Financial System

Financial System
• Financial system permits exchange of funds between lender and
borrower.
• Five parts of financial system are:
• Money (funds to be exchanged)
• Financial instruments (through which funds are exchanged; e.g., shares,
debentures, etc.)
• Financial markets (where funds are exchanged; e.g., stock exchange)
• Financial institutions (who facilitate exchange of funds)
• Central Bank & Regulatory agencies (who regulates exchange of funds)
Five Parts of Financial System (Cont’d)
• Money
• An asset that is generally accepted as payment for goods and services or repayment of debt.
• Financial Institutions
• An enterprise such as a bank whose primary business and function is to collect money from the public and
invest it in financial asset such as stock, bonds, loans and insurance policies.
• Financial Instruments
• Written legal obligations of one party to transfer something of value to another party at some future date
under certain conditions. These obligations usually transfer resources from savers to investors. Examples:
Stocks, bonds, insurance policies.
• Financial Markets
• Markets where financial instruments are traded such as Karachi Stock Exchange.
• Central Banks
• Government entity which monitors the state of the economy and conducts monetary policy; such as State
Bank of Pakistan
Benefits of Financial Systems
• Make easy to trade.
• Facilitate payment: Debit cart, Credit card, ATM, Cheques.
• Channel Funds from savers to borrowers
• Optimum uses of capital (flow of funds to those who can invest them
in most suitable projects)
• Enable risk sharing (classic example is insurance)
Five Parts of Financial System
First Part: Money
Functions/Uses/Role of Money
• Means of Payment
• The primary use of money is as a means of payment; i.e., money is accepted in
economic exchanges. Barter is an alternative to using money but it doesn’t work
very well due to its requirement of “double coincidence of wants”. (Meaning
that in order for trade to take place both parties must want what the other has.)
• Store of Value
• For money to function as a means of payment it has to be a store of value too
because it must retain its worth from day to day.
• Unit of Account
• As a unit of account; money is used to quote prices and record debts. This
makes the comparison of value easy.
Types of Money
• Commodity Money
• Fait Money
Commodity Money
• Commodity money is money whose value comes from a commodity of
which it is made off. For example: gold, silver, copper etc.
• Characteristics of Commodity Money are:
• They were usable in some form by most people;
• They could be made into standardized quantities;
• They were durable;
• They had high value relative to their weight and size so that they were easily
transportable; and
• They were divisible into small units so that they were easy to trade
• Advantage: It is acceptable around the globe due to its intrinsic value.
• Disadvantage: It is difficult to transfer from one place to another place.
Fait Money
• Fiat money or fiat currency is money whose value is not derived from any intrinsic value. Instead, it has value only by
government order (fiat).
• Usually, the government declares the fiat currency to be legal tender, making it unlawful not to accept the fiat currency as
a means of repayment for all debts, public and private.
• As long as the government stands behind its paper money, and doesn’t issue too much of it, we will use it. In the end, fiat
money is about trust.
• Whenever government cancels any notes, the holder will lose the whole value.
• Characteristics of fait money are:
• It has no intrinsic value
• It is decreed to be legal tender
• Advantages
• Fewer resources are used to produce money.
• Easy to transfer due to light weight
• The quantity of money in circulation can be determined by rational human judgment rather than by discovering further mineral
deposits—like gold or diamonds
• Disadvantages
• Limited acceptance: only acceptable in home country.
• A corrupt or pressured government might issue excessive amounts of money, thereby unleashing severe inflation.
Payment System
• The payment system is a web of arrangements that allows for the
exchange of goods and services, as well as assets among different
people. This system is how parties receive and pay funds in exchange
for goods. Money is at the heart of payment system. Technology has
made many types of payments common throughout the economy.

