The government has decided to finally increase lending levels amid the threat of an additional tax of 15 per cent looming over banks due to low private lending. Banks were able to sidestep these additional taxes last year by negotiating with the government; however, Islamabad refused to budge this year.
This led to banks taking the matter up with Islamabad High Court (IHC), which granted them a temporary moratorium on the additional tax payments. The reason why banks are facing an ‘additional’ tax being levied on their earnings is due to their low Advance-to-Deposit Ratio (ADR) figures.
For reference, ADR refers to the percentage of a bank’s deposits that are being lent out to satisfy non-government sector needs – such as those of businesses, individuals, and other private entities.
Since the ruling of the IHC in their favour, banks have increased their ADR to avoid any further run-ins with the law. However, they have still not surpassed the legal threshold level of 50 per cent, shying away from the legal ratio by six per cent. The economy is likely to see increased lending to non-government sectors now, as banks will have to face the additional tax if the ADR requirement is not met by the end of 2024.
At first glance, this spells great news for businesses as they will now be able to expand the scope of their operations using loans from banks. However, this might not end up being the case as Pakistani banks have traditionally favoured risk-free investments in government securities.
If banks continue to exhibit this behaviour of lending to businesses that are considered safer investments, credit might get extended to companies that work with the government. As such, the aforementioned benefits to businesses could be reaped by those linked to the government via contracts.
Since working with the government might signal to banks that businesses possess a safe stream of income, banks may feel more comfortable lending to them. As such, these businesses will be able to grow operations and secure more government contracts.
The companies most frequently contracted by the government are primarily construction companies. As such, banks could see a disproportionate flow of credit towards construction companies. However, even though loans might be preferential, it does not mean that growth may not be seen.
This is because if the construction sector witnesses growth, it will also propel more than 42 other ancillary sectors, such as steel, cables and cement, to name a few.
It will be interesting to note how the lending patterns of banks have changed with the legal system breathing down their necks. Will satisfying ADR requirements boost business growth? Only time will tell.