Shamshad Akhtar: Pakistan - banking sector reforms: performance and
challenges
Lecture by Dr Shamshad Akhtar, Governor of the State Bank of Pakistan, at the Graduate Institute of
International Studies, Geneva, 1 February 2007.
* * *
A. Introduction
In recent years, growth and turnaround in Pakistan's banking sector has been remarkable and
unprecedented. Classified as Pakistan's and region's best performing sector, the banking industry's
assets have risen to over $60 billion, its profitability is exceptional and at an all-time high,
nonperforming loans (NPLs) are at an all-time low, credit is fairly diversified and bank-wide system risks
are well-contained. Almost 81% of banking assets are in private hands. Likewise, the present foreign
stake comes to 47% of total paid-up capital of all the financial institutions regulated by State Bank.
Given its achievements, Pakistan's banking sector reforms offer a useful insight into design-specific
lessons for countries venturing to restructure and reform their banking sectors. Dwelling on these
lessons, I propose to further outline the significant impact and benefits of banking sector reforms of
Pakistan on its population and economy. While a lot has been done and achieved, sustainability of
banking system requires the banking industry to position itself to address the emerging challenges and
complications, commonly observed in the post-banking liberalization era. Recognizing this, the State
Bank of Pakistan (SBP), in partnership with the industry, plans to implement the outstanding reforms
agenda, while also taking new initiatives, to broaden and deepen the banking system.
B. Banking sector design-specific lessons
The first lesson learnt from Pakistan's banking sector reforms is that the reform strategy needs
to be broad based and well sequenced. The reforms must be all-encompassing; resultantly the
process is arduous, complex and continuous.
Pakistan's banking sector reforms have been launched and implemented over 1990s. The pace and
sequencing of these reforms were aligned and sharpened to provide a major impetus towards the end
of 1990s.
Deregulation and restructuring took a strong foothold in Pakistan as the Government decided to
privatize banks and allow liberal entry of new banks. Simultaneously, SBP removed all restrictions and
barriers on banks' conduct of business by 1997/98 which included: (i) removal of floor and caps on
interest rate structure by 1997-98; (ii) abolishment of concessional lending schemes (except for
Locally Manufacturing Machine and Export Finance scheme); and (iii) lifting the cap for project
financing. Accordingly, banks and NBFIs were able to set their lending rates in relation to the
demand/supply conditions in the market.
While promoting banking sector liberalization, SBP ensured introduction of effective and
comprehensive regulation, consistent with international standards and best practices, and
implemented institutional restructuring and strengthening.
Carrying forward the bank restructuring process in 2007, the Government is planning to float Global
Depository Receipts (GDRS) of few large banks by offering a proportion of their shares in international
markets. This should help to further dilute government holdings in large banks. Taking cue from the
minimum capital requirements (MCR) imposed by SBP, market led mergers and acquisitions (M&A)
are helping consolidate and, as such, develop stronger and robust banking sector.
The second lesson is that effective monetary policy and conducive economic environment
facilitate transition and augment impact of reform. The dismantling of credit ceiling, both at sector
and bank level, and the switch to market based indirect monetary instruments improved the quality of
monetary management. These measures, along with the move of the Government to market based
pricing of central bank borrowing, helped reduce fiscal subservience of monetary policy.
Macroeconomic stability (following the lowering of fiscal deficit and external current account deficit
over FY2002-03) provided an environment for central bank to ease monetary policy, which helped
bring down interest rates to historical low of 5.05%1 by June 2004.
The third lesson that emerges from the banking sector reforms is for the regulator to have
effective powers and capacity to lead and implement reforms. Prior to the reforms, SBP's
autonomy was limited and its supervisory domain was undermined by the Pakistan Banking Council
(PBC), a body formed to oversee the affairs of the nationalized commercial banks (NCBs). Moreover,
the supervisory framework lacked proper risk mitigation elements and supervisors lacked requisite
supervisory skills in this regard. In addition, the regulatory capacity was inadequate to regulate a
market oriented financial system. In 1997, SBP legislation was amended to enhance SBP's
independence and to empower its Board more effectively in monetary management matters.
Furthermore, PBC was abolished and central bank staff was trained in relevant areas to build capacity
at all levels. There has been considerable accomplishment in terms of central bank obtaining the
necessary understanding and leadership for steering the process of bank reforms. SBP is now
equipped to deal with numerous transition challenges that are commonly observed, given the state of
economic development, governance and political economy, in developing countries.
