Published in The Daily Star on Monday, 23 January 2017
The banking sector in Bangladesh has been plagued with a number of disappointing trends for some time. This has impacted the soundness of the banking system and resulted in huge losses for the sector. One of the perennial problems is the rise of non-performing loan (NPL). The behaviour of NPL in the banking sector has been following a certain trend during the last few years. It is observed that towards the last quarter of each year NPL comes down but starts to rise afterwards. One of the probable reasons behind this lower NPL towards the end of the year could be restructuring and rescheduling of loans by December of every year.
Even though NPL was kept low by rescheduling and restructuring of total outstanding loans in 2015, the amount of NPL started to increase in 2016. A ‘default culture’ demotivates the good borrowers. It is encouraging to note that Bangladesh Bank has taken initiatives to provide incentives to good borrowers and help them by providing 10 percent rebate on their interest payments against their bank loans. It is yet to be seen how many banks offer this to its borrowers.
Among the South Asian countries, Bangladesh stands second, only after Pakistan in terms of NPL as a share of total loan. The major contributor to the rise in bad loans is state-owned commercial banks (SCBs). Even though only about one fifth of total loans of the banking sector are disbursed by the SCBs, the share of SCBs’ NPL in total classified loans was 45.57 percent as of September 2016, according to Bangladesh Bank data. The highest share of loan is provided by private commercial banks (PCBs) which contribute to 42.12 percent of total NPL. In terms of the share of NPL in their respective total loans, there is a huge divergence amongst banks. For example, the share of NPL in their total loans was 25.16 percent for SCBs, 5.9 percent for PCBs, 8.85 percent for foreign banks (FBs) and 26.14 percent for development financial institutions (DFIs) in September 2016. Even though DFIs provide only 3.5 percent of total loans by the banking sector, they have the highest NPL as a share of their total loans.
The overhang of NPL in the SCBs hit their profitability. It has also affected SCBs’ ability to expand their loans. Lower credit growth by the SCBs could have repercussions on the overall credit growth as SCBs account for a sizeable amount of the overall loan disbursed by scheduled commercial banks. Of course, the share of total loans by the SCBs in total loan disbursed by commercial banks has been declining since December 2014.
Bangladesh is in the process of full implementation of Basel III from January 2020. In the transitional arrangement of Bangladesh Bank, between 2015 and 2019, the banking system had to maintain a 10.625 percent capital adequacy ratio in 2016. In September 2016, both SCBs and DFIs could not maintain the minimum requirement. Although private and foreign banks maintained capital adequacy above the minimum requirement, underperformance of SCBs and DFIs brought down the total share below the minimum requirement.
In order to maintain the international standard of capital to risk weighted asset, the government is planning to release bond. The objective is also to meet the huge capital shortfall in the scam-hit banks. The details of such bonds are yet to be disclosed. Given that these banks suffer from extreme underperformance, the repayment ability and debt liability are matters of great concern.
Another indicator is the decline in profitability in June 2016 after a rise in December 2015. Higher provisioning for bad loans in the SCBs lowered their profits. In June 2016, return on assets declined compared to that of December 2015. On the other hand, return on equity declined in June 2016 from December 2015. Among the six SCBs, return on asset is negative in three, while return on equity is negative in two.
On the whole, there is not much to be optimistic about coming out of the current struggle on classified loans anytime soon, one which continues to persist in FY2017. The situation cannot be overcome without major policy reforms and establishment of good governance in the banking sector. The practice of writing off bad loans helps banks to heal wounds only superficially; this will not improve the health of the sector on a lasting basis. In current situation, SCBs are not in a position for growth anymore. Thus their focus should rather be on consolidation through cleaning their balance sheet.
While the banking sector is yet to recover from many shocks, new challenges continue to appear in new forms. Reserve heist from the central bank is an unprecedented phenomenon that underscores the importance of strengthening cyber security in the central bank and in the banking sector as a whole. Efforts towards recovering the stolen money from Bangladesh Bank’s reserve through cyber-attack should be pursued consistently. Autonomy of the central bank to undertake bold measures against defaulters and malpractices in the banking sector is crucial for effective measures. There is an urgent need for setting up a banking commission in order to scrutinise the overall situation of the banking sector and solicit concrete recommendations for a dynamic sector. Though the size of the banking sector has increased over time, the sector needs a massive cleaning up through implementation of appropriate measures and strengthening of monitoring and supervision mechanism.
The writer is Research Director at the Centre for Policy Dialogue.