A large amount of non-performing loans can lead to a dwindling confidence level of depositors and foreign investors who may adopt positions against the banks that might result in a negative signal and liquidity problem.
THE banking sector is undergoing a number of challenges — lowering lending rate to a single digit, bringing down advance-deposit ratio, tackling corruption, ensuring good governance, maintaining adequate liquidity, reviving and retaining depositors’ confidence smashed by misappropriation, frustrating deposit interest rate and rumours of bankruptcy, recovering gigantic default loans, etc. None is as overpowering as the default loans recovery challenge is.
The sector is burdened with sky-high default loan and with the passage of time, it has become a curse. According to the Bangladesh Bank, as of December 2019, the total outstanding loans in the banking sector was Tk 10,11,828 crore, out of which Tk 94,331 crore was classified (non-performing). That means that the ratio of gross non-performing loans to the total outstanding loans stood at 9.32 per cent after December 2019. In fact, in the recent past, the amount of non-performing loan has swelled.
We always take pride in doing better than many other nations in many development indexes. But it makes us neither proud nor happy when we hear that Bangladesh tops in default loans in South Asia. In South Asia, Bangladesh has the highest percentage of default loans — 11.4 per cent as estimated for 2019 in the World Bank’s latest Global Economic Prospects report. It portrays a culture of squandering public money in the name of bank borrowing.
Banking regulators and experts prescribe remedies one after another. The formation of a banking commission and an asset management company is the latest. But none seems to be heading towards the intended destination. As a result, default loans problem still remains the much-and-talked issue. Along with critics and analysts, bankers are also in search of a remedy to the problem of default loans. No magic remedy has, however, emerged yet; and there is no hope of getting any panacea overnight to recover the massive loans.
Continued patronage by the political parties in power from time to time, defaulting on loans has become an unhealthy culture. The amount of default loans and the number of defaulters are multiplying, which has turned the banking sector into a bottomless basket and made the bankers collaborators in public money embezzlement.
Despite taking many strategic and legal recovery actions by bankers, a big portion of loan is not coming back to banks, aggravating and prolonging the agony of bankers and rendering multifarious paralysing impacts on the banking sector and economy.
A study shows that over three years, a 1 percentage point increase in the non-performing loan ratio leads to a cumulative effect of about a 0.1 percentage point contraction of the growth of gross domestic product, about a 1.5 percentage point decline in loans growth and a 0.1 percentage point increase in unemployment.
Bank’s liquidity and profitability depend to a great extent on the recovery of its advance. Banks derive most of their income from the interest they charge on loans. Interest income is usually generated from performing loans. In view of this, when such loans become non-performing, the financial strength of these banks get affected. Besides, there is a twin effect of classified loans on the banking system. Non-performing loan stops bank’s earnings not only from non-performing loans but also curtails earnings from regular loans because banks have to keep the interest earned from non-performing loans to their interest-suspense account, instead of taking it into profit account and a good amount of interest from performing loans has to be kept in provision as a cushion against both performing loans and non-performing loans.
Moreover, if the income of a bank is not adequate enough to cover the provisioning requirement as per the Bangladesh Bank guidelines, it has to be set off from bank’s capital, which might result in a capital erosion as well as a shortfall in regulatory capital of the bank. Twelve scheduled banks suffered Tk 10,797.87 crore in provision shortfall after December, 2019. At the same time, 12 banks also failed to maintain the minimum capital requirement and faced a shortfall of about Tk 23,612 crore.
In case of write-off of ‘bad and loss’ accounts, the outstanding amount of the loan is adjusted by the profit of the bank to erase the account from bank’s balance sheet.
Non-performing loans shrink the investment/lending capacity of the banks in granting further loans. Delinquent loans adversely affect the ability of banks to cover other expenses such as serving interest to depositors, payment of employee salaries, government taxes, etc. Banks which tend to have large non-performing loans suffer the most.
Banks usually declare dividend only after making the required provision at the rate up to 100 per cent for classified loans. Consequently, classified loans could have an adverse effect on shareholders’ earnings because provision for classified loans reduces the net profit of banks and consequently reduces the amount of dividends paid to shareholders.
Default scams erode the image and position of a bank. For instance, the Hallmark scam has become a defamatory example for Sonali Bank.
Overburdened non-performing loans threaten the survival of banks because of a continued loss and lack of public confidence and customers’ patronage.