 
Methods of Payment
• Cheques
• Debit Card/Credit Card
• Electronic Fund Transfer (EFT)
• Automated Clearing House Transactions
• Stored Value Card
• E-Money
Cheque
• Cheques are way of paying for things, but they are not legal tender and they are not even money.
• Cheques are instructions to the bank to take funds from your account and transfer those funds to the
person or firm whose name is written in the “Pay to the Order of” line.
• When you give someone a Cheque in exchange for a good or service, it is not a final payment; a series of
transactions must still take place that lead to the final payment. Following are the steps in the process
• You hand a paper cheque from your bank to a merchant in exchange for some good
• The merchant deposits the cheque into merchant’s bank and merchant’s account is credited
• The merchant’s bank sends the cheque to the local central bank
• The Central Bank
• Credits the merchant’s bank’s reserve account
• Debits your bank’s reserve account
• (This steps involves money)
• The Central Bank returns the cheque to your bank
• Your bank debits your chequing account by the amount of the cheque
Debit/Credit Card
• Debit Card
• The money in your account is used for payments
• Works like a cheque and there is usually a fee for the transaction
• Credit Card
• It is a promise by a bank to lend the cardholder money with which to make purchases.
• When the card is used to buy merchandise the seller receive payment immediately
• The money that is used for payment does not belong to the buyer
• Rather, the bank makes the payment, creating a loan that the buyer must repay.
• So, they do not represent money; rather, they represent access to someone else’s
money
• The above point would be clear when we will discuss how bank create money in a
letter lecture.
Electronic Funds Transfer
• Electronic funds transfer (EFT) is the electronic transfer of money
from one bank account to another, either within a single financial
institution or across multiple institutions, through computer-based
systems and without the direct intervention of bank staff.
Automated Clearing House Transaction
• Automated Clearing House (ACH) is an electronic network for financial
transactions in the United States. ACH processes large volumes of
credit and debit transactions in batches. ACH credit transfers include
direct deposit, payroll and vendor payments.
Store Value Card
• A stored-value card is a payment card with a monetary value
stored on the card itself, not in an external account maintained by a
financial institution. Stored-value cards differ from debit cards, where
money is on deposit with the issuer, and credit cards which is subject
to credit limits set by the issuer.
E-Money
• Electronic money, or e-money, is the money balance recorded
electronically on a stored-value card. These cards have
microprocessors embedded which can be loaded with a monetary
value.

