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Few words about banking and financial sector reforms

M A  Khaleque

M A Khaleque

Sat, 17 Feb 24

During his address at the inaugural ceremony of the Twelfth National Parliament, President Shahabuddin Ahmed provided affirmative guidance on various subjects. Among them, he notably emphasized on the topic of banking and financial accounts. He stated, "There is a significant need for extensive reforms in financial accounts. The current state of the country's banks and financial institutions is not satisfactory at all. Therefore, economists and banking experts have been providing guidance on comprehensive reforms of these accounts for quite some time. However, it seems that the relevant ministry of the government is not giving due attention to the matter of reforming banking and financial accounts."

Not only that, but international standards of laws existing in the banking sector have been manipulated to provide undue advantages to specific entities. In certain cases, laws have been altered and manipulated in such a way that exacerbates the problems associated with these accounts further.

Many argue that recent changes in the banking sector's legislation will bring about adverse consequences for these accounts in the future. There is no doubt that the alterations made need to be scrutinized and rectified immediately.

Following the President's directives, the Bangladesh Bank has become considerably more vigilant. Governor Abdul Ruf Talukdar of the Bangladesh Bank has been engaging in regular meetings with top executives of the country's banking sector at the central office of the Bangladesh Bank. During these meetings, he has spoken extensively on various matters, some of which he had never addressed before.

His remarks suggest that the Bangladesh Bank is likely considering concrete steps towards reforming the banking sector. The Governor has addressed bank officials, indicating that discussions could commence on integrating weaker banks more closely with stronger ones, with the aim of strengthening the overall banking system.

His statement is quite suggestive. Although similar claims have been raised repeatedly in the past by various quarters, neither the Bangladesh Bank nor any other authority has taken action on them. However, since the Governor of the Bangladesh Bank has initiated discussions on this matter, it appears to be more promising this time.

Furthermore, Bangladesh has received approval for a loan of $470 million from the International Monetary Fund (IMF), and one of the conditions attached to it is to initiate extensive banking sector reforms. Therefore, the remarks of the Governor of the Bangladesh Bank are particularly significant in this context.

It can be assumed that extensive reforms in the country's banking sector may soon commence. The current state of the banking sector in the country is dire, and without its improvement, it will be impossible to sustain this account.

Overall, this account is on the brink of crisis. Between 10 to 12 banks, in particular, are in very precarious situations, and their existence has raised concerns.

Previously, the Bangladesh Bank has provided financial support to several banks under special arrangements, thereby keeping them afloat. However, there is no economic rationale for artificially propping up any institution in the free market economy. Each institution must stand on its own capability.

The question now is, how can the country's banking sector be revived? What steps can be taken to ensure its survival? Many economists and banking experts believe that the proliferation of banks in the country has led to saturation.

In a vast country like India, there are only around 28-29 banks, whereas in Bangladesh, there are 61 commercial banks. Despite having a population of 170 million, the majority of people in the country remain outside the banking network.

The banks are failing to attract the general population. They are experiencing extreme difficulty in innovating their services to bring about differentiation. Instead, banks are offering similar services, leading to customer dissatisfaction. They are unable to demonstrate significant success in creating new and appealing services.

The banks are not profitable for the shareholders. Banks rely on deposits from depositors. Without gaining trust and confidence, no bank can collect deposits from the general public.

Where people's trust remains unquestioned, individuals are willing to engage in financial transactions. Unfortunately, despite this reality, the banking sector in our country has failed to gain the trust and confidence of the average customer. Occasionally, news of misconduct and irregularities within the banking sector surfaces, which undermines people's trust and confidence.

As the saying goes, "People may forget the grief of losing a parent in two days, but they may never forget the sorrow of losing money throughout their lives." Last year, when news broke that entrepreneurs had embezzled 30 billion takas from a prominent Islamic bank, rumors spread across the country that the banking sector was on the brink of collapse. Influenced by these rumors, depositors withdrew at least 50 billion takas within a few days.

Banking systems around the world can be broadly categorized into two main types: unit banking and branch banking. The United States banking system follows the unit banking model. On the other hand, the banking system in the United Kingdom operates on a branch banking nature.

Unit banking is a banking system where a bank is established with a few branches and operates its commercial activities. The primary weakness of unit banking is that if one or two branches face financial difficulties, the entire bank may collapse.

In the United States, it is occasionally reported that banks may collapse. Even though the United States experiences bank failures from time to time, it doesn't happen in every country in the world. Branch banking systems are established by a few banks, which manage their commercial activities through a vast network of branches. The advantage of branch banking is that if some branches face difficulties, the entire parent bank doesn't necessarily incur losses.

