Last year, Pakistan faced its worst economic contraction in 68 years. This was largely due to the nationwide lockdown imposed in March to control the spread of Covid-19. The State Bank of Pakistan (SBP) then slashed its policy rate (the basic lending rate) by 6.25% in several stages (from March to June 2020) to the current level of seven percent, a move aimed at giving the economy a boost. With this slashing of interest rates, consumer financing became cheaper and instalments of auto loans decreased by almost 50%.
The SBP’s monetary policy rate forms the basis of all interest rates in the market. Hence, conventional banks have seen a significant decline in the auto financing rates they offer to customers. Islamic car financing has also become more economical as Islamic banks use the SBP’s basic interest rate to determine their profit or mark-up rates.
According to Aamir Kureshi, Head of Consumer, Rural and SME Banking, Habib Bank Limitied (HBL), “the drop was welcomed by the auto financing sector after the surge in interest rates in 2019 to 14%. After charging a margin of four to six percent on the base rate, commercial banks were charging an overall rate of 18 to 20% per annum as the cost of mark-up payments. The drop in the base rate in 2020 has resulted in increased affordability for borrowers.”
Like all other sectors, the pandemic hit the auto sector badly, forcing it to record the worst sales in history in the first quarter of 2020; in April 2020, for the first time, the auto sector recorded zero sales in terms of passenger cars. Therefore, the interest rate reduction gave the sector a much needed boost and consumer financing experienced an increase of Rs 39.6 billion in the last quarter of 2020, with the major contribution coming from the auto financing sector (source: SBP Report 2020-21). This resulted in increased sales for the automobile sector, good news for the Pakistani economy given that the size of the auto financing market is Rs 238 billion and as Kureshi explains, “auto financing forms a significant part (38%) of the total consumer financing market. A testament to the growth experienced by auto financing is that one of the top two players of this sector, HBL, reported double digit growth in their auto financing business compared to the same period in 2019.” He adds that “the auto finance industry is reaping the rewards of the new monetary policy, with increased sales despite the rise in the cost of vehicles. With new players entering the market, we see a plethora of options in the form of SUVs with prices ranging from five to six million rupees.”
A similar view is expressed by Arshad Majeed, Group Head, Consumer Finance, Meezan Bank. “Following multiple cuts to the interest rate, the auto finance industry, including Islamic auto financing, witnessed a positive change as the cost of borrowing went down. In addition, customers who did not generally go for auto financing were more inclined to do so due to the affordable rates.”
The growth in customers led to an increased demand for different models of vehicles. According to PAMA (Pakistan Automotive Manufacturers Association), sales of 1300cc and above passenger cars jumped from 9,953 units in first quarter of 2020 to 16,736 units in January 2021.
As new entrants make their presence felt in the market, carmakers are facing intensified competition as consumer demand is shifting, helping Korean and Chinese makes such as Changan, Huyndai and Kia to gain traction. New, affordable models have also been introduced by local assemblers such as RAIL (Regal Automobile Industries), Hyundai Nishat Motors and Lucky Motors Pakistan.
“Pakistan’s middle and upper-middle income segments seem to prefer 1000cc to 1300cc cars,” says Majeed, while Kureshi notes that, “in the near future, market inclination will lean towards 1500cc turbo charged vehicles, especially mid-size SUVs, as many new players are entering this category.”
In terms of auto financing, Kureshi says that “more than 75% of all scheduled banks in Pakistan are offering auto finance facilities and the auto finance business has now become immense.”
HBL’s current auto financing service – HBL CarLoan – caters to all market segments. “We cross-sell to existing HBL customers as well as offer fleet financing to companies. This strategy enables us to meet the demand of our clients and helps us maintain a strong position in the auto financing sector.” He elaborates that “HBL CarLoan’s fixed rate offering protects clients from unusual changes in the monthly instalment plan, thus giving them peace of mind in their budgeting.”
Meezan Bank for their part are offering faster application processing and approvals to attract and maintain their large customer base. According to Majeed, “Meezan is leading the auto loan industry in Pakistan. We offer products and services geared to the different needs of our customers.”
The boost in auto financing has been a positive sign for the economy and as expected, it is having ripple effects. Any automobile financed through a bank is required to have insurance coverage, hence the insurance companies on the panel of a bank play a role in the pricing of car loans, as the insurance premium becomes a part of the monthly instalment. According to Majeed, “as per regulatory compliance, the asset (automobile) is comprehensively covered (under Takaful) by the insurance company which is recovered in the monthly instalments.”
The auto business is an important category of business for all insurance companies, irrespective of their size. “Auto insurance constitutes about 26% of all types of insurance,” says a representative from a leading insurance company. Hence, insurance companies are using their sales force to capitalise on this business opportunity.
Insurance companies earn through investing their clients’ premiums and therefore a contracting economy with low interest rates may not be a good sign. However, the boost in auto financing and auto sales has offered car insurance and Ijarah (Islamic car insurance) companies a greater volume of business, which is helping recover the reduced return.
“If similar trends prevail and the policy rate is kept in the same zone, the future looks positive for the auto financing industry,” says Kureshi.
The automobile, auto financing, and insurance sectors are now hopeful that this trend will continue in the next fiscal period and that the interest rate environment remains as hospitable as it is now.
Sadia Kamran is a freelance writer. firstname.lastname@example.org