The Role of State Bank of Pakistan (SBP) in Solving Pakistan’s Housing Finance Crisis

Preamble

Housing finance has become inaccessible for the general public due to high fluctuating interest rates and shorter periods of loans. Banks do not offer nearly enough mortgages and the State Bank of Pakistan has recently introduced a markup subsidy program to facilitate customers in getting mortgages with fixed interest rates. This blog presents the current housing problem of Pakistan along with mentioning the problems associated with housing finance in the real estate industry. The blog also sheds light on the initiative taken by the State Bank of Pakistan for helping the mortgage sector. Lastly, the blog mentions a way forward for future legislation and policymaking.

Research Questions

1. What is the extent of the housing crisis in Pakistan?

2. What is the problem of housing finance in Pakistan?

3. How does the State Bank of Pakistan plan to help the housing finance market?

Introduction

Pakistan, like other developing countries, is facing a crisis of housing. There is currently a backlog of 10 million housing units with the situation getting worse due to rapid urbanisation and increasing population. An increase in demand for housing by 700,000 units each year is further stressing the system. There is a lack of long-term planning on the governmental level, and administrative inefficiencies weigh down housing development. The financial sector has failed to provide house financing for a large segment of the population. A National Housing Policy was issued in 2001 and later amended in 2013 to highlight the shift in preference for housing finance through the free market and stakeholder empowerment. But lending for housing has remained low due to high rates and unavailability of fixed-rate mortgages. Banks are also reluctant to invest in mortgages due to the complexity of issues related to land in Pakistan and poor enforcement of foreclosure laws. In the context of this situation, the State Bank of Pakistan has launched a markup subsidy scheme for housing finance. The facility will allow individuals to buy or construct a new house by availing financing at subsidised and affordable markup rates. The government has allocated Rs 33 billion for the initiative for a period of 10 years. It is hoped that the new scheme increases house financing in Pakistan and simultaneously helps to ameliorate the housing crisis.

Housing Crisis of Pakistan

Housing is considered among the basic human rights and is an essential component for achieving a good standard of living. Adequate housing also helps in social cohesion and development of a nation. The housing sector plays a major role in the stabilisation of the economy through job creation and increasing demand for financial services. The current housing backlog in Pakistan stands at around 10 million units with a housing demand of 570,000 units annually, while the actual supply stands at 300,000 (Azra Jabeena, 2015). As a consequence of this situation, 35-40 percent of Pakistan’s population lives in urban slums. The crisis of housing started for Pakistan at its independence when many migrants flocked to the new state. The government, at the time, adopted the welfare state model and undertook the mission to provide affordable housing to its people. The government started many housing projects, but due to payment schemes being poorly designed, much of these projects simply did not materialise and were discontinued.

Pakistan saw a boom in its real estate sector from 2003 to 2007. Property prices skyrocketed, and it was impossible for the ordinary citizen to buy a home. Overseas investment in real estate increased, and the massive inflow of dollars led to swelling of the market. According to modest estimates, an amount of Rs 250 billion was spent on real estate in the mentioned period (Saeed, 2011). Due to the sector being unorganised and undocumented, this growth remained unsustainable. Market analysts now believe that the real estate bubble has ended, and the market is going through a slump.  Successive governments did display an awareness of the issues, and various steps were initiated in the form of policy decisions and programs for solving the urban development and housing problems of Pakistan.

Problems of Housing Finance in Pakistan

Pakistani banks have only provided Rs 106 billion worth of housing loans over a period of seventy years, which is just 0.23 percent of the GDP and the lowest in the region (Dawn, 2020). Banks remain reluctant in offering housing loans. It can be said that banks have adopted a passive attitude towards the challenges faced in the industry. A major reason for this reluctance is not using technology in helping with risk management. Housing finance is considered the safest form of finance for banks. Due to the adoption of Karachi Interbank Offered Rate (KIBOR), the interest rate remains high and fluctuates on a daily basis, giving banks the higher end of profits and putting undue pressure on the borrower. Many have called for a change in the practice and advocated the use of fixed interest rates over longer terms, making monthly instalments much more feasible for the general public. Banks usually have excess liquidity which they use to buy government instruments with higher interest rates. This ensures lower risk and a higher profit when compared to housing finance, where an absence of foreclosure laws, lack of regulation, and legal issues related to land make the investment risky. (Tariq, 2018)

On average, around 2.5 percent of conventional bank advancements are related to mortgage financing, with an average tenor of 10 years (Tariq, 2018). The average retention of a mortgage loan is about 12 years, and the entire mortgage portfolio is funded by short term deposits, creating a severe tenor mismatch.  In 2007, the Central Bank supervised a report authored by the Housing Advisory Group (HAG), and the only point that has seen some action is the establishment of the Pakistan Mortgage Refinance Company (PMRC). It provides long term loans to banks at fixed rates which they can later pass on to the customer at the retail level. This not only lowered the risk of default, but it also made mortgage more accessible for the general public by making monthly payments less and stretched over long periods of time. At present, the PMRC has Rs 6 billion in funds with Rs 1.2 billion being given by the federal government and the rest being funded by nine commercial banks. While the PMRC will add institutional robustness to the sector, there is a need to address other issues such as foreclosure laws and land titling. (Tariq, 2018)

State Bank’s Initiative to Regularise Housing Finance

In line with the government’s vision of providing affordable housing, the State Bank of Pakistan (SBP) has offered a markup subsidy facility for the construction and purchase of new houses. This will allow customers to avail the bank’s financing at subsidised and affordable markup rates. The facility will be provided with the support of SBP, the government, and Naya Pakistan Housing and Development Authority. A sum of Rs 33 billion has been allocated for markup subsidy on mortgages over a period of 10 years with an assurance of continuity. A memorandum of understanding has also been signed for the purpose. The facility will be divided into three tiers. Financing under the first tier will be available for houses under five marlas or 125 sq. yards. Maximum financing under this tier is Rs 2.7 million with a tenor of up to 20 years.

