer finance in outstanding credit to 15.4, 5.8 and 14.3 per cent respectively at end-June 2007.
In addition, the process of a gradual shift towards fixed deposits has already started, as evidenced by the gradual narrowing of banking spreads. As a result this would generate a more pronounced impact on curtailing banking spread.
