The State Bank of Pakistan (SBP) has revealed that the banking sector saw a modest increase in profits, growing by just 1.1% to Rs. 287 billion in the first half of 2024 (H1 2024). According to SBP’s Mid-Year Performance Review of the Banking Sector, this represents a slowdown compared to previous periods, signaling a shift in the profitability landscape. A combination of reduced growth in advances and falling returns on earning assets, as market interest rates adjusted to declining inflation, contributed to the slowdown.
The banking sector’s net interest margin (NIM) also experienced a contraction during the reviewed period. Net interest income (NII) in H1 2024 was 13.2% lower than in the second half of 2023. A deeper analysis reveals that while the changes in interest rates negatively impacted the earnings from advances, investments saw positive contributions due to both rate changes and increased volumes. On the deposit side, both changes in rates and higher deposit mobilization contributed to increased interest expenses. Meanwhile, lower rates on borrowings helped reduce borrowing expenses, although increased borrowing volumes somewhat offset this effect.
Key profitability indicators, such as Return on Assets (ROA) and Return on Equity (ROE), also reflected the slowdown. ROA fell to 1.2% in H1 2024, down from 1.5% in the first half of 2023, while ROE dropped to 20.4%, a significant decline from 26.0% in H1CY23. Despite these declines, the sector’s overall profitability remained steady, supported by strong non-interest income sources such as fee income and trading gains on government securities.
Looking ahead to the second half of 2024 (H2CY24), the performance of the banking sector will depend on several external factors, including the evolving macroeconomic environment and policy decisions. Encouragingly, economic activity has begun to revive, with inflationary pressures receding and the current account deficit narrowing. Additionally, the SBP has reduced the policy rate by 450 basis points (bps) to further ease financial conditions. This improved environment, along with a stable exchange rate, is expected to benefit the sector in the coming months.
The SBP report highlights that investments, driven largely by the government’s borrowing needs, are expected to continue to lead balance sheet growth in H2CY24. Advances may also pick up pace towards the end of the year due to seasonal factors, a recovery in economic activity, and more favorable financial conditions. Overall, earnings in the banking sector are projected to remain steady as a result of increasing earning assets, which should support solvency.
The improved economic climate could also bolster credit demand and enhance borrowers’ repayment capacities, thereby reducing credit risk for banks. Additionally, the recent upgrade in Pakistan’s sovereign credit rating bodes well for the sector, although timely implementation of a new International Monetary Fund (IMF) program will be critical in restoring financial inflows and ensuring sustained economic recovery. However, the banking sector’s heavy exposure to government debt remains a challenge. Reducing this reliance will require fiscal reforms aimed at minimizing the government’s dependency on banks for financing.
Despite these challenges, the banking sector is expected to remain resilient, thanks to strong capital buffers. Stress tests conducted by the SBP suggest that the sector, particularly the larger systemically important banks, is well-equipped to withstand hypothetical but plausible shocks to the economy over the next two years.
The SBP’s review also noted that the banking sector’s balance sheet grew by 11.5% in H1 2024, primarily driven by investments in government securities. Advances saw limited growth due to net retirements in the private sector, although long-term financing to small and medium enterprises (SMEs) showed signs of recovery. The decline in private sector advances was, however, less pronounced than in the second half of 2023.
On the funding side, deposits increased by 11.7% during the same period, mainly from savings and current deposits. The rapid growth in assets necessitated additional funding, leading to continued reliance on borrowing. Nevertheless, the asset quality of the banking sector remained stable, with only a slight increase in non-performing loans (NPLs). Provisioning coverage against NPLs improved to 105.3% by June 2024, with the implementation of IFRS-9 requiring banks to set aside general loan loss allowances for performing loans.
The solvency position of the sector remains robust, with the Capital Adequacy Ratio improving to 20.0%, up from 17.8% in June 2023, well above regulatory requirements. The SBP report concludes that, amid improving macroeconomic conditions, the domestic financial markets experienced less stress during H1 2024.