Meanwhile, tier 2 is also for houses/apartments/flats up to 5 marla or 125 sq. yards with a maximum price of Rs 3.5 million. Maximum financing under this tier is Rs 3 million with a maximum tenor of up to 20 years. This tier also facilitates those individuals who have not qualified for NAPHDA projects. Banks will charge the maximum KIBOR rate; however, the subsidised rate for the borrowers is the same as for tier 1 for the first ten years. Tier 3 facility promotes affordable housing for the middle-income families as this tier allows subsidised financing for construction or purchase of houses, flats, or apartments of more than ten marlas or up to 250 sq. yards, having a maximum price of Rs 6 million. Maximum financing under this tier is Rs 5 million with a tenor of up to 20 years. Banks will also charge the maximum KIBOR rate, but the government will provide a markup subsidy to reduce borrowers rate to 7 percent for the first five years and 9 percent for the next five. It is expected that by this facility, the supply of fresh housing units will help transform the government’s vision into reality. (Meiryum, 2020) (Profit, 2020)

Way Forward for Pakistan’s Housing Finance Market

With the support of UK Aid and Department for International Development (DFID), the State Bank of Pakistan conducted a study of customer preferences related to housing finance model offered by conventional banks. It was found that 94.5 percent of the respondents believed in the prohibition of interest due to religious reasons (Dawn, 2020). The Housing Building Finance Company is a prominent player in the domestic market but has lost its appeal to the public due to the unavailability of a shariah-compliant mode of finance. In order to boost the industry, the role and structure of HBFC need to be reviewed as it can play an active role in the promotion of low-cost housing. The government and regulatory institutions should encourage all banks to offer housing finance in Islamic modes. The government should also create enabling laws to improve foreclosure laws, establish fast track recovery courts, rationalise duties and taxes, and digitise property records.

Conclusion

Pakistan faces a huge housing shortfall due to reasons related to supply and demand, legal and regulatory issues, and weak house financing market. Banks and lending institutions prefer to buy government securities as they offer a higher return on investment and are also a safer investment. This has caused Pakistan’s housing finance sector to contribute only 0.5 percent to the GDP while India stands at 9 percent. The State Bank of Pakistan has recently announced an exceptional offer to new customers by offering to subsidise markup rates for mortgages. This will help the customers receive mortgages over longer terms and lower monthly instalments. It is hoped that this move will provide the impetus for the housing finance market to grow in the future.

Key Takeaways

1. The current housing backlog in Pakistan stands at around 10 million units with a housing demand of 570,000 units annually, while the actual supply stands at 300,000. The situation is getting worse due to rapid urbanisation and increasing population.

2. A National Housing Policy was issued in 2001 and later amended in 2013 to highlight the shift in preference for housing finance through the free market and stakeholder empowerment.

3. Banks are reluctant to invest in mortgages due to the complexity of issues related to land in Pakistan and poor enforcement of foreclosure laws.

4. Pakistani banks have only provided Rs 106 billion worth of housing loans over a period of seventy years, which is just 0.23 percent of the GDP and the lowest in the region.

5. Due to the adoption of Karachi Interbank Offered Rate (KIBOR), the interest rate remains high and fluctuates on a daily basis, giving banks the higher end of profits and putting undue pressure on the borrower.

6. The government and regulatory institutions should encourage all banks to offer housing finance in Islamic modes.

7. The government should also create enabling laws to improve foreclosure laws, establish fast track recovery courts, rationalise duties and taxes, and digitise property records.

Bibliography

Azra Jabeena, H. X. (2015). Housing Crises in Pakistan: Review of Population Growth and Deficiencies in Housing Laws and Policies. International Journal of Sciences: Basic and Applied Research.

Dawn. (2020). Aligning housing finance with public demand. Retrieved from Dawn: https://www.dawn.com/news/1527904

Dawn. (2020). Low cost housing loans from next week . Retrieved from Dawn: https://www.dawn.com/news/1581697

Meiryum, A. (2020). This company wants to give your bank money…so it can pay for your house. But are the banks even interested? Retrieved from Profit: https://profit.pakistantoday.com.pk/2020/05/17/pmrc-using-long-term-financing-to-help-solve-pakistans-chronic-housing-shortage/

Profit. (2020). SBP unveils details of markup subsidy for housing finance. Retrieved from Profit: https://profit.pakistantoday.com.pk/2020/10/12/sbp-unveils-details-of-govts-markup-subsidy-for-housing-finance/#:~:text=The%20markup%20subsidy%20facility%20will,covered%20area%20of%20850%20sq.&text=Banks%20will%20charge%20maximum%20markup%20rate%20of%20KI

Saeed, J. (2011). Issues and Potential of Islamic Home Financing in Pakistan.

Tariq, W. (2018). Problems of Home Financing in Pakistan. Retrieved from Cutting Edge: https://weeklycuttingedge.com/problems-of-home-financing-in-pakistan/#:~:text=The%20major%20issues%20to%20this,housing%2C%20and%20access%20to%20finance.