Another lesson learnt from Pakistan's banking sector reforms is that bank privatization
succeeds if accompanied with appropriate debt and labor restructuring. In early 1990s, the
Banks (Nationalization) Act, 1974 was amended to empower the Government to sell all or any part of
the share capital of NCBs and to allow entry of new banks. The Privatization Commission Ordinance
laid down the legal framework for privatization and provided for the establishment of Privatization
Commission, which facilitated banking sector privatization. The process was led by competent
transaction teams who conducted valuation and structured deals in a transparent manner.
Pursuant to nationalization, weaker banks were merged with relatively bigger banks involving
regrouping of 11 banks into five large banks. Of these, four banks were subsequently privatized and
strategic shareholding of two large banks is now with foreign parties. In addition, the Government has
offloaded 26% stake of the largest bank, National Bank of Pakistan through the stock market.
Presently, the top five banks cumulatively account for 52.6% of banking assets. In parallel to
privatization of NCBs, SBP over the last 16 years or so licensed 28 new banks, of which six are
microfinance banks and five Islamic banks.
Success of Pakistan's privatization program emerged from a well coordinated effort to recognize
upfront need for change of management, debt and labour resolution. The Government facilitated bank
restructuring process by recapitalization of banks through (i) equity injection of Rs46 billion in some of
the public sector banks and write offs equivalent to Rs51 billion, (ii) lay off of close to 35,000
employees in two phases2 from public sector banks and (iii) closing of over 2000 unbanked branches.
To reduce the level of NPLs, the Government and SBP coordinated to establish the Committee for
Revival of Sick Industrial Units (CRSIU) Corporate and Industrial Restructuring Corporation
and the
(CIRC) which together have enabled debt recovery of Rs15.1 billion, while settling write offs to acquire
the NPLs of public sector banks. Creation of a National Accountability Bureau (NAB) Cell at SBP to
expeditiously process the cases of wilful defaulters has further facilitated debt resolution. Moreover a
the Financial Institutions (Recovery of Finances) Ordinance, 2001
special law, was enacted with a
view to facilitate speedy recovery of loans. SBP also introduced a special scheme to speed up the
recovery of NPLs. Under this scheme, borrowers were allowed to settle their obligations on the basis
of Forced Sale Value vis-à-vis outstanding amount, whichever is lower. Borrowers were required to
deposit 10% down payment at the time of signing of settlement agreement and repay remaining
amount in 12 quarterly instalments. The scheme encouraged a lot of defaulters to come forward and
settle their long outstanding liabilities.
Finally, it is important to recognise that quality of ownership and professional management are
key to success of privatization. While launching privatization of state owned banks, in early 1990s,
the Government eased entry requirement and allowed issuance of a number of bank licenses. Under
Guidelines for Setting up Commercial Banks,
the criteria, Pakistan has for long allowed and had
foreign banks in the country. Banks are encouraged to be set up as local subsidiary along with
strategic holding of up to 49% or they can conduct banking business in branch mode or as a wholly
owned, locally incorporated subsidiary provided these are: (i) banks from countries belonging to
regional groups and associations of which Pakistan is a member and (ii) foreign banks with global
tier1 paid-up capital of US$5 billion or more. Moreover, on a case to case basis foreign banks may be
allowed to open a wholly owned subsidiary. Aside from change of ownership to private sector, central
bank through its fit and proper criteria has encouraged appointment of professional management and
Boards at the banks so that those charged with the responsibility of management and oversight have
due competence, integrity and qualifications.
C. Trends, impact and benefits of reforms
The sustainability of transformation in banking sector, in any environment, is critically dependent on
reforms' success in (i) promoting higher degree of depth and efficiency in financial intermediation
process by effective resource (deposit) mobilization and channelling these resources to productive
sectors at competitive pricing, thus playing a critical role in promoting economic growth; (ii)
strengthening the financial performance and soundness of banks; and (iii) extending the outreach of
financial services to under-served/un-banked segments of the society.
Depth and efficiency of financial intermediation in Pakistan has improved. This is captured by the
rise in: M2/GDP ratio from 36.6% in FY00 to 44.2% in FY06; bank assets to GDP ratio from 49.1% in
1997 to 55.6% in 2005 and deposit to GDP ratio - an indicator of the level of financial savings - from
38.7% in 1997 to 43.1% in 2005. More significantly, equity market capitalization grew from merely
10.3% of GDP in 2000 to 37.1% of GDP in 2006. Equity markets benefited from sizeable growth in
banks and their performance. Now banks constitute almost 25% of market cap at Karachi Stock
Exchange and valuation of their shares is quite high with commercial banks' P/E ratio of around 10x in
December 2006.
