Moody’s Investors Service has said the five-year strategic plan issued by the State Bank of Pakistan (SBP) will drive strong asset growth in the Islamic finance sector because of high demand from the domestic population for Islamic banking.
“We believe that this strategic initiative will lead to strong growth and consolidation in the sector, given the relatively small size of market participants and capital bases needed to support growth,” a statement quoted Khalid Howladar, Moody’s global head of Islamic finance, as saying on Wednesday.
While expecting optimism about growth prospects of Islamic banking in Pakistan, Moody’s noted risks associated with high growth rates, which will pressure underwriting and the risk management infrastructure.
Deposits of the Islamic banking industry increased to Rs872 billion at the end of the first quarter of 2014, up 23.8% from March 2013. The market share of Islamic banking industry’s deposits in the overall banking industry stands at 10.7% in March, up 1% from the market share of 9.7% one year ago.
The SBP’s five-year strategic plan targets a 15% share of banking system assets for the sector by 2018, up from around 10% as of December 2013.
“Although the asset quality of Islamic banking is currently better than that of conventional banking – with a non-performing financing ratio of 5.7% as of end-2013 versus 13% for conventional banking – the high rate of financing growth may eventually lead to higher delinquency ratios in the absence of a prudent approach to expansion,” according to Melina Skouridou, Moody’s analyst for Pakistani banks.
Additionally, according to the regulator’s mandates, the banks need to establish separate departments to manage risk, auditing, treasury activities and other support functions for their Islamic operations, which pose additional risks and will pressure the banks’ infrastructure.
According to Moody’s global head of Islamic finance, Islamic banking in Pakistan is growing rapidly with annual growth rates of Islamic banking above 30% between 2009 and 2013. While most of this growth has been generated by the dedicated Islamic banks, most of the country’s largest conventional banks have announced expansion plans targeting the fast-growing Islamic sector.
For example, National Bank of Pakistan (NBP) will convert around 6% of conventional branches into Islamic banking branches over the next two years.
In April, MCB Bank aborted efforts to buy a majority stake in Burj Bank, which is a relatively small Islamic bank, and is instead setting up its own Islamic banking subsidiary.
Similarly, Allied Bank has also launched Islamic banking operations in 2014 through stand-alone shariah-compliant branches.
“We believe that the push for Islamic banking services will help to expand overall banking system penetration, which is currently low in Pakistan where consolidated banking system deposits accounted for only 36% of GDP as of end-2013,” Skouridou said.
The SBP’s five-year plan envisages doubling of the number of branches in 2014-18. It also envisages revamping of Shariah-compliant export financing schemes and making available Shariah-compliant long-term financing facility.