A rise in default and non-performing loans indicates a lack of corporate governance in the banks, which may cause regulatory interference from the Bangladesh Bank or the government in the form of dismissal of managing director, reconstitution or abolishment of the governing board, appointment of observer or administrator, renaming of the bank, ban on fresh lending, no permission for expansion/opening of new branches, etc.
Non-performing loan policy tends to reduce the total loan portfolio of the banks and, thus, affects the interest earnings on loans while credit and CAMELS rating of the bank worsen. If loans become bad, banks will fail to make profit and cannot serve interest to depositors and meet their expenses.
Most banks are unable to remain competitive in the turbulent financial sector due to a high default rate as non-performing loan scams tarnish the reputation and goodwill and, thus, negatively affect share prices of banks.
A large amount of non-performing loans could also lead to a dwindling confidence level of both depositors and foreign investors who may adopt strange position against the banks which might result in a negative signal and liquidity problem.
The cost of running business is high in Bangladesh in comparison with many other countries in the region due to a high lending rate. Banks do not earn interest income from non-performing loans. And to recuperate this loss they charge high interest on fresh lending. According to an analysis, banks can bring down lending rates by 0.4 percentage points to counter the widespread default culture, which is so acute in Bangladesh that the banking system needs huge capital injection from taxpayers’ money every year.
Apprehending bankruptcy and deposit loss, customers will try to withdraw their entire deposits from banks and there may be banks run. If similar situation happens in all banks, the entire economy will be affected.
At the end of the 2018–19 financial year, the size of gross domestic product stood at Tk 25,42,482 crore. Non-performing loans eat up about 3.71 per cent of the gross domestic product. Three Padma bridges could be constructed with this amount of non-performing loans. If the non-performing loan amount could be realised, it could boost the growth of the gross domestic product by a huge margin.
The default loan culture sends out a negative signal to the international business communities that Bangladeshi businessmen are not trustworthy and lack in business integrity; and thus shrink their business ties with local businesses.
The default of the largest borrowers is likely to have the highest impact on the soundness of the banks. As per the Financial Stability Report 2018 of the Bangladesh Bank, at the individual bank level, 22 out of 48 banks are likely to become undercapitalised if the largest three borrowers default.
A bank may face its ultimate fate. When non-performing loans reach at an alarming point accompanied by corruption and bad governance, a bank may even face the fate of merger with other strong banks or financial institutes. Even the government may take over the bank. And if everything fails, the bank may ultimately be liquidated.
Recently the finance minister has commented that the government has decided to lower the lending rate as it cannot bear the burden of default loans any more. But it is also true that both ‘default loan control’ and ‘running of banks with profit’ are essential. Destroying banks for saving the defaulters would never be a right move. The interest and survival of banks should be given priority or equal consideration at least.
Besides, lowering the lending rate may reduce the volume of default loans but not the number of defaulters because a good number of borrowers are wilful defaulters and another faction of borrowers remain regular by using the reschedule and restructure tools. Section 5(GaGa) of the Banking Companies Act, 1991 and BRPD Circular 11 dated July 19, 2012 and several subsequent circulars of the Bangladesh Bank defined ‘defaulter’, but neither any law nor the Bangladesh Bank has yet formally defined ‘wilful or habitual defaulter.’
As a result, banks have actually become hostages to these disguised wilful loan defaulters. With the present amount of default loans, about 235 more banks can be set up with initial paid-up capital of Tk 400 crore each. This indicates how much and how deep the default loan haemorrhage is and how severely it has affected the banking sector in particular and the national economy in general.
So a clear clause in law or a Bangladesh Bank circular defining and categorising wilful or habitual defaulters must be in place so that banks can easily detect wilful or habitual defaulters. In addition to stopping fresh default on loans, there must be some quick healing strategies for existing default loans. Declaring loan default as a national and priority problem, showing zero tolerance to wilful defaulters and scamsters, setting up special tribunal or separate bench for settling all pending money recovery suits at the earliest, issuing non-bailable arrest warrants to wilful defaulters, declaring the notorious defaulters bankrupt and confiscate their business and assets for the settlement of bank dues can be a fruitful beginning.
Default loans have curtailed money flow into the economy and growth in the private sector. Thus it is diminishing employment opportunity and pulling back the gross domestic product and the development of the country. In such a situation, tackling the defaulters with an iron hand is a must to give the banking sector and the national economy a better shape and a sustainable pathway to make the country a developed one by 2041.
Mosharaf Hossain is principal officer and head of the Pakudia branch of National Bank Limited in Kishoreganj.
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