How can we curb loan defaults?
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Bangladesh Bank has announced a new plan to reduce non-performing loans (NPL) to less than 8 percent by June 2026. The central bank aims to bring down the NPL of state-owned commercial banks to 10 percent and private banks below 5 percent. As we know, many such initiatives have been introduced earlier and they failed to show desired results.
The regulators felt the step to relax the loan write-off policy is expected to contribute to a significant reduction in NPLs of Tk 43,300 crore, or 2.76 percent, by 30 June 2026. However, this may not translate into an effective recovery of the loans. Rather, this only helps clear the banks' balance sheet.
When you allow banks to speed up the process of write-off loans from three years to two years, you are just making it easier for them to show less NPL. When you do this, you allow the disease to persist while erasing the symptoms.
Our banking sector's gross NPL ratio was 9.93 percent at the end of September 2023. The NPL ratio of state-owned banks was 21.7 percent, while it stood at 7.04 percent for private banks.
Getting it down to 10 percent and 5 percent within two years is a humongous task, and given the past track record, skepticism persists. Perhaps the most worrying would be whether the central bank can enforce its decisions on all banks.
Historically, Bangladesh has had a good record of NPL management.
After increasing steadily from 26.09 percent in 1990 to a peak of 41.11 percent in 1999, the ratio fell to 31.49 percent in 2000, 22.1 percent in 2003 and 13.55 percent in 2005.
The ratio hit a record low of 6.1 percent in 2011, but not for the best reasons. This happened mostly due to written-off loans, provisioning and a sharp decline in new bad debt. It rose again in 2012 when it increased to 10 percent.
As the economy began recovering from Covid-19 shocks, NPLs saw a new surge.
Having 100 percent provisions to write off loans will have two-fold problems. Firstly, most banks do not have 100 percent provision. Even if the central bank instructs banks to do it, they will need excess capital, whereas most banks actually have a capital shortage.
Another obstacle is the fact that if banks have to make 100 percent provision for the write-offs, this will significantly reduce their profits, and the shareholders may not be supportive.
Aligned with the guidelines put up in the International Monetary Fund's first review report on the $4.7 billion loan package, Bangladesh Bank's roadmap encompasses the establishment of an asset management company in the private sector. Though the government was thinking of some steps towards that, an asset management company can't operate in isolation. It has to be part of an ecosystem, which includes the creation of laws, institutions, regulations, systems and processes.
We have been successful in reducing NPL because the policies were taken and implemented. However, in the last 10-15 years, the problems were not addressed at all, and now they have accumulated and brought the crisis to an unmanageable level.
Hence, a comprehensive approach needs to be taken to find out the financial, legal and institutional issues and resolve them systemically. The central bank should also focus on preventing new bad debts and ensure banks abide by regulations and the roadmap.
The author is an economic analyst
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