Politicised approval of new banks: The BB in focus

Published : 23 April 2012, 02:16 PM
Updated : 23 April 2012, 02:16 PM

The pivotal role of the banking sector in an economy is well-recognised. Commercial banks play multi-faceted roles in contributing to economic growth, employment and overall well-being of people. Their lending ability is conditional upon the volume of mobilised deposits. Loans are treated as output and deposits as input in the Theory of Financial Intermediation. Banks' solvency and management efficiency are of vital importance. Much depends on their liquidity management skills and the quality of the Board of Directors. Any deficiency on either of them or both will put the economy at risk. Historical balance sheet analyses of existing banks enable the BB (Bangladesh Bank) to discover deficiencies and to send early warning signals with recommended corrective measures. The BB fares well in these respects, as records reveal.

Prior to approving new banks, the BB has to use extra caution and must do its homework to provide sound economic rationales for decisions keeping the approval process out of political infection. To this effect, sponsors' background checks are very important in line with published terms and conditions. Do the sponsors propose new banks out of obsession with money or love for the country? The BB needs to understand. Absence of actual balance sheet data and rosy fictional intents in prospectus call for some careful analyses followed by field works. Has the BB done so? We shall observe in subsequent pages. The first issue in the process involves realistic assessment of need for new banks, if any.

To me, the debate on the need for new banks in Bangladesh is futile. The well-known rural-urban distribution of population (150 million), increasing volumes of business and economic activities, rising per capita income, promotion of competition as it is beautiful, massive inflows of remittances into rural areas, uptrend in agriculture, near 50% unbanked population, 28% savings rate, shadow banking and paucity of credit flows to small and mid-sized enterprises (SMEs)—an engine of job creation amply justify the need for additional banks.

Nine approved new banks are on the runway, raising the total number of scheduled banks to 57 from barely 6 just after independence. Out of them, 4 are state-owned commercial banks, 9 are foreign-owned commercial banks and 5 are specialised commercial banks. The remaining 39 are privately owned commercial banks by local organisers. Their Board Directors' qualifications are questionable due to politicisation. The BB received 37 applications for new banks and approved only 9 (6 for local organizing groups and 3 for NRBs).

The BB published rightly a set of terms and conditions for proposed new banks. Among them, the prominent ones include requirement of at least Tk. 400 crore paid-up capital out of personal net worth of each organising group without institutional borrowing and shareholding of at least Tk. 1.0 crore per organiser, within the group for directorship with submission of tax return and certificate. More appropriately, emphasis is placed on competence, integrity and qualifications of sponsors/directors subject to background checks and fitness test. They reflect BB's good intention. Quality of Board composition is vital. Prima facie, all seem to be on a right track. But what went wrong and how?

BB's initial negative reaction to the need for new banks was misplaced. The finance minister's statement on the political need for new banks said it all. BB's somersault on the issue can be directly linked to this infamous statement.

Raising paid-up capital to at least Tk. 400 crore for each new bank with attached strings is a step in the right direction. Can it guarantee that this amount will stay intact in the bank by forestalling what happened in the past? The final outcome indeed is in doubt, if its past track record is a guide for the future.

Quality of the Board composition is off the mark. The composition is dominated at the top by prominent young and experienced politicians with none-to-negligible business expertise and background. In Bangladesh, politicians' integrity is apprehended by many. However, there may be some rare exceptions. Perhaps, some filthy rich ghost financiers paid their dues for directorship to enhance the chance of BB's approval. The winning NRBs' political connections are also deep-rooted. So, the causes of BB's actions are obvious and their face-saving defensive arguments do not hold much water. Poor quality of the Boards is likely to generate inefficiency, corruption and misuses of resources. Only time will tell the eventuality. For now, I am willing to give them the benefit of the doubt withholding any final judgment.

