We face uncertainties regularly in all walks of life i.e. risks are always there. But we are hardly interested to manage those. That is so because risk management is expansive; it involves extra effort, monetary cost or opportunity cost. Generally, there is optimism that we might not be affected by the uncertainties or risks. This human nature and optimism is reflected in our professional and business behavior as well.
Covid-19 has brought a comprehensive risk environment in our personal, economic and social lives. Initially we expected that the virus would be confined within China, and behaved accordingly. Now the entire world is in the grip of the corona virus and practically all global economies are fighting it. Still, at the individual level most of us have the unusual confidence that 'I might not be affected!' Probably, it is because of this attitude that we are rather relaxed about Covid-19-related risk management. In reality, most people are risk averse.
Risk management is particularly crucial in banks and financial institutions that handle deposits of the common people. In a bank, risks are handled within stringent regulatory and compliance framework. Being in the corona war, policymakers worldwide are engaged in damage-control of the harm being done to the economy at the moment and preparing for confronting the upcoming economic crisis. In addition, there are evidences and indications that financial and banking industries around the globe might have to face remarkable instability in the forthcoming months.
Certain banking services like payments are considered as essential services in this lockdown environment, and as such bankers, at least a section of them, are always there in their offices to support their clients. Thus, a good number of bank executives are facing greater Covid-19 contamination risk like some of the frontline soldiers in the corona war--- doctors and health workers, public servants, and other support service providers who are working outside their homes. Despite being in this critical and unprecedented environment, the banking industry cannot afford to escape action and preparation for identifying the exiting and future risks associated with the banking businesses. Otherwise, efforts of the country would be wasted and the economic recovery will be delayed.
The banking risks may stem from different sources, and currently we have a congenial environment, though there are all the elements that may result in significant risks of different types in banking operation. Economic and business activities have come to an unprecedented halt and there are widespread financial and business uncertainties all over the globe. Domestic and international trade, transportation and communications are severely disrupted, and entrepreneurs are faced with clear future cash-flow uncertainties and lack of confidence. All associated parties and clients of banks are also not certain about their future legal liabilities in the post-Covid-19 environment.
Internal environment of banks are also vulnerable as evidenced by contraction of regular banking activities. Of the services, generally, payment activities are encouraged and promoted. In-person banking is severely* affected, the traditional practice of the banking industry in most of the developing countries including Bangladesh. There are huge uncertainties in deposit and financing services by banks. Banks are far from their regular performance in the areas of customer service, and there are fear of the erosion of customers' confidence in the banking institutions. Considering both external uncertainties and internal vulnerabilities, almost all forecasts are indicative of an impending banking crisis.
As a crisis response strategy, policymakers are following almost a common approach of injecting money in the economy by ensuring greater liquidity with the banks. We have observed changes in the Cash Reserve ratio and Advance-Deposit Ratio to that direction. Only time will tell whether the policy initiatives to address liquidity risks of banks are adequate or not. Of the banking services, importance and demand for online payment increased as a result of social distancing and quarantine. Cyber risks and operational risks associated with the existing banking services might be of concern when internal control mechanism is not in full swing.
Economic and business disruptions have started to affect banking industry throughout the globe. Banks in Bangladesh are also facing huge uncertainties and skepticism especially about repayments of loans by their clients when their business are in disarray. In the pre-covid-19 situation, some banks of the country were already struggling with non-performing loans. The current situation might bring huge burden of non-performing loans for the banking industry if the growing credit risk in this Covid-19 environment is not addressed effectively.
In the context of international trade services, payment-related risks have become a matter of concern. In the context of Bangladesh, banks have significant involvement in the trade transactions and may even face greater liabilities as a result of the international trade disruptions. There are claims that some banks in different countries are identifying spurious discrepancies in the LCs to escape payment liabilities which might be the source of fraud and reputational risks for banks. If not handled properly, back-to-back LC might be a source of credit risk for the country's banks in the coming months.
In a crisis situation, moral hazard might be a critical source of credit risk. It is the problem when the borrower may not have right incentive to pay back the loan, and bankers may not have adequate incentive to devote sufficiently for loan recovery. Thus, moral hazard might result in additional loan defaults. With the advent of the defaulted loan in the post-covid-19 stage, banks with inadequate capital might be in trouble.
At this stage, these imminent problems of banks might not get priority to the policymakers when both fiscal and monetary policy authorities are primarily and logically engaged in saving lives of the common citizen. However, banks must take due preparation as part of their Enterprise Risk Management (ERM) to accelerate economic recovery in the post-covid-19 situation where the board and top management have critical role to play to lead risk management efforts. Practically, crisis preparedness is an integral part of ERM, and should have automatically been active with the upsurge of the crisis. Unfortunately, a comprehensive ERM framework in the banking industry is not present in the most developing countries.As part of ERM, it is time that a contingency team should start working actively to gather data, monitor activities, update the board and top management and get ready for preparing a reliable situational analysis of the bank when needed. The contingency team may also help strategizing the effective use of the stimulus package to optimize benefits for the bank and clients. Strategic communications with the clients might be very effective at this stage to repair damage of clients' trusts and confidence, if any, and to handle the problem of moral hazard. It is also important to identify challenges and vulnerabilities and be transparent with the regulatory authority for adequate policy support in due time.
The writer is Professor and Director (Training), BIBM