In Bangladesh, the banking system follows the tradition of British banking, focusing on branch banking. However, the number of banks in the country has increased so much that the term "pure branch banking" or "unit banking" doesn't quite apply.

Last time, approval for establishing nine new banks in the private sector the then Finance Minister Abul Maal Abdul Muhith commented, "The number of banks in the country has increased significantly. Yet, approval for new banks has been granted for political reasons."

Establishments that rely on people's trust and confidence to conduct business, much like banks, should never be approved for establishment based on political considerations. Many banks that were approved for establishment based on political considerations are now not performing well.

Characteristically, Bangladesh's banking system is neither purely unit banking nor branch banking; it's a hybrid system. The current state of the country's banks is not conducive to any form of support. Therefore, it's time to consider alternatives.

To reform the banking system effectively, some tough decisions need to be made. Firstly, decisions must be taken regarding the Bank and Financial Institutions Division of the Ministry of Finance. Due to the existence of the Bank and Financial Institutions Division, a kind of dual governance has been established in the banking system. While Bangladesh Bank is responsible for supervising the banking sector, they do not have much influence over nationally-owned banks.

In the case of nationally-owned banks, Bangladesh Bank cannot supervise them effectively. Dissolving the Bank and Financial Institutions Division and entrusting Bangladesh Bank with the responsibility of regulating and supervising the banking sector could make Bangladesh Bank more powerful and competent.

There is no need to have so many banks in state ownership. The remaining state-owned banks can be transferred to private ownership in the shortest possible time, leaving Sonali Bank as the treasury bank along with Bangladesh Bank. These banks can be left in private ownership by leaving shares in the market through the stock market.

It can be communicated to those weak banks under private ownership that they will be given a specific period of time, during which if they fail to achieve profitability, they will either be merged with another bank or liquidated.

Appointments of individuals from the ruling party are being made to the management boards of state-owned banks. While it is common for a political government to appoint individuals from its preferred party to positions in any institution, there is nothing inherently wrong with this practice. However, it is inappropriate to appoint incompetent and corrupt individuals.

The Bangladesh Bank may create a separate list of potential members for the management boards, Managing directors, executives, and other top officials. From this list, appointments can be made to the management boards and executive positions in various banks and financial institutions. During the selection process, merit and integrity should be prioritized over partisan considerations.

In recent times, loan write-off policies have been simplified to protect the interests of borrowers. Previously, if a loan was classified as non-performing and remained overdue for more than 5 years, it could be written off as a bad debt through proper legal proceedings and by preserving provisions through the mechanism of one hundred percent provisioning.

Under the amended law, if a loan is classified as non-performing, it can be written off after three years of being overdue. There is no requirement for one hundred percent provisioning for this purpose.

The condition for filing a case in the appropriate court for loans of less than 5 lakh taka has been relaxed. This is disrupting the security of the loan. It's worth mentioning that writing off a loan does not mean forgiving or withdrawing the claim.

The term "loan write-off" refers to transferring the account of a specific loan from the bank's main ledger to another ledger. This effectively reduces the amount of non-performing loans in the bank's records. Previously, a loan account could be written off a total of three times. For the first write-off, the bank had to deposit 10% of the total loan amount as a cash down payment.

A few years ago, borrowers were given the opportunity to restructure their loans for a period of 10 years with a grace period of one year, by making a down payment of 2%. However, those who have opted for loan write-offs have no guarantee regarding the repayment of installments after a specified period.

In privately-owned banks, there was a provision for appointing two directors from the same family simultaneously. They could sequentially fulfill their responsibilities in two terms, each lasting three years.

This law was amended to allow the appointment of four directors from the same family simultaneously. They could serve three terms without interruption. However, due to IMF conditions, the provision for appointing three directors from the same family has been reinstated. With this law change, as before, a maximum of two directors can be appointed from the same family simultaneously.

Recently, changes have been made in the naming of banks in the country. The phrase 'Private Limited Company' has been added after the names of private Banks. And the phrase 'Public Limited Company' has been added at the end of the names of state-owned banks. However, there have been issues observed with this new abbreviation of names.

Private Limited Company banks are abbreviated as PLC, while state-owned banks are abbreviated as PLC as well. This situation may confuse the general public who are not well-informed about the ownership structure of banks. They may find it difficult to distinguish which PLC refers to a private limited company and which one refers to a public limited company.

However, the abbreviation for Private Limited Company could have been written as PRLC, while for Public Limited Company, it could have been written as PULC. The banking system in our country follows conventional practices. However, banks are not ordinary institutions. If this sector does not function properly, the entire economy could be at risk. Reverting to the previous state by amending this law could be considered.

Author: Retired General Manager, Bangladesh Development Bank Limited and Writer on Economics.

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