Bangladesh is a $100b-economy. Total current annual savings at 28% is $28 billion (Tk. 224,000 crore). How much of it is channelled through the banking sector? This question calls for an empirical investigation. Savings rate is 28% of GDP and investment is 25% of GDP. So, the country has more than adequate internal financing to pay for the domestic component of the entire investment. So, why is this country so much dependent on foreign financing? Presumably, massive overseas flight of questionable capital is the outright reason.

The existing commercial banking sector might have tight liquidity position, not a situation of liquidity crisis since the loan-to-deposit ratio is found at 0.80 or so. However, some individual bank(s) may be in liquidity crisis due to declining loan recovery rate, maturity mismatch (making long-term loans out of short-term deposits), toxic investment in common stocks, etc. Liquidity positions of individual commercial banks are unstable as loan growths and deposit growths are on a rollercoaster. They point to unstable household and business finances in Bangladesh.

In Bangladesh, commercial banks are largely liabilities-structured. So, they should pay closer attention to liabilities management in conjunction with asset management since stable and improving loan quality matters. For four state-owned commercial banks with broad and nationwide branch networking (though inadequate), loan growth perpetually far exceeds deposit growth primarily due to massive borrowing by the government for deficit financing with no end in sight. These banks would have been plagued with severe liquidity crisis without BB's liquidity replenishment by printing money. They are highly unstable and grossly inefficient with mounting overhead cost. Without BB's undisclosed bailout, they could be in serious jeopardy by regular performance evaluation standards.

For all commercial banks, liquidity management is crucial since liquidity risk is usually followed by other risks, such as, reputation risk and strategic risk. Privately owned local commercial banks are largely city-centric with very narrow branch bank networking and chasing rich depositors. By some account, 5% of the population own 30% of total national wealth and they all live in cities. Banks' lending activities tend to concentrate heavily on the metropolitan manufacturing sector. Their rural outreach is virtually minimal.

Moreover, they are averse to lending to SMEs due to high perceived risk, although SMEs depict high marginal productivity of nascent capital. If the newly approved banks on the runway follow their predecessors, potential incoming income and job growths may happen on some perilous ground. In fact, they may cause more harm than good. What benefits new NRB-owned banks will bring in are unclear except some incoming hard foreign currencies.

Undeniably, Bangladesh needs more banks unlike most of the existing ones. We need special-purpose banks, such as, banks for SMEs, banks for farmers (not farmer's bank in name only), banks for trade, and banks for rural investment. Bangladesh should create a separate entity, such as, Small Business Administration (SBA) for creating both wage-employment and self-employment. Microfinance institutions create only the latter. SBA is designed to provide loan guarantee for SMEs and also counsel them on management as well as marketing. The loan guarantee by it will mitigate commercial banks' risk aversion toward small business loans in particular. In this respect, lessons may be drawn from the USA. Additionally, the BB needs overhauling of its banking regulations and gear up effective bank supervision. Streamlining of new bank approval procedure is imperative with provision for pre-approved status for a limited period to test viability before qualifying them for final approval. This should be at least a two-step procedure supplanting the current one-step procedure that hands out a blank check to the organisers. Money alone should not buy a new bank. High quality of Bank Board composition is another necessity. To preserve professionalism, the BB should notify the unapproved 28 new applicants giving solid and convincing economic/financial reasons for not getting approved.

The recent bout of approval of new banks was a battle between politics and economics. Politics triumphed over economics this time. The same happened also during the past regime. In short, such ill practice is bipartisan in Bangladesh. The BB's somersault reminds me of Paul Samuelson's (the first US Nobel Laureate in economics) analogy for independence of central banks in developing countries. Sometimes, the BB should stand up for something as a call for noble duty.

To quote Confucius, "The first rule in being a wise leader that you must first define the problem."

For challenging change, "Never confuse motion with action," by Benjamin Franklin, and "The trouble with our times is that the future is not what it used to be", by Paul Valery.

The above quotes require rethinking for meaningful positive changes. Finally, to stand up for something, one must risk disappointing some ones. This risk is worth-taking.

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Matiur Rahman is the MBA Director and JP Morgan Chase Endowed Professor of finance at McNeese State University, USA.