Key reforms needed to salvage the banking sector
After the July uprising, the billion-dollar question on everyone's mind is the future of our banking sector. Media reports and civil society discussions paint a dismal picture, and there are numerous reasons for the prevailing pessimism. However, if we look at the banking sector reforms carried out in neighbouring countries like India, China, South Korea, Indonesia, or some European nations, we have reasons to believe that with the right structuring and seriousness from political leaders and development partners, the state of our banking sector could be improved to an acceptable level. Cooperation and dedication from the applicable regulatory authorities as well as the bureaucracy is also critical if the necessary reforms are to be implemented.
The IMF has emphasised the need for a sound financial system as a prerequisite for speeding up economic recovery. Against this backdrop, let us first consider some issues from the perspective of bankers and regulators that need to be addressed to chart a path towards a strong and efficient banking system in Bangladesh.
For all latest news, follow The Daily Star's Google News channel. The banking industry as a business is inherently risky. The main focus of risk management practices in the banking industry is to manage an institution's exposure to losses and protect the value of its assets.
Senior bankers must ask themselves: what kinds of events or factors can damage my business and by how much? What actions can I take to minimise such risks? Did I make the right decisions to minimise such risks? In Bangladesh, the answers to these questions will vary significantly compared to banks operating in developed economies where firm regulatory and legal support exists. In Bangladesh, bankers struggle with external nuisances such as undue and often ruthless political pressure to forgive bad debts, greedy and selfish motivations of board members, rampant corruption of regulatory officials, weak regulations, fear of losing employment if they do not comply with influential people, and a lack of financial instruments to hedge against risks. Therefore, in a developing environment like Bangladesh, risk management becomes much more complicated and therefore, in designing the necessary reforms, such complications and sensitivities need to be taken into account.
The board of directors within banks ultimately dominates the executive branch. In Bangladesh, this is often the root of many problems due to major conflicts of interest. The board of directors are often motivated by personal goals of wealth accumulation rather than the health of the institution. Some members may appear independent, but upon scrutiny, their conflicts of interest become visible. These directors often have relationships with wilful defaulters and use their influence over the executive branch to operate in risky ways. Therefore, fit and proper test criteria for board members should be strictly enforced and updated, including identifying the beneficial owners of significant interests in a banking institution. The boards of commercial banks should include a majority of independent directors, and legal systems should be enhanced to support banks in recovering non-performing loans (NPLs), particularly from wilful defaulters.
Whenever people are involved in the banking framework, "human" related failures are bound to occur and bad decisions are going to be made. Therefore, automating the banking system to the highest degree possible could be beneficial. In developed nations, human judgment and influence have been minimised. Bangladesh would benefit from utilising the same level of technology and management information systems (MIS). An effective and sophisticated MIS should be able to collect and analyse vast amounts of data to make unbiased decisions regarding actions to be taken. This support will provide bankers with the necessary tools to mitigate the risks of loans going bad. Enhanced digital and alternative banking options will also benefit customers by reducing the need for physical bank visits. Examples include depositing checks via smartphone apps, instant loan decisions by algorithms, wider availability of customised credit cards, and greater migration towards a cashless society.
Increased use of MIS, AI, and customised banking technology can improve a bank's asset versus liability management ratios and make the process more efficient. The primary objective of asset/liability management is to find the correct balance of risk versus return. This involves managing different variables, ratios, mixes, volumes, short-term versus long-term considerations, and rates in a balanced manner to realise the desired level of profit without much risk. Therefore, increased usage of MIS for such computations would be more prudent than relying on human judgment.
Due to increased computerisation, services provided to customers will become faster. However, it will never be possible to completely remove the human factor from the banking system, especially for large, complicated transactions and specific customer demands where experienced judgement may be required. Therefore, it is critical that a bank's workforce is adequately trained, and their expertise upgraded to match the level of technology in place. Additionally, it is important that banking officials are hired and promoted based on merit and effectiveness rather than their personal relationships and connections to the board of directors/owners.
Banking sector policies and regulations by the central bank need to be fully transparent to avoid ambiguity among banks and facilitate appropriate implementation. Easy and fast access to all relevant regulatory and policy documents should be ensured. Another important issue is the sub-optimal enforcement of existing regulations. Regulatory forbearance, where the central bank permits banks to operate by relaxing standard norms, has led to the rescheduling of large, defaulted loans and the continuous piling up of NPLs. Banks practicing this should face strict and prompt remedial actions rather than relaxed standards.
Research on 19 commercial banks in Bangladesh shows that state-owned commercial banks (SOCBs) have been consistently outperformed by private ones in terms of efficiency. The role of SOCBs should be reassessed, transforming some into developmental institutions with a clear public mandate and necessary budget support. Other SOCBs should either be converted into banks operating on commercial principles or closed. The central bank needs to strengthen its regulation and supervision of SOCBs, which depends on its own independence and autonomy.
None of the above matters can be implemented without the full support and direction from the primary banking regulator—the Bangladesh Bank. The regulator should have the country's strategic vision in mind and bring together all the pieces such as asset/liability management policies, interest rates, the level of automation permissible, protections for bankers against undue influence, punishment for wilful defaulters, and rules governing the board of directors. The full sovereignty and independence of the central bank are critical, including choosing the right persons for the central bank board to mitigate and tackle these issues. If the primary regulator is not perceived to be above undue influence and pressure, the system it governs will never be right.
Mamun Rashid is founding managing partner of PwC Bangladesh and chairman at Financial Excellence Ltd.
Views expressed in this article are the author's own.
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