Pakistan’s banking sector holds over $140 billion in deposits, yet private sector lending remains constrained as commercial banks prioritize low-risk government debt. While current International Monetary Fund (IMF) program conditions mandate fiscal discipline and the phasing out of concessional lending schemes, analysts suggest that redirecting existing liquidity toward climate-smart projects could stimulate economic growth without increasing the fiscal deficit or creating new money.
Why Private Sector Lending Remains Stagnant
Commercial banks in Pakistan currently lend approximately 40% of their total deposits, according to sector data. The primary obstacle to increasing this ratio is the risk-adjusted return profile of government securities compared to private sector loans. Government bonds currently offer reliable yields with minimal capital requirements and negligible default risk. In contrast, project lending requires intensive underwriting, ties up balance sheets for extended periods, and carries inherent credit risks. As noted by industry observers, banks are unlikely to significantly increase risk exposure unless the economic incentives for productive lending shift to compete with the stability of sovereign debt.
How Green Finance Could Unlock Liquidity
Climate-focused financing is emerging as a potential catalyst for credit expansion. Pakistan is recognized as one of the most climate-vulnerable nations, a status that provides access to international concessional finance facilities not available for general lending. The State Bank of Pakistan (SBP) has established a "Green Taxonomy," a framework designed to standardize the classification and disclosure of green assets.
While the taxonomy provides the regulatory rules for labeling, it does not currently mandate lending volume. To bridge this gap, experts point to three potential mechanisms:
- Capital Treatment: Implementing lighter risk weights for qualifying green assets, similar to frameworks used in Europe for small-business lending, to improve the internal rate of return for banks.
- Concessional Funding: Transitioning from direct central bank refinancing—which is being phased out under IMF commitments by 2028—to development-finance channels like the Exim Bank to provide lower-cost capital for green projects.
- Prudential Plumbing: Recognizing green collateral to lower the cost of risk and allowing green-linked assets to count toward statutory liquidity reserves, thereby making these loans more attractive than government bonds.
The Regional Shift in Central Banking
Pakistan’s approach to climate finance is part of a broader regional trend. Central banks from Beijing to Dhaka are increasingly integrating climate risk and green investment mandates into their monetary and regulatory machinery. By aligning with these global standards, Pakistan aims to utilize its existing banking liquidity to drive growth in the real economy.
The strategy relies on "de-risking" mechanisms, such as partial guarantees and blended finance, to absorb initial losses. By shifting the incentive structure, regulators hope to make climate-smart lending a profitable alternative to the current reliance on government-backed debt, effectively utilizing the $140 billion in idle deposits to support sustainable economic development.