 
Core Principles of Money (& Banking)
• Time has value : Today’s one rupee has more purchasing power then
tomorrow’s one rupee.
• Risk requires compensation: the riskier the transaction, the higher the
interest rate.
• Information is the basis of decision: The more important the decision;
the more information we collect.
• Market set prices and allocate resources: The laws of supply and
demand will dictate the prices of financial instruments
• Stability Improve welfare: A stable economy reduces risk and improves
everyone's welfare.
 Five Parts of Financial System
Second Part: Financial Institutions
Types of Financial Institutions
• Monetary Financial Institutions
• Non-Monetary Financial Institutions
Monetary Financial Institutions
• Monetary financial institutions (also known as depository financial
institutions) are those institutions take deposits and make loans
• Examples
• Commercial banks: Depository financial institutions that issue checking
deposits and specialize in making commercial loans.
• Savings and loan association: A type of depository institution that has
traditionally specialized in extending mortgage loan to individual who which
to purchase homes.
Non-Monetary Financial Institutions
• Non-monetary financial institutions are those institutions which do
not take deposits and make loans
• Examples:
• Insurance companies: Accept premiums, which they invest in securities and
real estate in return for promising compensation to policyholders should
certain events occurs (like death, property losses, etc.)
• Brokers and investment banks: Brokers and investment banks issue stocks
and bonds to corporate customers, trade them, and advise clients.
Importance of Financial Institutions
• A system without financial institutions would not work very well for
three reasons
• Individual transactions between saver-lenders and borrower-spenders would
be extremely expensive.
• Lenders need to evaluate the creditworthiness of borrowers and then
monitor them, and individuals are not equipped to do this.
• Most borrowers want to borrow long term, while lenders favor short-term
loans
Primary Functions of Commercial Banks
• Accept Deposits: It accepts deposits in the form of
• Current Account Deposit (also known as demand deposit): where no interest
is paid however customer can withdraw his money on demand.
• Fixed Deposit (also known as time deposit): where customer received
interest however money cannot be withdrawn before a fixed period.
• Saving Deposit: which combine the features of both current deposit and fixed
deposit as it carry interest rate and customer can also withdraw his money on
demand. However, the interest rate offer on saving deposits is lower than the
interest rate offered on fixed deposits. Further, there is restriction on number
of withdrawal per month as well.
Primary Functions of Commercial Banks
(Cont’d)
• Give Loans and Advances: Bank give loan and grant advances in different form for example:
• Cash Credit: Cash credit refers to a loan given to the borrower against his current assets like shares, stocks,
bonds, etc. A credit limit is sanctioned and the amount is credited in his account. The borrower may
withdraw any amount within his credit limit and interest is charged on the amount actually withdrawn.
• Demand Loan: Demand loans refer to those loans which can be recalled on demand by the bank at any
time. The entire sum of demand loan is credited to the account and interest is payable on the entire sum.
• Short term loan: They are given as personal loans against some security. The money is credited to the
account of borrower and the borrower can withdraw money from his account and interest is payable on the
entire sum of loan granted.
• Unsecured Loan: Bank also provides some loan which is not secured against any asset of the borrower.
• Other loan: There are other forms of lending as well. For example:
• Overdraft Facility (see below)
• Discounting Bill of Exchange (see below)
• Credit Card Facility
Secondary Functions of Commercial Banks
• Overdraft Facility: It refers to a facility in which a customer is allowed
to overdraw his current account up to an agreed limit. This facility is
generally given to respectable and reliable customers for a short
period. Customers have to pay interest to the bank on the amount
overdrawn by them.
• Discounting Bill of Exchange: It refers to a facility in which holder of a
bill of exchange can get the bill discounted with bank before the
maturity. After deducting the commission, bank pays the balance to
the holder. On maturity, bank gets its payment from the party which
had accepted the bill.
Secondary Functions of Commercial Banks
(Cont’d)
• Agency Function of The Bank: These are those functions which a commercial bank
performs on behalf of its client. These functions include:-
• Transfer of Funds: Banks provide the facility of economical and easy remittance of funds from
place-to-place with the help of instruments like demand drafts, mail transfers, etc.
• Collection and Payment of Various items: Commercial banks collect cheques, bills,’ interest,
dividends, subscriptions, rents and other periodical receipts on behalf of their customers and
also make payments of taxes, insurance premium, etc. on standing instructions of their clients.
• Purchase and Sale of Securities: Commercial banks buy and sell stocks and shares of private
companies as well as government securities on behalf of their customers.
• Income Tax Consultancy: They also give advice to their customers on matters relating to
income tax and even prepare their income tax returns .

• Trustee and Executor: Commercial banks preserve the wills of their customers as trustees and
execute them after their death as executors.
• Letter of Reference: They give information about the economic position of their customers to
traders and provide the similar information about other traders to their customers.
Secondary Functions of Commercial Banks
(Cont’d)
• Utility Functions: Commercial bank also provide some utility
functions such as:
• Locker Facility: Commercial banks provide facility of safety vaults or lockers to
keep valuable articles of customers in safe custody.
• Traveller’s Check: Commercial banks issue traveler’s cheques to their
customers to avoid risk of taking cash during their journey
• Letter of Credit: They also issue letters of credit to their customers to certify
their creditworthiness.
• Underwriting Securities: Commercial banks also undertake the task of
underwriting securities. As public has full faith in the creditworthiness of
banks, public do not hesitate in buying the securities underwritten by banks.
 Balance Sheet of Commercial Bank
A Sample Balance Sheet of Commercial Banks
Assets (Uses of Fund) Rs. Liabilities (Sources of Funds) Rs.
Reserve and Cash Items XXXX Checkable Deposits XXXX
Investment in Securities XXXX Non-Transaction Deposits  
  – Saving Deposits XXXX
– Time Deposits XXXX
Loans   Borrowings XXXX
– Commercial & Industrial XXXX
– Real Estate XXXX
– Consumer XXXX
– Inter Bank XXXX
– Other XXXX

