Banks-based economy not a growth economy

Two pieces recently framed a debate worth settling. Shahid Kardar, in Dawn (“Bank domination”), showed that Pakistan’s financial system is bank-dominated by structure, not accident. Zafar Masud, in Profit (“Same Banks, Different Field”), argued that once you adjust for Pakistan’s cash economy, informality, and fiscal deficit, the region’s private-credit gap all but disappears — banks, he says, lend at “almost exactly the rate anyone else would” on the field they’ve been given.

Read together, the two pieces don’t actually disagree. Kardar hands me the mechanism. Masud, without meaning to, hands me the evidence. Between them they confirm what I’ve argued: Pakistan has not built financial markets. It has built a banking cartel, supervised rather than disciplined by the State Bank.

Banks dominate

Kardar supplies the numbers. Commercial banks hold over 80 percent of financial-sector assets. Some 62 percent of banking assets are government securities against 22 percent private-sector lending. Stock-market participation is under 0.5 percent of the population; market capitalization is under 10 percent of GDP and has been declining. Corporate debt is under 3 percent of the debt market.

Crucially, Kardar shows why the non-bank institutions meant to compete with banks never did. Facing bank-level capital rules without bank-level liquidity support, banks simply bought the competition instead of racing it.

The largest mutual funds and asset managers are bank subsidiaries, not challengers. But is that an accident of regulation, or the design of it? Government and SBP have no interest in competition to banks. Between them they have effectively forced NBFIs to shrink and handed the money market and foreign exchange market to banks by fiat.

Lazy banking?

Masud’s argument deserves to be stated fairly before it’s answered. He doesn’t deny Pakistan’s private-credit ratio is low; he argues it’s low for reasons outside banks’ control, and he builds the case with a counterfactual rather than an assertion. Take India’s 44 percent and Bangladesh’s 34 percent private-credit-to-GDP ratios and rescale each for three constraints Pakistan lives with and they don’t: a cash-heavy economy (28 percent of broad money held outside the banking system versus 13 percent in both peers), a half-documented economy (50 percent of GDP untaxed versus 18 and 30 percent informality in India and Bangladesh), and a sovereign that pre-empts the balance sheet (government securities absorbing 55–60 percent of bank assets versus 20–21 percent in peers).

Multiply the three adjustments together and India’s 44 percent collapses to about 13 percent of GDP; Bangladesh’s 34 percent falls to about 12 percent. Run it on Sri Lanka and it lands near 11 too. Against Pakistan’s actual 11 percent, the celebrated regional gap — the chart everyone cites to call our banks lazy — turns out to be mostly an artifact of structure, not of behaviour. On his own numbers, Pakistani banks lend at almost exactly the rate anyone would, dropped into the same cash-heavy, undocumented, fiscally dominated economy.

Where they look for innovation, and why it’s the wrong place

Masud points to Raast and 1Link — payment rails moving some Rs 125 trillion a year — plus a future data exchange linking NADRA, tax and land records, and KODIT-style guarantee institutions for SME and housing lending. Kardar locates change elsewhere: not new products, but regulatory redesign, moving from protecting the bank/NBFI boundary to function-based supervision. Both are useful reforms. But notice what neither touches: anything that would let money move, be priced, or be held outside a bank balance sheet. Masud’s rails carry payments through banks; his guarantees de-risk more bank lending.

Kardar’s fix mostly stops banks from annexing the NBFIs meant to challenge them, rather than building new non-bank channels. Neither imagines innovation as competition arriving from outside — a bond market, an independent asset manager, a credit union, a non-bank FX dealer. Both are describing better plumbing for the same pipe, when the real deficiency is that there’s only one pipe.

The wrong question

I fear we are debating the wrong question. Whether banks lend too little relative to GDP is a bogeyman. The bigger issue is that the bank-dominated model SBP enforces has failed to build a competitive market to support growth. Such a market would offer savers and investors a menu, not a monopoly — a retail T-bill and PIB market, a functioning repo and secondary bond market, open fund distribution, competitive FX, equity, derivative and commodity markets. Today Pakistanis lack the risk-management and life-cycle instruments a modern saver needs. No wonder investment stays low, and no wonder capital escapes abroad or simply sits in gold.

On measuring efficiency, honestly

Efficiency in finance isn’t just a lending ratio. Cost efficiency asks how cheaply savings reach borrowers — Pakistan fails openly, with a lending-deposit spread of 7.82 points in August 2026 against India’s decade-low of 2.71. Allocative efficiency asks whether capital reaches its best use — the failure here is starkest, with 55–62 percent of bank assets in government paper against 20–21 percent in India and Bangladesh. Informational efficiency asks whether prices carry real information — with under 0.5 percent of the population holding stock accounts, there’s barely a market to fail the test.

