The Covid-19 has led to a comprehensive risk environment in all spheres of social, economic and financial activities, and multiple waves of the pandemic have created unprecedented uncertainty. Initially, we expected the virus to be within China only, then in the developed world, and over time it has become a recognised global and most critical health and economic crisis. Now, we have vaccines, and we also have obvious qualms about the extent and frequencies of further Covid-related complexities and devastations. Economic and business disruptions and the associated instability and uncertainties have recognised implications for the banking and financial industry. The global banking industry has been under tremendous pressure following the very first wave of the pandemic and still passing through a very hard time. Alongside playing a crucial and supportive role in offering any policy stimulus, banking industries around the globe have adopted a remarkable risk management approach to survive and sustain. The sensitivity is particularly prominent in a fast-moving developing country like Bangladesh where the economy and the businesses have notable dependence on the banking industry for almost all types of financing. Considering the ranges of activities pursued by the banking industry of Bangladesh, it might be labelled as a very good example of a 'universal banking approach'. It is relatively a complex scenario. The overall financing pattern of the banking industry in Bangladesh and the level of expectations from the industry have made risk management processes even more complex.
As a crisis response strategy, policymakers around the globe have been following an almost common approach of injecting money into the economy by ensuring greater liquidity in the banks. We have observed several policy decisions in that direction. Banks are now engaged in implementing the second phase of stimulus packages to support policymakers on the way to their efforts for economic recovery. Economic stimulus packages are targeted mainly at the affected clients of banks. But reaching the truly-affected clients, especially those that are small and microenterprises, is not easy. The economy needs easy money to create aggregate demand, however, it is not the only determining factor. In reality, slow recovery and the lack of demand for produce and the associated low demand for credit due to the market disruption led to greater complicacy. Moral hazard is adding to the challenges. Banks have been confronting a complex mixture of adverse development of surplus liquidity, an environment of high credit risk, and the greater necessity of credit disbursement for quick economic recovery. The central bank's policy intervention to handle surplus liquidity is a welcome move to back banks and confine price rise. Regarding banks' credit delivery tactics, an overcautious approach on the part of banks might delay economic and business recovery, and might prove to be even worse for sustainability of the banking industry.
It is well known that risk management is particularly crucial for banks that handle deposits of the common people. In a bank, risks are handled within a stringent regulatory and compliance framework to take care of the interest of the depositors. In this crisis environment, nobody can deny the necessity of disbursing credit at affordable rates for quick economic recovery. Policy direction to disburse credit at a single-digit rate is an initiative towards that motive. Depositors have the clear right to get logical return that is at least higher than the rate of inflation, and any negative real interest rate cannot be desirable. Very low deposit rates and negative real returns affected a big section of small depositors of the country during several months of the pandemic period. The central bank's decision on fixation of the floor deposit rate is obviously a very good and appreciable step to handle the situation. However, what about the deposit-advance spread now! Is it affordable for banks to carry out their operations! It is always expected to have the interest rate spread of financing low in the greater interest of depositors, investors, and the economy. Banking sector efficiency is associated with maintaining a low spread. Has our banking industry reached that level of efficiency? It would really be fantastic, if the current expected level of loan-deposit spread is sustainably maintained. Otherwise, policy intervention would be required for streamlining the development.
Maintaining a high capital adequacy ratio is a necessity in the banking industry in this critical and complex risk environment. Higher capital indicates higher risk absorption capacity on the part of banks. Simply meeting the regulatory requirement of minimum capital in view of the risk-weighted assets does not seem to be adequate to handle this situation. Moreover, some banks of the country are confronting capital shortfall. Our banks in general are not only far behind the banking industry of most of the advanced world in terms of capital, it is also weaker than its peer countries in South Asia like India and Sri Lanka. In a situation of moratorium and the market intervention policy, data on the current level of non-performing loans and the asset quality of banks cannot be reliable to identify the potential volume of non-performing loans and the requirements of provisioning and capital in near future. In a bad-case scenario, asset quality might be a great concern for banks in the absence of any moratorium and withdrawal of special market support from the policy makers. It is the adequate capital that would offer the required strength to face the potential upcoming challenges by banks.
It is obvious that we are still in the grip of a crisis. Continuing with the Enterprise Risk Management (ERM) is the required approach of banks in such a situation where the board and the top management have a critical role to play to lead risk management efforts. As part of ERM, contingency teams should actively be involved to gather data, monitor activities, update board, and top management, and get ready for preparing reliable situational analyses when needed. Contingency team and Business Continuity Plans have been initiated/activated in banks in the context of the first wave of Covid-19. Banks must seriously go ahead with these initiatives/activities to come back sustainably from this devastation. It is crucial now to execute frequent stress testing to foresee the upcoming challenges and vulnerabilities, and banks must be transparent with the regulatory authority and the stakeholders. Several media reports on banks' profitability and declaration of dividends offered a misleading perception to a section of stakeholders on severity of the impact of this situation on the banking industry of the country. It is rather a time to get ready for the probable rainy days by revealing risk areas, true strength, and accumulating capital for the banking institutions.
There is no doubt that digital transformation and adoption of technology are a costly affair, and it is really difficult for most banks to go ahead with the process smoothly. However, it is a necessity today. Adequate financing is a critical change in this situation where banks need extensive support from their boards. It is also about handling the challenge of dependence on the legacy IT infrastructure. However, there is no doubt that the newer systems are more capable of supporting the latest digital products, services, and applications that banks seek to provide to their customers. The reality is-the concerns of cyber risks and operational risks are going to occupy extremely vital positions in the banking industry in near future.
It is the pool of human resources and talented executives that must take the lead to take the banking sector ahead for its sustainability and effective risk management. The banking sector has been an attractive destination for the young talent and career hunters in Bangladesh. There are ample instances of opting for jobs in multinational and private commercial banks instead of careers in government and other sectors in Bangladesh. However, the trends seem to be changing a bit. The banking industry must have an adequate incentive structure and a congenial work environment to attract the talented of the next generation for efficient operation and better risk management.
Dr Shah Md Ahsan Habib is Professor at Bangladesh Institute of Bank Management[BIBM]
ahsan@bibm.org.bd