An offender can be punished with a view to having a deterrent effect both for the person concern and for others, giving an example. But when a judge is lenient and hands down a token punishment for serious transgression, taking a sympathetic view, more harm can be done than good. The offender, when punished lightly, may repeat the offense, considering it to be of little consequence in terms of punishment. This phenomenon is known in the financial world as 'moral hazard', a good turn becoming a risk for repetition of past deeds that drew the attention of the overseer in the first place. When the fear of retributive measures is removed from the mind, committing the same lapses from the norm of permissible does not appear to entail much of a harm.
An analogy between ordinary offenders and commercial banks may not be wholly apposite but it is helpful in seeing one of their most serious problems in proper perspective. It drives home the truth about moral hazard that banks may face when their regulatory authority goes soft on their failure to exercise due diligence about granting loans to parties and to take timely actions for recovery of defaulted loans.
Recent months have seen a slew of policy announcements by Bangladesh Bank (BB) regarding non-performing loans (NPLs) of commercial banks, particularly state-owned banks (SoBs). No doubt, they are well-intentioned but the moral hazard involved some of these decisions in terms of implications may have been overlooked or minimised. The first of the announcement made was about re-scheduling of NPL's in May this year, allowing defaulters to have their overdue loans re-scheduled by paying 2.0 per cent of the total loan as down payment over a period of 10 years. The interest rate to be paid by them was more than half of the existing one. The previous policy decision of BB on this was payment of 10 per cent down payment for a maximum period of 5 (five) years with 9.0 per cent rate of interest.
Re-scheduling of NPLs was accompanied with write-offs defaulted loans. Nine months ago, the first decision on write-offs was announced by Bangladesh Bank. According to a news report in an English daily, the BB has now assured commercial banks that it would further relax the loan write-off decision in order to help them to clean up their balance sheet through shedding large amount of defaulted loans (Daily Star, November 08, 2019). It was disclosed in the above news item that BB had started working to relax its write-off policy for the second time in nine months this year, 'bowing down to pressure from certain quarters.' This time, it was noted, the write-off will be more generous as the new decision will allow banks to write-off defaulted loans that have been hovering around the 'bad' category for 1 (one) year, down from 3 (three) years previously. On February 06 this year commercial bank was allowed to write-off defaulted loans that were marked 'bad' for 3 (three) years in row, instead of earlier 5 (five) years. This was purportedly done as the central bank wanted to show lower amount of sour loans. The World Bank in its Update on Bangladesh for 2019 has noted that decision to allow write-off has failed to curb the amount of defaulted loans.
As of June this year, total amount of defaulted loan amounted to Tk 1124.25 billion (1,12,425 crore), up by 20 per cent from six months earlier, according to data from Bangladesh Bank, quoted by the English daily. This is corroborated by Financial Express, according to which classified loans jumped nearly 20 per cent to Tk 1,85,14 billion from Tk 1124 billion on June 30, 2019, rising above Tk 939.11 billion in December, 2018 (November 15, 2019). According to the same source the NPLs of 4 (four) SoBs rose to Tk 437.70 billion from Tk 391.7 billion in December, 2018. It appears that neither the policy stance on re-scheduling nor write-offs has succeeded in stemming the tide of NPLs. Can it be that the phenomenon of 'moral hazard' has exacerbated the situation, making it more dire? The growing volume of NPLs over a period of six months makes the speculation persuasive. It calls for an urgent review of the policy on re-scheduling and write-offs by Bangladesh Bank.
According to Daily Star report quoted above, the latest central bank decision of write-offs came after the Association of Bangladesh Banks (ABB) sent a letter to BB in the last week of August this year with a request for further easing of the write-off policy. But insiders in BB are reported to have said that ABB was forced to send the proposal after being 'instructed' by influential sponsors of a handful of banks. It is natural for an interest group like ABB to lobby on behalf of its members to the power that be. Ideally, of course, an association of an interest group should also consider public interest in addition to that of its members and try to reconcile the two seemingly irreconcilable interests. It is not known, to what extent public interest was taken into account by ABB before sending their letter to BB. If this did not feature at all in their deliberation it can not be accused of malfeasance. It just failed to rise above parochial interest. But the BB, as the guardian and promoter of public interest reflected in its monetary policy cannot be oblivious to its mandate and become vulnerable to external pressures when these appear to compromise the statutory obligations to oversee and regulate the financial sector in order to help promote sustained economic growth.
The problem of NPLs in commercial banks is continuing for such a long time that in the absence of corrective actions it may lead to a crisis, upending the steady growth that the economy has registered in recent years. Bangladesh Bank cannot be complacent that matters relating to NPLs will settle down to normal without stringent actions. Rather it runs the risk of becoming a 'new normal' which can hardly be beneficial for the economy. The problem has come to such a pass that conciliatory policy will not work. Being lenient and generous, under pressure, as is alleged above or on its own, will not help.
The Updates/Outlook of World Bank, Asian Development Bank and the IMF have all applauded the sound macro-economic management that has been credited for the impressive rate of growth of the economy in recent years. But these multilateral institutions have also sounded alarm bells about the downside risks posed by the growing volume of NPLs. The World Bank has even questioned the wisdom and rationale of granting write-offs of defaulted loans. Before these Updates and Outlook reports were published, a cross section of Bangladesh economists, prominent civil society members and print media had expressed concerns over the problem of NPLs and regarding lack of effective measures to address the same. Their voices should not become mere cry in the wilderness.
In this age of financialisation of economy, banks can make or mar economic growth through wrong decisions or wilful indiscretions. If there is any doubt about this the incidence of the great financial crisis of 2008 and its aftermath may be recalled. Financial crisis may come in different context and in different shape, but the outcome is the same viz. a serious setback for the economy. NPLs in Bangladesh financial sector is the 'elephant in the room' - an insidious problem for quite some time. It may slide into a 'crisis' sending the economy into a tailspin unless tackled appropriately and without loss of time.