State Bank of Pakistan: Evolution, Functions and Organization(Summary)The State Bank of Pakistan is the central bank of the country.Usually the starting point for a central bank is a banking system that isalready in place – the banking system necessitates the presence of a centralbank. But the State Bank of Pakistan (SBP) is unique in the sense that itstarted its function in a newly born country, where it also had to shoulderresponsibilities of developing and rehabilitating a banking system and theeconomy, in addition to the traditional central banking functions.The primary functions of the StateBank include issue of notes, regulation of the financial system, lender of thelast resort, and conduct of monetary policy.
On the other hand the secondary functions includingmanagement of public debt, management of foreign exchange, advising theGovernment on policy matters, anchoring payments system, and maintaining closerelationships with international financial institutions.One of the primary responsibilitiesof the State Bank is the regulation of currency in accordance with therequirements of business and the general public. For this purpose the Bank hasbeen granted the sole right of issuing notes in the country under Section 24 ofthe State Bank of Pakistan Act, 1956. The overall affairs with respect to theissuing of notes are conducted through two notionally separate departments ofSBP, viz., Issue Department which deals with the issue of notes, and theBanking Department which undertakes general banking business2. There are fourissue departments one each in four provincial capitals viz.
, Karachi, Lahore,Peshawar and Quetta. Under section 30 of the State Bank Act, 1956 the assets ofthe Issue Department should at no time fall short of its liabilities, i.e., totalnotes issued.The State Bank of Pakistan is responsible toregulate the monetary and credit system of the country in such a manner thatensures monetary stability in the economy4. Section 9A of SBP Act, 1956entrusts the Central Board of the Bank to formulate and monitor monetary andcredit policy by taking into account the Federal Government’s targets forgrowth and inflation, in accordance with the recommendation of the Monetary andFiscal Policies Co-ordination Board (MFPCB).
Another principal task of the Bank is to safeguardthe soundness of the financial system. To perform this crucial role effectivelyand efficiently, State Bank of Pakistan has been given vast powers under theState Bank of Pakistan Act, 1956, Banking Companies Ordinance, 1962, BanksNationalization (Amendment) Act, 1974 and Microfinance Institutions Ordinance2001 to regulate and supervise the activities of Banks, Development FinanceInstitutions and Microfinance Banks. These laws have been subject to amendmentsover time to meet changing circumstances. During the year 1997 some majoramendments were made in the banking laws, which gave autonomy to the State Bankin the area of banking supervision. Under Section 40-A of the said ordinance itis the responsibility of State Bank to systematically monitor the performanceof every banking company to ensure its compliance with the statutory criteria,and banking rules & regulations (See Section 5 on Autonomy of theSBP).The Bank also functions as the bankers’ bank. Banksare classified as scheduled and non scheduled. The Bank maintains an updatedlist of all scheduled banks at its various offices.
These banks are entitled tocertain facilities from the State Bank and in return they have some obligationsto it. One of the important characteristics of a central bank is its being thelender of the last resort. The State Bank provides loan and re-discountfacilities to scheduled banks in times of dire need when they find no othersource of funds. These facilities are ordinarily provided by the Bank againstgovernment securities, trade bills, agriculture bill, etc. The Bank is responsible for themanagement of government debt under subsection 13(e) of section 17, and section21 of the SBP Act, 1956. The Public Debt Act 1944 also defines theresponsibilities of SBP for public debt management. Being responsible formaintaining the external value of the currency, the State Bank of Pakistanassumed the charge of management and administration of the exchange system ofthe country in line with the Foreign Exchange Regulation Act, 1947 which wasoriginally enacted by the British Government and subsequently adopted byPakistan. As an agent to the Government, the Bank has been authorized topurchase and sell gold, silver or foreign exchange and transactions of specialdrawing rights with the International Monetary Fund under sub-sections 3(a) and13(a,f) of section 17, and section 23 of the SBP Act, 1956.
The State Bank of Pakistan, alsoacts as an advisor to the Government on financial and economic mattersparticularly with reference to their monetary aspects. The Bank counsels theGovernment on loan operations and advises it with regard to the timings, termsand conditions and rate of return on these loans. The advice is also tenderedon matters like agricultural credit, cooperative credit, industrial finance,exchange regulations, banking and credit control, mobilization of savings,financial aspects of planning and development and similar other economicissues.
State Bank of Pakistan also tenders advice to the Government on debtmanagementissues. The advisory role of the Bank has been made mandatory in accordancewith the Section 9A(d,e) of the SBP Act 1956. Pakistan is the member ofInternational Monetary Fund. The State Bank of Pakistan deals with the IMF onbehalf of the Government of Pakistan (subsections 13(f) and 15 of Section 17 ofthe act). As a member of the Fund, the Government accepted the obligations ofArticle-VIII, Sections 2, 3 and 4 of the IMF Articles of Agreement w.e.f. July1, 1994.
As a result of which Pak-rupee was made convertible on currentinternational transactions. The Governor State Bank accompanies the Minister ofFinance in annual general meeting of the IMF and World Bank. The Bank officialsalso participate in negotiations with IMF missions in Pakistan and at IMF HeadOffice. The State Bank of Pakistan also deals with other internationalfinancialorganizationsincluding Bank for International Settlement, the World Bank, Central Banks offoreign countries, etc. Almost all the agreements of Provincial and FederalGovernment with International Financial Institutions (IFIs) are executedthrough the State Bank of Pakistan. Responsibilities of the State Bankof Pakistan go well beyond the conventional functions that have been discussedabove.
