Published in The Daily Star on Monday, 29 May 2017
The banking sector has been passing through a turbulent period for some time. Given that a sound financial sector is key to sustained economic development, good health of banks is crucial. This is more so when almost 80 percent of financial assets is owned by commercial banks. In FY2017, the financial sector’s share in GDP was 3.41 percent, of which the share of the banking sector was 2.91 percent. The sector is struggling to recover from the setbacks of large financial scams in a number of state-owned and private commercial banks unearthed in recent years. Most indicators reveal a poor health and lack of discipline in several banks.
In an effort to attract investment, emphasis has all along been put on lowering bank rates. High lending rate has been attached to high deposit rate. Bangladesh Bank desires that commercial banks should keep their interest rate spread within 5 percent. In recent times, there has been a downward trend of both lending and deposit rates. However, this could not energise the growth of domestic credit that increased only slightly in March 2017 compared to that of the same period last fiscal year. Though growth of credit to the private sector was 16.1 percent in March 2017, close to Bangladesh Bank’s target of 16.5 percent, credit to the public sector has been negative (-9.5 percent). Low demand for bank credit by the public sector is due to government’s reliance on savings certificates. Lower demand for credit has resulted in high liquidity in the banking system.
As banks are in the process of implementing BASEL III, a global regulatory guideline to fulfil capital adequacy requirement, effort has to be expedited to maintain such requirements. Though the overall risk weighted capital adequacy ratio in the banking sector is slightly higher than the minimum requirement of 10 percent, this is mainly due to private commercial banks and foreign banks. State owned banks (SCBs) and development financial institutions are lagging behind, indicating their vulnerability.
Despite various initiatives taken by the central bank, the amount of non-performing loan has piled up. Non-performing loans (NPL) in the banking sector has had a general pattern during the last few years, which shows that towards December each year, the NPL comes down, but starts to rise afterwards. This is probably due to banks’ effort to clean up their balance sheets at the end of the year. Though Bangladesh Bank adopted a flexible loan-rescheduling policy in December 2013, it did not bring the positive outcome as intended. Increased NPL and lower credit to the domestic sector have hit the profitability of banks.
The government has been providing generous support to SCBs in order to improve their balance sheet. In recent years, certain amount has been earmarked in the national budget to make for the losses of the SCBs. In the budget of FY2017, the government had allocated a recapitalisation fund equivalent to Tk. 2,000 crore in order to meet the capital shortage of banks created by loan defaults. But the default loan situation of the SCBs has not improved. Such recapitalisation of funds were not much help, since they could only improve the balance sheet of the ailing banks, but not the overall loan default situation.
In a resource constraint country, the opportunity cost of such a large amount is high. This resource could otherwise be utilised for the social sector where budget allocation falls short of the requirement. If the recapitalisation fund was used for education and health sectors, it would improve the share of these sectors’ budget in GDP. For example, during 2009 -2016 the actual amount of recapitalisation fund for SCBs was Tk. 11,705 crore. If this amount is added to the health budget, the actual budget expenditure for health in FY2016 would have increased to 0.84 percent of GDP from the current 0.73 percent.
Recent amendments to the provisions of the Bank Company Act proved to be another setback. This approves increasing the tenure of directors of a private bank from the existing six years to nine years, and allows four members from a single family to be directors in a private bank. In view of the fact that dominance of family members often means that there is resistance to adopting corporate regulations, the Banking Companies Act was amended in 2013 to curb such activities. This amendment had allowed banks to have a maximum of 20 members on the Board, of whom three directors must be independent. This allowed a maximum of two family members to be directors in a private bank. This most recent amendment is regressive in nature, since it will take a step back from the previous changes made to the Act. This law will mean that family ownership will have greater control in banks with the possibility of erosion of corporate governance.
The other issues include the recent developments in the Islami Bank Bangladesh Ltd. Following allegations of being involved in terrorist financing and funding political violence, new management is in charge of the bank. Amidst major changes in the management of the bank, the concentration of shares has shifted towards a single owner-borrower. In the interest of common depositors and borrowers, and in order to improve its governance, an orderly transition is urgently required.
If the current trend of mammoth NPL, inefficient management and lack of governance continues, the banking sector can cripple a flourishing economy instead of contributing towards its advancement. Time is ripe now to take bold and effective measures.
The writer is the Executive Director of Centre for Policy Dialogue (CPD).