Despite significant improvement in financial indicators, relative to its regional comparators, Pakistan's
financial market has a relatively lower depth and penetration (see para. 24 below). Moreover,
Pakistan's financial system continues to be predominantly bank based with the bond markets barely
constituting 5-7% of GDP and the low pension and insurance coverage.
Profitability and financial soundness of banks is impressive and Pakistan's performance
indicators in this area are amongst the best in its regional peers. The profits of commercial banks
crossed over $1 billion for the first three quarters of calendar year (CY)2006. Over CY2000-September
2006, return on assets of banks rose from negative 0.2 to 2.1 and return on equity from negative 3.5%
to 26.1%. Banks' profitability has been driven by a combination of factors. These include (i) a rise in
earning assets of commercial banks to 85% in September 2006 which is significantly above the
prereform period and a rise in advances to total assets from 49.1% (CY2000) to 55.1% (Sep 2006), (ii) a
decline in the total and operating expense to income with latter being half the pre-reform period, (iii) a
rise in the SME, consumer finance and agriculture sector lending which constitutes over one third of
total outstanding advances and typically is priced above the average lending rates and those
prevailing for larger corporate clients, (iv) a high share of non interest bearing or low yield deposits,
while share of fixed term (above 6 months maturity) deposits declined and (v) a substantial growth in
service charges which are emerging as a new source of revenue as electronic banking is taking hold.
A SBP study has highlighted that privatization has had distinct impact on profitability of the banking
sector, though its impact on efficiency is relatively weak.3 This is largely as older and larger banks
need more lead time to enhance their capacities and develop their internal control systems to improve
efficiency. It is expected that over the period there will be more progress in these areas.
Industry wide capital adequacy ratios (CARs) are high while NPLs have scaled down. Risk
weighted CAR for banks has increased from 11.3% in December 2005 to 12.7% by 30 September
2006: Tier 1 capital to risk weighted assets rose from 8.3% to 9.8% and capital to total assets from
7.9% to 8.8%. Aside from recapitalization, banks' capital adequacy ratios have benefited from new
capital injections and/or re-ploughing of profits as banks are required to raise their capital base. Debt
settlement and recovery (see para. 12 above) coupled with introduction of sound prudential
regulations, vigilant supervision and stricter enforcement of these regulations have facilitated a sharp
fall in NPLs to total loans and net NPLs to net loans ratios to 7.7% and 1.8%, respectively over
CY2000-September 2006.
Growth in private sector credit and underlying sector diversification has improved. Set to
expand businesses, in the last three years, banks have recorded a record growth in private sector
credit which reached close to Rs402 billion ($6.7 billion) in FY06. This has helped serve the economy
well in a number of ways. It has fuelled economic activity, revived and enhanced industrial capacities,
met crop and non-crop requirements and has supported steady growth in services sector whose
contribution to GDP has grown to 52.3%. Presently, the corporate sector accounts for almost half of
the total credit outstanding, credit to agriculture sector now accounts for 6.4%, SME-financing
accounts for 16.1%, and consumer financing accounts for 14.3% of the total credit outstanding.
To enhance the reach of the banking system and serve the society's credit requirements, SBP
encouraged systematic development of microfinance sector as well as Islamic financial institutions.
Primarily in informal sector, the microfinance industry is now being nurtured in formal sector. The
Microfinance Ordinance, 2001, supported by SBP's dedicated prudential regulations, provides the
legal and regulatory framework for microfinance banks, which is consistent with the best practices. To
date, SBP has approved licenses for six microfinance banks4 but these banks have only recently been
operationalized so their impact has yet to emerge. Islamic banking is gaining a foothold in Pakistan as
SBP has issued licenses to six Islamic banks and allowed a number of conventional banks to offer
Islamic window. SBP is working with the industry to promote Shariah compliance regulatory and
supervisory framework. While still at a nascent stage, constituting only about 2.3% of industry assets,
the growth in Islamic banks has far exceeded the growth observed in larger Asian markets.
