Are borrowers or bankers more to blame for default loans?

According to the latest statistics from Bangladesh Bank, the total amount of default loans in the country's banking sector has reached 2,84,977 crore taka. This constitutes 16.93 per cent of the total loans disbursed by banks. In July, the amount of default loans was 2,11,391 crore taka. Therefore, in just three months, the amount of default loans in the banking sector has increased by 73,586 crore taka. During this period, the amount of default loans in state-owned banks has increased by 23,628 crore taka, while in private banks, the increase was 49,885 crore taka.

When the Awami League government came to power following the 2008 national elections, the amount of default loans was 22,481 crore taka. In other words, over the past 15 and a half years, the amount of default loans in the banking sector has increased by 2,62,496 crore taka. Although the previous government had repeatedly pledged that the amount of default loans in the banking sector would not rise, this promise was not kept. Instead, various measures have inadvertently encouraged the culture of loan defaults.

In the last September quarter, the amount of default loans in state-owned banks was 1,26,111 crore taka, while in private banks it was 1,49,806 crore taka. Once, private banks were considered to be ahead in terms of corruption and transparency, but now the situation has completely changed. The amount of default loans is steadily increasing in private banks as well. Economist Dr Debapriya Bhattacharya recently stated at an event that during the previous government’s tenure, the banking sector, which was regarded as the heart of the country's economy, and the revenue sector were destroyed. His comment is literally true; however, the question remains: who is responsible for this deplorable state of the banking sector—borrowers, or do bankers also share the blame? In discussions about the state of the banking sector in our country, the entire responsibility is often placed on the borrowers, while corrupt bank officials remain out of the spotlight.

The banking sector of a country is like the blood flow in the arteries of the economy. If blood flow is obstructed, death becomes inevitable. Similarly, if the banking sector of a country fails to function properly, the economic development of that country cannot be accelerated. Entrepreneurs in developing countries like Bangladesh always suffer from a shortage of capital. They rely on banks and the capital market to meet their capital needs; however, Bangladesh’s capital market has not yet developed adequately. Furthermore, due to several large-scale scams in the capital market in recent years, the general public has lost trust in it.

Entrepreneurs primarily depend on the banking sector to meet their capital needs, but the banking sector is unable to provide adequate assistance. Various irregularities and corruption have plagued this sector, resulting in a failure to provide the desired level of service. To understand the state of a country's banking sector, attention must be paid to various indicators, with the most important being the status of default loans. By examining the level of default loans, the true state of a country's banking system can be better understood. In Bangladesh, the amount of default loans in the banking sector continues to rise steadily, and there seems to be no way to curb this upward trend. While banks are disbursing loans, they are unable to collect the installments on time, causing most banks to face liquidity crises. As a result of default loans, the interest rates on bank loans are continuously increasing.

In any country's banking sector, there are two types of defaulters. One group consists of defaulters who, due to unavoidable circumstances, cannot repay the loan installments on time. These individuals, despite their intention to repay, are unable to do so due to a lack of financial capability. These are the genuine defaulters. The other group includes borrowers who are powerful and always maintain close ties with the ruling party; despite having the financial capacity, they refuse to repay their loans. Many of them take loans from banks under the pretext of specific projects but divert the funds to other sectors or even launder them abroad. These individuals are deliberate defaulters, and they pose the greatest threat to the banking sector.

Whenever the issue of default loans and banking sector problems is discussed, the focus is typically on deliberate defaulters. However, the topic of corrupt bank officials rarely comes up in these discussions. If a banker carries out his responsibilities with full integrity and determination, the risk of the loan becoming a default is minimal. However, many defaulters have connections with corrupt bank officials, and without the help of these officials, it is almost impossible for a borrower to become a defaulter.

The banking system of the country is being managed under dual control. While Bangladesh Bank officially holds the responsibility for regulating the banking sector, in reality, it can only exert full control over private banks. The Department of Banks and Financial Institutions of the Ministry of Finance has been given full authority over state-owned banks. In fact, when Bangladesh Bank makes decisions regarding private banks, the Department of Banks and Financial Institutions can create obstacles.

For instance, when the previous government decided to approve the establishment of nine new private banks, Bangladesh Bank raised objections, stating that there was no need for so many banks in the country. However, Bangladesh Bank's objections were not heeded. The then-Finance Minister, Abul Maal Abdul Muhith, stated that there was no need for new banks in the country, but approval was granted for the establishment of the nine new banks under political considerations. The consequences of granting approval for banks based on political considerations were evident. In every country, the central bank operates as an autonomous institution, but Bangladesh Bank operates under the control of various agencies.