Other Physical Assets XXXX Bank Capital XXXX

Total XXXX Total XXXX
Commercial Banks’ Liabilities
• Checkable deposits are bank accounts that allow the owner of the
account to write checks to third parties. Current account is an example of
checkable deposits.
• Non-transaction Deposits. Non-transaction deposits are the primary
source of bank funds. Owners cannot write checks on non-transaction
deposits, but the interest rates are usually higher than those on checkable
deposits. There are two basic types of non-transaction deposits: savings
accounts and time deposits (also called certificates of deposit or CDs).
• Borrowings: Banks obtain funds by borrowing from the central bank,
other banks, and corporations. Borrowings from the central bank are
called discount loans (also known as advances).
Commercial Banks’ Assets
• Reserves: All banks hold some of the funds they acquire as deposits in an account at the State
Bank. Reserves are these deposits plus currency that is physically held by banks (called vault cash
because it is stored in bank vaults overnight). Although reserves currently do not pay any interest,
banks hold them for two reasons. First, some reserves, called required reserves, are held because
of reserve requirements, the regulation that for every rupee of checkable deposits at a bank, a
certain fraction (10 cents, for example) must be kept as reserves. This fraction (10 percent in the
example) is called the required reserve ratio. Banks hold additional reserves, called excess
reserves, because they are the most liquid of all bank assets and can be used by a bank to meet its
obligations when funds are withdrawn, either directly by a depositor or indirectly when a check is
written on an account.
• Cash items in Process of Collection: Suppose that a check written on an account at another bank
is deposited in your bank and the funds for this check have not yet been received (collected) from
the other bank. The check is classified as a cash item in process of collection, and it is an asset for
your bank because it is a claim on another bank for funds that will be paid within a few days.
Commercial Banks’ Assets (Cont’d)
• Deposits at Other Bank: Many small banks hold deposits in larger banks in exchange for a
variety of services, including check collection, foreign exchange transactions, and help with
securities purchases. This is an aspect of a system called correspondent banking.
• Government Securities: A bank’s holdings of securities are an important income-earning
asset. Investment in government securities, due their highly liquidity, are known as secondary
reserves
• Loan: Majority of the bank’s asset is in the form of loan. A loan is a liability for the individual
or corporation receiving it, but an asset for a bank, because it provides income to the bank.
Loans are typically less liquid than other assets, because they cannot be turned into cash until
the loan matures. The types of bank lending includes:
• Commercial & Industrial
• Real Estate
• Consumer
• Inter Bank
Bank’s Net Worth (Bank Capital)
• Bank capital equals the difference between total assets and liabilities.
The funds are raised by issuing new equity (stock) or from retained
earnings. Bank capital is a cushion against a drop in the value of its
assets, which could force the bank into insolvency (having liabilities in
excess of assets, meaning that the bank can be forced into
liquidation).
 Five Parts of Financial System
Third Part: Financial Instruments
Financial Instruments
• Financial instruments (also known as securities) are written legal
obligations of one party to transfer something of value to another party at
some future date under certain conditions. These obligations usually
transfer resources from savers to investors.
• Written legal obligation means that it is subject to government
enforcement. The enforceability of the obligation is an important feature
of a financial instrument.
• The future date can be specified or can be when some event occurs
• Financial instruments generally specify a number of possible contingencies
under which one party is required to make a payment to another.
Types of Financial Instruments
• Equity Instruments
• Shares: An owner of a share owns a piece of the firm and is entitled to part of its profits.
• Debt Instruments
• Bank Loan: A borrower obtains resources from a lender immediately in exchange for a
promised set of payments in the future.
• Bonds: A form of a loan, whereby in exchange for obtaining funds today a corporation