Only on institutional profitability and return on equity does Pakistani banking score “efficient” — and only because the methodology rewards pricing power as if it were productivity. That’s not a measurement accident. It’s proof that banking here is a protected sector facing no competition.

A cartel, not a market

There’s a simpler word for what Kardar calls structural advantage and Masud calls environmental constraint: a cartel. A small, closed set of players, protected from entry and facing no discipline, is supervised by a regulator that has confused keeping banks safe with keeping them unchallenged.

Look at where innovation should have happened. Mutual funds, money markets, foreign exchange — everywhere else these are contested by independent managers competing on price. Here they’ve been folded into bank balance sheets. AMCs are bank subsidiaries.

FX runs only through authorised-dealer banks. Money-market funds mainly recycle deposits into instruments banks already hold. Every domain meant to discipline incumbents has instead been annexed by them.

The public pays twice. Fees rise with no competitive check. Clearing runs on timelines no contestable market would tolerate, while banks earn float on the delay.

Compliance runs one way: KYC and AML, meant to protect the system, treat depositors as guilty until proven innocent — accounts frozen, queries multiplied — while the institutions imposing this face no comparable scrutiny of their own service or pricing.

Underneath sits the cleanest evidence of all. SBP injects liquidity through open market operations; banks place it straight into government securities at a spread. The central bank funds the very institutions that then lend the money back to the state at a profit, with no credit risk and no origination effort. That’s Kardar’s “double-digit, risk-free return,” seen from the liability side. SBP isn’t tolerating fiscal dominance. It’s financing it.

None of this is a failure of talent. Pakistan’s banks are run by capable, well-credentialed executives on global salaries. But capability inside a protected corridor produces exactly this: well-paid management of a low-risk, low-innovation, high-fee franchise, not the competition that same talent would produce if it had to fight for market share.

The absence of anything to compete against is the problem — and the clearest symptom is that a new full-service banking licence is close to impossible to obtain. A regulator that wants a market, not a cartel, starts by making entry risk-based, not club-based.

This isn’t a character indictment. It is an indictment of an equilibrium that both banks and the government want preserved: the government gets an assured buyer for its debt and quiet leverage over rates; banks get scale and profit without competition.

Masud may be right that bankers aren’t personally at fault. But absolving the players doesn’t absolve the field. The test isn’t whether banks stay profitable — they will. It’s whether a saver can invest outside a deposit, whether government debt trades in a real market, whether a pension fund can buy a PIB without a bank in the way. On that test, “different field” isn’t a defence. It’s an admission.

What should change

Build a debt market: consolidate National Savings and the debt office into an SECP-equivalent authority, giving households and pension funds direct digital access to government securities. Admit non-bank primary dealers into repo and securities markets.

Require open-architecture fund distribution. Deepen FX markets to regulated non-bank participants. Make banking contestable: risk-based licensing, published OMO data, public fee benchmarks, compliance that targets risk rather than presuming guilt. License credit unions and regional cooperative banks as a distinct, lightly regulated tier — Germany’s Sparkassen hold half of German banking assets; Pakistan has nothing comparable.

And separate regulation from market protection: let SBP police systemic risk while SECP builds markets and the Competition Commission asks whether the sector’s structure itself blocks competition.

Equity, not just credit

We are so fixed on banks, with SBP as risk-averse champion of the cartel, that we forget a young, growing economy needs risk capital, not just credit. An equity ratio near 10 percent of GDP is the wrong instrument entirely. Debt demands fixed repayment regardless of outcome and rewards collateral over ideas; it is naturally biased toward large borrowers and the safest asset of all, the sovereign.

An economy channelling 80 percent of its financial claims into debt and barely a tenth into equity has built a system engineered to avoid risk exactly when growth requires taking it. That is why SME and start-up financing gaps persist even as credit growth looks respectable: banks lend against collateral, but no one capitalises the untested firm or the first-time entrepreneur with ideas but no assets to pledge.

South Korea, Vietnam, and India grew partly by expanding the risk-bearing side of their balance sheets alongside the safe side.

Pakistan has done the opposite — financed for a stability it doesn’t have, not the growth it needs — and the debate stays fixed on banks, the reverse of what the world’s growth economies would tell us to do.

Copyright Business Recorder, 2026