ECL exposes fragility of banking in Bangladesh

Expected Credit Loss (ECL) is the most modern credit risk measurement and provisioning framework in banking. It follows a forward-looking approach to estimate potential future credit losses. Bangladesh is now on a path to adopt ECL by 2027 under IFRS 9, and banks are being gradually habituated to this new framework. Expected Credit Loss has become an inevitable and integral component of Risk-Based Supervision (RBS).

Under the existing prudential rule-based approach of Bangladesh Bank, the asset quality of a bank is primarily assessed through loan classification and related provisioning, which is essentially a backward-looking mechanism. This method reflects losses only after deterioration has already occurred, thereby capturing post-impact effects rather than anticipating future risks.

Since ECL makes banks aware and prepares them to absorb probable shocks that may occur in the future, it represents a cautious and forward-oriented trajectory in risk management.

However, the reality is that third- and fourth-generation banks are still struggling with vulnerable asset portfolios dominated by persistent and vehement defaulters. Fifth-generation banks are, in many cases, virtually out of the race. Even state-owned commercial banks continue to suffer from significant provisioning gaps and capital shortfalls.

With the adoption of ECL, provisioning requirements are expected to increase substantially. This raises a critical question: will the banking sector be adequately prepared to adopt ECL in its entirety by 2027? Moreover, it is urgently necessary to determine standardized scores, parameters, and methodologies to quantify probable provisions in a consistent and transparent manner.

Undoubtedly, ECL is imperative for rescuing the banking sector by ensuring healthier asset quality. However, full-scale implementation within the stipulated timeline poses a formidable challenge for regulators and banks alike.

Kawsik Azad Pronoy

A Banker and Economic Analyst