The scope of Bank’s operations has been widened considerably byincluding the economic growth objective in its statute under the State Bank ofPakistan Act, 1956. The most significant contribution made by the State Bank ofPakistan towards facilitating and fostering economic development in Pakistanwas the rehabilitation of the banking system in Pakistan. At the time of independencethe commercial banking system in Pakistan had virtually collapsed with theclosure of large number of bank offices which were run and managed bynon-Muslims who migrated en-mass to India. Also there was no independentmonetary authority, and the Government of Pakistan had to resort to the ReserveBank of India for its currency and monetary affairs.
Thus a tremendous taskbefore the State Bank was to strengthen its own institution as a central bankbesides overall development of banking industry in the country. Keeping in view an acute shortage oftrained bankers at the time of the independence, the State Bank introduced”Bank Officers Training Scheme” within one month of itsestablishment. On July 2 1948, the Central Board of Directors of the Bankapproved a comprehensive scheme for university graduates especially with mathematics,economics and commerce backgrounds. For clerks, State Bankintroduceddepartmental examinations system in 1950 to enhance the capabilities of theexisting staff in the banking industry.TheState Bank has actively participated in setting up a number of specializedcredit institutions designed to meet the long and medium-term financing needsof various sectors of the economy. These institutions include PakistanIndustrial Credit and Investment Corporation of Pakistan (PICIC), IndustrialDevelopment Bank of Pakistan (IDBP), National Development Finance Corporation(NDFC), Agricultural Development Bank of Pakistan12 (ADBP), Federal Bankfor Cooperatives (FBC) and House Building Finance Corporation (HBFC). Theseinstitutions were established to provide credit to industrial, agricultural andother sectors.
The Bank also subscribed to the share capital of the People’sFinance Corporation – renamed subsequently as Small Business FinanceCorporation (merged in to the present Small and Medium Enterprise Bank), theEquity Participation Fund and Banker’s Equity. These institutions were designedto provide finance to small businesses and the major sectors of the economy. The Bank has also introduced variouscredit schemes to channel resources towards priority sectors like exportfinance scheme, mandatory credit for agriculture, small business and smallindustries, etc. Before 1990s, mandatory and concessionary credit to prioritysectors remained about 50 per cent of the total private sector credit. However,with the start of liberalization process in the financial sector, its share isdeclining as a result of deliberate policy stance.
The underlying objectivesare to increase efficiency in all the sectors of the economy and to let themarket forces decide the proper allocation of resources. The State Bank has also beeninvolved in the process of Islamisation of the economy in general and thebanking system in particular. The State Bank had been making efforts since itsinception to evolve and introduce a financial system based on the norms of theShariah. While inaugurating the State Bank of Pakistan, the Father of theNation, Quaid-e-Azam Muhammad Ali Jinnah, and later on the first Governor ofthe Bank, late Zahid Hussain, gave a direction to make efforts to build the economicand financial system of the country on the lines dictated by Islam. However,the work could not be started forthwith as the experts in Islamic jurisprudenceand the modern economics both were not available.
The Islamic Economic Division of theBank served as a secretariat to the CouncilofIslamic Ideology (C.I.I.) in late 1970s when the President of Pakistan askedthe Council to prepare a blueprint for the establishment of an interest-freeeconomic system compatible with the Shariah.
Various reports of the C.I.I.formed the genesis for changes in the banking system that were introduced inlater years. The Banking Control Department of the Bank, under guidance of theMinistry of Finance and in collaboration with the Pakistan Banking Council,issued directives to the banks for transformation of the conventional bankingsystem into the noninterest based system. The process started in 1979 andreached its culmination in 1985. As of 1st April, 1985, all banking companieswere required to provide finance to all entities, including individuals, onlyunder the identified interest free modes. As of 1st July, 1985, no bankingcompany could accept any interest bearing deposits.
The Islamization programme,however, did not apply to foreign branches of Pakistani commercial banks as wellas foreign currency accounts/ foreign currency dominated loans kept inPakistan. Independence of a central bank in conduct of itspolicies for achieving stipulated targets has become a significant decree of presenteconomic wisdom. There is a world wide movement of granting independence tocentral banks. Pakistan is not an exception. During the decade of 1990s, anumber of measures have been taken to enable the State Bank of Pakistan toexecute its functions independently. The legal documents governing financialsystem of Pakistan, viz.
, SBP Act, 1956, Banking Companies Ordinance, 1962 andBanks Nationalization Act, 1974 have been subject to a number of changes togive exclusive authority to the State Bank for regulating the banking sector,conducting an independent monetary policy and setting limit on Governmentborrowings from the Bank. A bill, passed in February 1994, amended the StateBank of Pakistan Act, 1956, in terms of which monetary policy was made the soleresponsibility of the State Bank of Pakistan. More specifically, the CentralBoard of the Bank was given larger responsibility to regulate and supervisemonetary and credit system keeping in view the national policy objectives ofthe Government.
In 1948 when the Bank started its operations, it hadonly four departments in the Central Directorate and three small branch officeslocated at Karachi, Lahore and Dacca. It had the benefit of the services ofonly eight experienced officers who opted for service in SBP from the ReserveBank of India. The shortage of trained personnel was even more acute forconducting the supervisory role of a central bank. However, with the passage oftime the State Bank of Pakistan not only expanded its branch network across thecountry, it also strengthened its management by harvesting highly qualified andtrained personnel and introducing modern information technology.