Consolidation of banking sector helps develop a stronger and robust banking system but it
requires regulator's determination and industry's dynamism to launch effective mergers. To
encourage a consolidated banking sector, SBP called for a phased increase, over a period of five
years, in the MCR of commercial banks to eventually reach at least Rs6 billion ($100 million) by the
year 2009. Domestic private banks have either injected own capital or sought alliances and
partnerships to augment capital; alternatively domestic or foreign banks have stepped in to acquire
mid- or small-sized banks to expand their capital and outreach. Excluding specialized financial
institutions (such as microfinance and Islamic banks who have been allowed new licenses) SBP has
imposed an embargo on new conventional bank licenses. The process of capital enhancement and
consolidation has progressed well. Of the total 39 commercial banks (excluding microfinance banks
that enjoy lower capital requirements), eight banks have complied with 2009 stipulated capital
requirements and 16 banks have raised capital to meet 2006 MCR, while other 11 banks are well on
their course to meet the prescribed MCR. There remain four banks that are either in the process of
being privatized, such as SME Bank, or those with specific mission/objective, such as the First Women
Bank, who remain below the stipulated requirements. While capital injections have been spurred by
the possibility of recourse to capital markets or foreign interest in banking system, the impetus to
consolidation emerges from the wave of M&A, which in turn is driven by foreign interest in Pakistani
banks triggered by their profitability.
There has been a growing foreign interest. Existing foreign banks have by and large enhanced their
presence and stake in Pakistan and some new foreign banks have entered for the first time. Since the
year 2000, 30 M&A have taken place. At present foreign stake comes to 47% of total paid-up capital of
all the financial institutions regulated by State Bank. The most sizeable deal of $513 million was struck
by the Standard Chartered Bank which acquired a mid-size strong local bank (Union Bank). This is
being followed by others such as ABN-Amro, NIB and Citibank etc. that are contemplating
acquisitions. This M&A wave will help further consolidate the banking sector. Principally driven by high
investor confidence and economic prospects, the current M&A wave is also triggered by the need for
banks to meet higher capital requirements and also growing competition which will make it
increasingly difficult for small banks to survive. Together the growing trend of M&A and recent issue of
GDR of MCB Bank at the London Stock Exchange have attracted close to $1 billion inflows and
another equivalent amount is yet to flow in.
D. Sustainability of banking sector reforms
Prospects for the continued and sustainable banking sector growth are promising. What lends
confidence to bankers that are fast expanding their stakes and interest in Pakistan is the
(i) high and sustainable economic growth that the country is set on; real GDP in the past 2
years grew by 8.6% and 6.6% and is now set to register another 7% growth;
(ii) real consumption expenditure is on the rise and leading the demand growth, boosted by
doubling of per capita incomes to $850, a fourfold increase in remittances over few years,
rising industrial capacities for consumer durables, automobiles, etc. and growing role of
consumer financing and personal loans in meeting the demand for consumer goods;
(iii) in recent years, investment spending has gained substantial momentum and will be rising
further as the Government and private sector launch and implement large infrastructure
projects. The Government has plans to add 5000 MW new power capacities in private sector
along with a number of hydel projects, highways and port infrastructure, while catering for
the development of large urban infrastructure to upgrade large cities; and
(iv) foreign direct and portfolio flows is at an all time high and is expected to further grow given
the economic potential and high returns on equity in both corporate and banking sectors.
The scope for enhancement of banking business is phenomenal as the level of financial
exclusion is exceptionally high despite the growth in banking. Today, penetration ratio of financial
services is low judged by any measure. Thus far less than 20% of the population has access to
financial services given Pakistan's low depositor base and number of borrowers are under 5 million
(3% of population). More graphically, there are only 171 deposit accounts per 1000 people and 30
loan accounts per 1000 people. Like wise, only 30% of the adults have bank accounts. Credit/GDP
ratio at 27% is low judged by country and sector financing requirements or judged by levels prevailing
in emerging markets. Consumer financing penetration ratio is 3.9%; steps are being taken to relax
exposure limits for consumer financing selectively for banks based on a uniform criteria whereby
banks with experience, stronger risk management controls and track record will be able to expand this
business. Commercial banks barely provided $1 billion for mortgage markets. The microfinance
industry reaches only 770 households and agriculture and SME financing reaches to 300,000
borrowers each.
A number of development initiatives are underway to support banking sector to enhance its outreach.
A strategy for microfinance industry is in the offing which advocates up scaling the outreach to 3
million people or more over next five or so years by allowing flexibility to microfinance institutions to
commercialize their business and remove any distortions that stand in the way, while looking for
partnership with well experienced international microfinance institutions to transfer the requisite
approaches and modalities that have worked well in other environments. At the same time, work is
underway to promote mobile banking which ought to help expand outreach of financial services.
