Pakistani Banks to Benefit from Improving Economic Conditions: Fitch Ratings

Pakistan’s banking sector is poised to capitalize on better business opportunities as operating conditions improve amid receding macroeconomic challenges, according to a recent report by Fitch Ratings. The agency’s optimistic outlook is supported by Pakistan’s upgraded sovereign credit profile, with Fitch raising the country’s Long-Term Issuer Default Rating (IDR) to ‘B-‘/Stable from ‘CCC+’ in April 2025. This upgrade reflects ongoing economic recovery, fiscal reforms, and improving macroeconomic stability. Pakistan’s economy has shown significant signs of recovery following a period of turmoil and high inflation. Fitch projects real GDP growth to accelerate to 3.5% by 2027, up from 2.5% in 2024. Inflation, which peaked at 38% in May 2023, has eased to 4.1% as of July 2025, with an average of 5% expected for the year. The halving of the policy rate since May 2024 to 11%, coupled with a stabilizing external position, has further bolstered the recovery, it added. Fitch notes that these improving conditions are likely to stimulate private credit demand, supporting loan and deposit growth while enhancing banks’ financial performance. The report highlights that continued fiscal and economic reforms could enable banks to increase private-sector lending, which hit a cyclical low of 9.7% of GDP in 2024, reducing their reliance on public-sector lending. The ratings agency stated that, “Despite challenging conditions in recent years, Pakistani banks have demonstrated resilience. The sector’s impaired loan ratio improved to 7.1% by March 2025, down from 7.6% at the end of 2023, driven by strong loan growth of 26% amid high inflation. While the pace of improvement is expected to slow as loan growth decelerates, lower interest rates are likely to enhance borrowers’ repayment capacity, keeping asset-quality pressures manageable.” Return on average equity normalized to 20% in the first quarter of 2025, down from 27% in 2023, as net interest margins narrowed and inflation drove up operating costs. However, higher non-interest income and treasury earnings are expected to support the sector’s profitability despite ongoing margin pressures. The system’s capital adequacy ratio reached a decade-high of 21% by March 2025, reflecting strong internal capital generation. While this ratio may moderate if private-sector credit increases, it is expected to remain well above the regulatory minimum of 11.5%. Fitch highlights the sector’s robust funding and liquidity position as a key strength. Low loan-to-deposit ratios (38% as of June 2025), customer deposits accounting for 65% of total funding, and low deposit dollarization (7%) have enabled banks to withstand volatile funding conditions in recent years. These factors are expected to remain supportive of the sector’s growth in the medium term. While most large Pakistani banks are well-positioned to navigate a more normalized operating environment of lower interest rates, structural challenges persist. Fitch emphasizes that banks capable of diversifying revenue streams and maintaining disciplined credit underwriting will be better equipped to benefit from Pakistan’s economic stabilization while mitigating risks from potential shocks.