promises to make payments in the future.
• Government Securities: A government security is a bond or other type of debt obligation
that is issued by a government with a promise of repayment upon the security's maturity
date. Government securities are usually considered low-risk investments because they are
backed by the taxing power of a government. In fact, investment in government’s
securities is probably the safest investment that can be made.
Uses of Financial Instruments
• Means of Payment: Purchase of goods and services
• Store of Value: Transfer of purchasing power into the future
• Transfer of Risk: Transfer of risk from one person to other
Value of Financial Instruments
• The value of financial instruments depends on the following factors.
• Size of the promised payment: People will pay more for an instrument that
obligates the issuer to pay the holder a greater sum. The bigger the size of the
promised payment, the more valuable the financial instrument would be.
• When the payment will be received: The sooner the payment is made the
more valuable is the promise to make it
• Likelihood of the payment will be made (Risk): The more likely it is that the
payment will be made, the more valuable the financial instrument would be.
• Conditions under which payment will be made: Payments that are made
when we need them most are more valuable than other payments
Five Parts of Financial System
Fourth Part: Financial Markets
Financial Markets
• Financial Markets are the places where financial instruments are
bought and sold. They enable both firms and individuals to find
financing for their activities.
Classifications of Financial Market
• Money Market: The money market is a financial market in which only
short-term debt instruments (generally those with original maturity of
less than one year) are traded.
• Capital Market: The capital market is the market in which longer-term
debt (generally those with original maturity of one year or greater)
and equity instruments are traded.
Role of Financial Markets
• Channel funds: From savers of funds to those who want to make
capital investment.
• Liquidity: Ensure that owners of financial instruments can sell them
easily and quickly whenever they want.
• Information: Ensure that accurate information about the issuer is
available.
• Risk Sharing: Provide companies and individuals with a place to buy
and sell risk
Five Parts of Financial System
Fifth Part: Central Bank
State Bank of Pakistan
Structure & Functions
State Bank of Pakistan
• At the time of Partition, the new state was without a central bank and a proper banking
system was almost non-existent. Most of the banks had their head offices in India. Out of
3,496 branches of the scheduled banks, only 631 were situated in Pakistan. To complete
the picture of misery, the entire banking structure was dominated by Hindus. With the
announcement of the Partition Plan of June 3, 1947, the Hindu started to withdraw their
deposits from the banks located in Pakistan. As a result, many banks had to close down
their operations. Since Pakistan had no central bank of its own, it was decided to assign
the monetary operations of the new state to the Reserve Bank of India for a period of one
year (till September 30, 1948). However, it was soon realized that if this situation
continued for too long, the country’s interests would be hurt. Accordingly, the State Bank
of Pakistan Order was issued on May 12, 1948 and Pakistan (Monetary System and
Reserve Bank) Order, 1947 was amended according to which the Reserve Bank of India
was to stop functioning in Pakistan on June 30, 1948 with the new central bank taking
over on the next day.
Prime Objective of Central Bank
• Central bankers work to reduce the volatility of the economic and
financial systems by pursuing five specific objectives:
• Low and stable inflation for price stability to enhance the usefulness of money
both as a unit of account and a store of value.
• High and stable real growth, together with high employment.
• Stable financial markets and institutions to establish the faith of the people in
the financial system otherwise savers will not lend the borrowers.
• Stable interest rates as higher interest rate volatility means higher risk which
make financial decision more difficult, lowering productivity and making the
economy less efficient.
• A stable exchange rate as higher exchange rate volatility affects international
business.
 Board of Directors

