Continuous flow of investment by the financial industry in various sectors of the economy is the precondition for economic development of a country, and Bangladesh in particular. Unfortunately, the financial sector itself is tumbling recently, hence the role of the industry in economic development of Bangladesh remains opaque in the days to come.
The banking sector in Bangladesh has already been characterized by low profitability and insufficient capital base. It is noteworthy that in the last few years the quality of the loans in the banking industry has significantly deteriorated, which threatens the viability of the industry and its long-term impact on the economy.
The high non-performing loans (NPLs) or bad loans is a significant predictor of bank failure. Rapid pile-up of bad loans translates to a sluggish nature of the recovery. For borrowers, delays in debt repayment make it more difficult to seek for further credit facilities from the financial institutions, which often leads to a second round of debt default and firm bankruptcy. Lenders are affected, too.
A bank plagued with a high volume of NPLs is likely to focus on internal consolidation and improving asset quality rather than providing new credit. A high NPL ratio requires greater loan provisions, which reduces earning, deteriorates capital, increases loan pricing, slowdowns the economy, and dents bank profitability. Thus, excessive bad loans play a notorious role in banking crisis which eventually led to financial crisis.
The high non-performing loans (NPLs) or bad loans is a significant predictor of bank failure
The NPLs ratio of Bangladesh is higher than those of banks in neighbouring countries, including India, Nepal, and Sri Lanka. The gross NPLs increased to 10.7% in September 2017, compared to 9.2% in December 2016, according to the central bank of Bangladesh. Such hike in the NPLs’ percentage has badly deteriorated loan quality in the banking sector of Bangladesh.
Moreover, banks like State-Owned Commercial banks (SCBs) and State-Owned Development Financial Institutions (DFIs) are currently functioning in the most alarming state -- with the highest ratio of gross NPLs to total loans quantified as 29.3% and 23.8% until September 2017. Meanwhile, such ratios among Private Commercial Banks (PCBs) and Foreign Commercial Banks (FCBs) remained at 6.0% and 7.9% respectively in the same year. Thus, such a hike in bad loans is the wakeup call for the financial sector of Bangladesh, because without due address, ultimately, it may lead to a financial crisis in no time.
The central bank confirms that the increase in total classified loans, defaulted outstanding, non-recovery of the interest charged on loans as well as substantial loans provided on considerations other than commercial purposes are the main factors for bad loans in the banking sector.
Apart from these, poor appraisal, inadequate follow-up and supervision of the disbursed loans, poor quality of the collaterals, shadow banking practices, approval of new banks through political influence without considering the size of the economy and other concerning factors, and lastly, the structural inefficiencies and loopholes of the judicial system for the disposal of cases reflect the performance of banks’ loan quality.
It is high time for the government, especially for the central bank, to take necessary steps and to promulgate strict and rectifying policies to avoid financial crisis by ensuring a stable and sound banking system in the economy.
So far, Bangladesh Bank, the central regulatory authority, has adopted several policies, such as, loan re-scheduling facility, introduction of CIB report, waiver of interest, and Integrated Supervision System (ISS) to get rid of these excessive bad loans. owever, these measures have botched to reduce the number of bad loans from the list.
Thus, Bangladesh Bank must play its part to control the banks which get engaged in malpractice and exercise off-balance sheet manipulation. The central bank should introduce single profiling system for a particular client with a unique number, regardless of banks to monitor multi-borrowing practices of the individuals or companies.
Apart from the intervention of the central bank, all the banks should have their own risk assessment guidelines for the credit risk management team at the branch level. However, most of them do not understand and properly follow the guidelines due to having insufficient skills and expertise. Thus, central credit processing system is required in the banking operation to ensure that the team involved in credit risk management can follow the proper guidelines.
Furthermore, banks should try to evade extending overly risky loans from the outset by properly assessing the creditworthiness of the borrowers. It is also important to have a proper monitoring system in place so that the bank can detect any anomaly at an early stage. Plus, when a borrower is facing financial difficulties, the bank will be able to assist and guide the defaulter promptly and efficiently.
The banks should also increase ethical standards of the officials’ affairs and focus more on the managerial ability to create the credit environment as a trustworthy and vibrant instrument. Digitalisation, optimisation of human resources, and branch networks as well as reduction of over-banking will reduce bad loans.
It is therefore important for the government to consider the size of the economy and other concerning factors before providing licences to new banks.
Statistics shows that Bangladesh has 57 scheduled banks, whereas, India has got 93 despite having large economy. Currently, a number of banks practices unhealthy competition which will lead to deterioration in loan quality of banks in Bangladesh. The government should take a bundle of actions related to debt enforcement and reduction of information asymmetries. The quick disposal of lawsuit/cases by the courts in coordination with Bangladesh Bank will ensure the structural efficiencies in debt and collateral enforcement.
We should bear in mind that Bangladesh has become eligible to graduate to a developing nation status from least developed country (LDC). The collapse of the financial sector might get in the way to our graduation.
Hence, the importance of resolving bad loans is unquestionable both for the survival of the industry and overall development of Bangladesh. However, a great deal of hard work is clearly required to reposition this sector. Excessive bad loans require high supervisory actions to prevent financial crisis -- thus, a comprehensive and well-coordinated effort from all the stakeholders are now crucial to become a developing nation by the stipulated time.
Hasanul Banna is a Research Fellow, CPDS, Faculty of Economics and Administration, University of Malaya, Malaysia.