In the SME sector, banks are now allowed cash flow based lending and several business development
initiatives are underway. In agriculture, pilot programs are underway at federal and provincial levels to
develop land records and titling to ensure that an effective collateral registry system evolves. In
housing, banks are being encouraged to provide housing finance; however, banks fund long term
housing loans through short term demand and time liabilities that in turn pose an asset liability
mismatch on their books. Therefore, in order to mitigate asset liability mismatches, besides provision
of fixed rate mortgages, deliberations are underway for establishment of mortgage refinance company
in Pakistan.
Work is also underway to privatize outstanding financial institutions engaged in development financing
business such as the SME Bank, Industrial Development Bank of Pakistan, House Building Finance
Corporation and Zarai Tarakiati Bank Limited.
SBP has established a dedicated Development Finance Group to help improve the enabling
environment for development financing and coordinate intervention and initiatives which could
enhance outreach, while developing capacities across the board in banking sector and also providing
specialized training in some sector areas.
Given the financial sector's dependence on the banking sector, as evident from the low bond market to
GDP ratio, efforts are underway to enable the development of alternate sources of long term funding.
Among others, an Infrastructure Finance Taskforce is now deliberating the possibility of supporting
establishment of long term infrastructure lending institutions and equipping them with the desired
project appraisal and risk management capacities.
There is scope for enhancement of efficiency in financial intermediation which should augur
well for deepening and sustainability of financial sector. Trends of over 16 years reveal that
Pakistan's interest rate structure has been quite volatile and unstable. After a period of exceptionally
high interest rates, which were a manifestation of the public sector banks' inefficiencies, misallocation
of credit and reckless lending accompanied by large defaults, Pakistan's lending rate fell but the real
lending rate was kept so low that, despite low inflation over 2000-2004, it virtually turned negative.
Aside from volatility in interest rate, Pakistan's banking system over 1990s maintained high spreads.
Subsequently, low interest rates pursued by central bank coupled with enhanced competition helped
narrow spreads to 5.39% by December 2004. However, a reversal in trends was notable as spreads
rose again to 7.4% by the end of November 2006 with commercial banks re-pricing their loans in line
with the upward adjustment in SBP repo rate (policy rate) from 7.5% in April 05 to 9.5% in July 06 in
the wake of growing inflationary pressures, without a concomitant rise in deposit rates.
Banking spread will eventually be aligned as competition deepens both for deposit and loan products.
Fall in cost/income ratios coupled with sizeable balances in savings or short term deposit accounts
(with less than 6-months maturity) or transactional accounts - which offer low returns below the
inflation rate - should facilitate decline in spreads. However, a factor to consider here is the high
administrative expense to total expense ratio because of rising remuneration of banking professionals
and high operating costs.
SBP is keen to evolve a more stable and positive real interest environment over longer run and as a
starting point has incentivized banks, through a combination of measures, to change the maturity
mismatches on their balance sheets. On one hand, SBP has used differential and concessional
cash reserve requirement (half of the level applicable to deposits below 6 months) for term
deposits above 6 months. On the other hand, SBP is using moral suasion to encourage banks
to offer different products which offer better returns to depositors. Improved efficiency in
financial intermediation process and a shift to long dated deposits will augur well for sustainability of
banking system. The latter should also help reduce the inherent asset-liability mismatches as the
proportion of longer maturity deposits rises and encourages banks to lend long.
Efforts to strengthen risk management through effective implementation of prudential
regulations, financial infrastructure and technology and internal controls within commercial
banks should further augment sustainability of banking system. To consolidate and strengthen
the risk management capacities of banking sector, SBP and banks have taken a number of initiatives.
In line with the MCR, banks are to fully comply with the enhanced requirements by 2009. Banks are
maintaining high CAR ratios (see para. 18). Moreover, improved credit risk management and strong
vigilance has helped keep NPLs at manageable levels.
Over the last few years, about half of all bank branches are online with their respective head offices,
providing management with real-time information. Besides overall improved service delivery, banks
have actively pursued Debit and Credit Cards business in urban centres. E-banking is mandatory for
banks to enhance interconnectivity of ATM switches in order to fully exploit ATM network of all the
banks. SBP issued Guidelines on IT Security and started on-site IT inspections to ensure whether
banks were adequately managing the risks associated with online banking. In SBP's on-site
inspection, the quality of internal controls play a prominent role in determining the over all rating of the
Internal Control Guidelines
bank. The issued by SBP provide a minimum set of standards banks have
to adhere to in this regard. While the level of sophistication varies from bank to bank, internal control
systems have yet to be fully in place.