Structure of the State Bank

Governor

      Deputy   Deputy
Economic Director Director Governor Director Audit Governor
Advisor Corporate & Research Banking Management
 
Media Affair
Dept.
 

  Executive  
Director Director Head Treasury
Islamic Banking Department
Banking

  Director Director
Director Banking Banking
Banking Policy Supervision Inspection
Department Department Department

Director Director     Director Director

Economics Agriculture Director Executive Human Information
Policy Credit Statistics Director FRM Resource System
Department Department Department Department

  Director Director
Director Policy Payment
Accounts Development System
Department
Department of State Bank (Cont’d)
• Accounts Department
• It provides effective & efficient accounting services & information for planning,
control and decision-making regarding annual budget and balance sheet of the Bank.
• Agricultural Credit Department (ACD)
• ACD coordinates the operations of the Bank in connection with agricultural credit
and its relations with the provincial co-operative banks and any other organizations
engaged in the business of agricultural credit.
• Banking Inspection Department (BID)
• BID achieves the regulatory goals of State Bank of Pakistan, i.e., ensuring the safety
and soundness of the financial system and safeguards the interests of the depositors.
In order to assess a financial institution, BID conducts regular on-site inspection of all
scheduled banks inclusive of the foreign banks & DFIs.
Department of State Bank (Cont’d)
• Banking Policy Department
• BPD reviews and formulates proactive policy framework for Banks/ NBFIs concerning diligent licensing,
proposals for mergers/acquisition, privatization matters, management of the banks and conducting
special studies for improvement in the banking sector with a view to safe guard the depositor’s interest.
• Banking Supervision Department
• Banking Supervision Department ensures enforcement of regulatory and supervisory policies, monitors
risk profiles, and evaluates operating performance of individual banks and DFIs as also of the overall
banking system. It also ensures that banks and DFIs are adequately capitalized and have policies and
systems in place to assess various risks. Furthermore, the Department is also responsible for regulation
and supervision of MicroFinance Banks (MFBs) to ensure their soundness and stability. BSD also provides
online collection & dissemination of credit related information to financial institutions.
• Economic Policy Department
• Prepares monetary survey, credit plans, working papers for National Credit Consultative Council (NCCC)
and M&FCB meetings, keeps constant watch and analyses developments in the financial markets and
matters relating to Pakistan’s relationship with IFIs.
Department of State Bank (Cont’d)
• Exchange & Debt Management Dept.
• Its function is effective and efficient execution of monetary and exchange rate
policies through money market and foreign exchange operations. It also performs
domestic debt management function.
• Exchange Policy Department
• Its functions include formulation and regulation of policies relating to foreign
exchange matters.
• Islamic Banking Department
• IBD has been set up recently with the objective of promoting and regulating Islamic
banking in the country. Its vision is “Make Islamic Banking the banking of first choice
for the providers and users of financial services”. All maters relating to Islamic
banking in the country are taken care of by this department.
Department of State Bank (Cont’d)
• Payment System Department
• It is set up recently to implement Real Time Gross Settlement (RTGS) project, and to oversee the existing payment
and settlement system in place and develop a strategy with the banking industry for improvement in the banking
system.
• Research Department
• Makes objective analyses of economic developments; explore inter-linkages between macroeconomic policies; and
examine their relationships with overall economic growth, with a view to initiating informed public debates on
national issues, and guiding formulation of sound economic policies. It also prepares annual and quarterly reports
on the status of economy.
• Statistics Department
• The Department is responsible for collection, compilation, dissemination and publication of statistics on economic,
financial and monetary aspects most pertinent to the central banking.
• Human Resources Department
• Its objective is excellence at acquiring, developing and retaining the right talent for SBP by continuous innovation &
improvement of the HR policies & procedures, providing effective facilitation and advisory services to line
departments and efficient and timely delivery of HR services.
Department of State Bank (Cont’d)
• Audit Department
• It provides independent appraisal of all the activities of SBP aiming to add value,
improve operational efficiency, risk management & internal control systems.
• Information Systems Department
• It is responsible for oversight and management of the technology operations,
development and implementation, including all corporate systems, LANs, WANs,
databases, websites, system administration and desktop support for the SBP.
• Corporate & Media Affairs Department
• This department is entrusted to arrange Central Board meetings. It takes care of all
the affairs related with Board of the Bank, acts as spokesman of the Bank for media
and other external stakeholders, and manages publications of the State Bank of
Pakistan.
Functions/Role of State Bank of Pakistan
• Issue of Notes
• One of the primary responsibilities of the State Bank is the regulation of currency in
accordance with the requirements of business and the general public. For this purpose