In particular, the Department of Banks and Financial Institutions of the Ministry of Finance exerts significant control over Bangladesh Bank. Before the current governor of Bangladesh Bank, at least two governors had served who were bureaucrats. During their tenure, some of their actions raised questions about the power and independence of Bangladesh Bank. Under pressure from certain business groups, the maximum interest rate for bank loans was set at 9 per cent. Simultaneously, interest rates on deposits were set at 5.5 per cent for state-owned banks and 6 per cent for private banks. Private banks were allowed to offer 0.5 per cent higher interest rates on deposits in order to attract more deposits. Additionally, state-owned institutions were permitted to deposit 25 per cent of their surplus funds in private banks. This law was later amended, allowing 50 per cent of surplus funds to be deposited in private banks. Many institutions, expecting higher interest rates, placed their deposits in private banks. However, now they are unable to withdraw these funds.

Previously, it was possible for two directors from a single family to be appointed simultaneously, and they could serve for two consecutive terms (each term lasting three years). This rule was later changed to allow four directors from the same family to be appointed simultaneously, with the provision that they could serve up to four consecutive terms. However, when Bangladesh took a loan of 470 crore US dollars from the International Monetary Fund (IMF), this rule was relaxed somewhat, and it was allowed for up to three directors from a single family to be appointed. Furthermore, policies regarding loan account rescheduling and loan write-offs were simplified. The underlying objective of these initiatives was to artificially reduce the amount of default loans.

According to the latest statistics, the total amount of default loans in the country's banking sector stands at 2,84,977 crore taka. If overdue loan amounts, rescheduled loans, and claims from lawsuits are added, the total amount of default loans rises to approximately 6 lakh crore taka. While a certain class of borrowers is indeed responsible for the creation of default loans, the question remains: are bank officials in any way not responsible for the culture of loan defaults? Those familiar with banking operations know that without the cooperation of bankers, borrowers typically cannot become defaulters. Yet, the entire blame for loan defaults is placed on the borrowers. If there is no collusion between the borrower and the banker, defaulting on a loan is rarely possible. If a banker processes loan proposals with integrity and in accordance with the existing laws and regulations, the likelihood of the loan becoming a default is generally very low.

When processing a loan proposal, the first decision that needs to be made is whether the bank will provide the loan to create financial capacity or to expand existing financial capacity. If the loan is given to create financial capacity, the likelihood of recovering the installments is lower. On the other hand, if the loan is given to expand existing financial capacity, the chances of regular repayment are higher. For example, if someone who already operates a small business and has experience in the field receives a loan, the likelihood of repayment is much higher. However, if someone with no experience in running a factory is given a loan to build one, the chances of default are greater.

Upon reviewing the loan proposal processing procedure, it becomes evident that everyone involved in the process, from junior officers to the managing director, tends to write similar comments in their notes. This indicates that senior officials dictate what should be written in the proposals. If the officers were allowed to present proposals based on their own judgment, there would likely be more diverse opinions reflected in the documents. Ultimately, the highest decision-maker has the authority to accept or reject any proposal based on their own discretion.

The biggest reason for the creation of default loans is the improper valuation of mortgaged assets at the time of loan approval. If a bank manager is sympathetic towards the borrower, he can easily inflate the value of an asset worth 500 taka to 5,000 taka. Conversely, if the manager holds a negative view of the borrower, they might downvalue the asset, showing it to be worth only 200 taka. When a loan is taken, the borrower is required to pledge assets with a value of 1:1.25 or 1:1.50 in relation to the loan amount. Bank managers have the opportunity to engage in irregularities in this process.

In one instance, a branch of a state-owned bank had inflated the value of a 300,000 taka asset to 6.3 million taka, allowing the borrower to secure a loan of 3 million taka. Later, another team reviewing the asset valuation found that the land's value could not exceed 300,000 taka. If a 300,000 taka asset is shown as being worth 6.3 million taka to secure a loan, is it reasonable to expect the repayment of the loan installments? The improper valuation of the mortgaged asset often leads to difficulties when the bank attempts to auction the asset, as suitable buyers are hard to find.

It is always better to take precautionary measures rather than reactive steps after the incident. Instead of attempting to recover the loan after it has become a default, proposals should be carefully scrutinized during the loan approval process to ensure the loan will not turn into a default. Furthermore, those responsible for approving loan proposals should be given responsibility for the recovery of the loans. Intentional loan defaulters should be properly identified and prosecuted under criminal law.


MA Khaleque: Retired General Manager, Bangladesh Development Bank PLC, and economist.