In coming years, commercial banks would continue to develop their infrastructure, technology and
human resource capacities to adopt and implement Basel-II in a phased manner. Banks are required
to adopt Standardized Approach for credit risk and Basic Indicator/Standardized Approach for
operational risk from 1st January 2008. Subject to development of their in house systems, they would
switch over to advanced approaches from 1st January 2010. In line with the Pillar 3 (Market Discipline)
of Basel Accord II framework, SBP has revised the format of annual accounts to improve disclosure
requirements. Further development of online management information system would enable banks to
maximize benefit of eCIB (Credit Information Bureau), operationalized in 2006.
SBP is now in the process of introducing a Real-Time Gross Settlement (RTGS) system5 for large
value payments in the inter-bank market. Banks holding accounts at SBP would be able to operate
their accounts in real time from their own premises. RTGS will help overcome the liquidity and
settlement risks as banks would be able to settle their transactions affecting their accounts at SBP
(e.g. inter-bank lending/borrowing) immediately after the terms of the transaction have been agreed
and executed between the banks. A Payment Systems and Electronic Funds Transfer Act 2006 after
its passage by the Parliament will lay down legal framework for online banking.
With 81% of banking assets now in private hands, the government guarantee or backing of the
deposits of NCBs has been withdrawn. The implied government policy of rescuing the failing banks at
the expense of taxpayers' funds has now given way to a banking supervision approach based on
international best practices. SBP has instituted an all-embracing framework viz. Institutional Risk
Assessment Framework to further strengthen the existing supervisory mechanism and to mitigate the
variety of risks banks are exposed to. The framework envisages a collaborative and seamless
supervisory focus amongst various supervisory departments within SBP to ensure cohesive and
proactive monitoring of risks within banks and DFIs. The framework, being highly technology driven,
provides for the timely flow of information and enables SBP to institute more efficient and effective
banking supervision and continuous monitoring both on the part of SBP and institution themselves,
integrating off-site surveillance, on-site examination and current market information.
The new dynamics, however, pose a challenge and SBP will need to work on developing appropriate
safety net for depositors, especially small depositors, without creating the problem of moral hazard.
Concurrently, the Board of Directors as well as top management of a bank should be held liable for
their mismanagement and poor decisions. In this connection, SBP has now for sometime enhanced
banking surveillance which, among others, involves conducting regular stress testing to measure
system wide sensitivity to different risks including credit risks, market risks, liquidity risks and
operational risks. Now banks are to be encouraged to estimate their risks to capital, liquidity crisis at
the earliest stage, execute prompt corrective action in order to curb the problem at the onset, and
settle depositors' claims in a timely manner, in cases where the corrective actions result in
liquidation/restructuring of the banks.
Regulatory measures are now in place to curb practices of anti-money laundering as well as
terrorist financing. These measures make SBP compliant with the recommendations of international
bodies to prevent these high risk activities. There exists a comprehensive set of regulations on
KnowYour-Customer (KYC), Customer due Diligence, Suspicious Transactions Reporting and
correspondent banking has been put in place in line with the recommendations of the Financial Action
Task Force. All financial institutions (FIs) have to confirm the true identity of every prospective
customer and verify the documents obtained from new customers/account holders. All suspicious
transactions are to be reported by banks to SBP and, after due analysis, such cases are handed over
to NAB or other relevant authorities for further action. The capital base of exchange companies has
been strengthened and they are subject to KYC and record keeping requirements with appropriate
reporting to SBP. All such companies are now subject to both off- and on-site inspections and any
violations by banks or exchange companies make them liable to penalties.
Lastly, but most importantly, effective implementation of corporate governance is the key for
sustainability of banking sector. Pakistan has an elaborate corporate governance framework. The
key objective of the framework is to ensure that the owners and managers of a bank are fully
committed and have sufficient capacity to operate the bank prudently. The Banking Companies
Ordinance 1962, the primary legislation governing banks, lays down several governance
requirements. It includes the rules for appointment/dismissal of directors, disclosure of share
ownership, dividend policy, appointment of external auditors etc. Further instructions in these areas
are provided through Prudential Regulations issued by SBP.