the Bank has been granted the sole right of issuing notes in the country under Section
24 of the State Bank of Pakistan Act, 1956.
• Conduct of Credit and Monetary Policy
• The money supply is the quantity of money available in the economy. Monetary policy
is the control over the money supply. The State Bank of Pakistan is responsible to
regulate the monetary and credit system of the country in such a manner that ensures
monetary stability in the economy. Section 9A of SBP Act, 1956 entrusts the Central
Board of the Bank to formulate and monitor monetary and credit policy by taking into
account the Federal Government's targets for growth and inflation, in accordance with
the recommendation of the Monetary and Fiscal Policies Co-ordination Board (MFPCB).
Functions/Role of State Bank of Pakistan
(Cont’d)
• Regulation and Supervision of the Financial System
• Another principal task of the Bank is to safeguard the soundness of the financial
system. To perform this crucial role effectively and efficiently, State Bank of Pakistan
has been given vast powers under the State Bank of Pakistan Act, 1956 Banking
Companies Ordinance, 1962, Banks Nationalization (Amendment) Act 1974 and
Microfinance Institutions Ordinance 2001 to regulate and supervise the activities of
Banks, Development Finance Institutions and Microfinance Banks. These laws have
been subject to amendments over time to meet changing circumstances. During the
year 1997 some major amendments were made in the banking laws, which gave
autonomy to the State Bank in the area of banking supervision. Under Section 40-A of
the said ordinance it is the responsibility of State Bank to systematically monitor the
performance of every banking company to ensure its compliance with the statutory
criteria, and banking rules & regulations (See Section 5 on Autonomy of the SBP).
Functions/Role of State Bank of Pakistan
(Cont’d)
• Banker’s Bank 
• The Bank also functions as the bankers’ bank. Banks are classified as
scheduled and non-scheduled. The Bank maintains an updated list of all
scheduled banks at its various offices. These banks are entitled to certain
facilities from the State Bank and in return they have some obligations to it.
State Bank provides the following three important services to the scheduled
banks:
• It keeps the deposits of commercial banks, which primarily constitute the statutory
reserves of scheduled banks.
• In order to streamline payments through the financial system, the Bank also manages
the operations of clearing houses.
Functions/Role of State Bank of Pakistan
(Cont’d)
• Lender of the Last Resort
• The State Bank provides loan and re-discount facilities to scheduled banks in
times of dire need when they find no other source of funds. These loans are
essentially short-term in nature and are advanced to enable the banks to meet
their temporary requirements of funds arising out of seasonal expansion in
trade, commerce, agricultural operations, and other economic activities.
• Banker to Government 
• The State Bank conducts the banking business of Federal and Provincial
Government and some government agencies. These functions performed by
the Bank are akin to those ordinarily performed by commercial banks for their
customers.
Functions/Role of State Bank of Pakistan
(Cont’d)
• Public Debt Management
• The Bank is responsible for the management of government debt under
subsection 13(e) of section 17, and section 21 of the SBP Act, 1956. The Public
Debt Act 1944 also defines the responsibilities of SBP for public debt
management. The following actions are involved in this regard:
• Subscribing Federal and Provincial governments’ securities at the time of their issue
• Sale/purchase of such securities in the Money Market (through auction, OMO or
discount window)
• Payments of interest to holders of public debt instruments
Functions/Role of State Bank of Pakistan
(Cont’d)
• Management of Foreign Exchange
• Being responsible for maintaining the external value of the currency, the State
Bank of Pakistan assumed the charge of management and administration of
the exchange system of the country in line with the Foreign Exchange
Regulation Act, 1947 which was originally enacted by the British Government
and subsequently adopted by Pakistan. As an agent to the Government, the
Bank has been authorized to purchase and sell gold, silver or foreign exchange
and transactions of special drawing rights with the International Monetary
Fund under sub-sections 3(a) and 13(a,f) of section 17, and section 23 of the
SBP Act, 1956.
Functions/Role of State Bank of Pakistan
(Cont’d)
• Advisor to the Government
• The State Bank of Pakistan also acts as an advisor to the Government on financial and economic
matters particularly with reference to their monetary aspects. The Bank counsels the
Government on loan operations and advises it with regard to the timings, terms and conditions
and rate of return on these loans. The advisory role of the Bank has been made mandatory in
accordance with the Section 9A(d,e) of the SBP Act 1956.
• Relationship with International Financial Institutions
• Pakistan is the member of International Monetary Fund. The State Bank of Pakistan deals with
the IMF on behalf of the Government of Pakistan (subsections 13(f) and 15 of Section 17 of the
act). As a member of the Fund, the Government accepted the obligations of Article-VIII, Sections
2, 3 and 4 of the IMF Articles of Agreement w.e.f. July 1, 1994. As a result of which Pak-rupee was
made convertible on current international transactions. The Governor State Bank accompanies
the Minister of Finance in annual general meeting of the IMF and World Bank. The Bank officials
also participate in negotiations with IMF missions in Pakistan and at IMF Head Office.