Financial sector reforms in Bangladesh
Friday, 9 November 2007
Dr Salehuddin Ahmed
ONE has to agree that no economy can grow and improve the living standards of its population in the absence of a well functioning and efficient financial sector. Improvement of the financial sector can create a conducive environment to enable the poor and disadvantaged to get the benefits of accelerated growth.
The financial sector of Bangladesh is composed of Bangladesh Bank (BB) or the central bank, scheduled banks (or, deposit money banks, DMBs), non-bank financial institutions (NBFIs), insurance companies, micro-finance institutions (Wls), credit rating agencies and stock exchanges. Direct regulatory and supervisory responsibility over DM[Bs and NBFIs rest with the BB.
Developments in the financial sector: Banks dominate the financial sector of Bangladesh like in many other developing countries. At the early stage of history of Bangladesh, banks, were nationalised and gradually assets and liabilities faced mismatches. The banking sector had to finance fiscal deficits and fund the state owned enterprises (SOEs). Political influence eventually became dominant in lending decisions, as all the banks were owned by the government. Loan recovery rate drastically fell. Lack of good governance resulted in rise in non-performing assets.
The central bank of the country had limited tools to manage monetary policy. It often had to take the recourse of the so-called moral suasion, supported by other direct tools namely determination of statuary reserve requirement (SLR) cash reserve ratio (CRR) and administered rate policy.
There was a major policy shift in early 1980s when private sector banks were allowed in the country. The sector embarked upon a Financial Sector Reform Program in the 1990s which primarily aimed at entrusting additional powers to the central bank by strengthening efficacy of its instruments. Interest rates were liberalised; open market operation was activated by introducing new bills. Attempts were made to improve governance in the financial sector.
The second phase that begun at. the beginning of the present decade was a multifaceted one. Reform initiatives attempted to improve legal aspects, corporate governance, loan recovery, exchange and interest rates management, NCBs functions, risk management and efficiency of the Bangladesh Bank. With a strong legal foothold, the attention could be focused on establishing good governance. Better disclosure and transparency standards have been introduced; fit and proper tests prescribed for bank directors, chief executives and advisors; restriction imposed on the composition of the membership of the board of directors; the roles and functions of the board and management were clarified and redefined. Audit committees were mandated for all banks with clear guidelines and terms of references (TORs) and Early Warning System (EWS) was introduced. To strengthen the banking operation, minimum capital requirement was raised from Tk. 400 million to Tk. 1000 million and the requirement on risk-weighted basis was also increased. Most recently the capital requirement has been raised from Tk. 1000 million to Tk. 2000 million.
Stringent loan rescheduling conditions were introduced to stop ever greening of loans. An upper limit on a bank's exposure to a particular customer or group was introduced. Strict measures have been laid and enforced on loan loss provisioning. Loan write-off guidelines were issued by the Bangladesh Bank, allowing the banks for the first time, to write off 'bad' debts against full provisioning. Large loan limit has been linked to bank's NPL ratio. The BB is encouraging syndication of several banks for large loans and has issued guidelines for restructuring such loans.
In the core risk management, guidelines on five major risks has been introduced by the BB (credit, foreign exchange, and assets-liabilities risk management, internal control and compliance and anti-money laundering) laying down policies, processes, procedures and structures that will lead to better governance and unproved services.
In the monetary and foreign exchange front, there is an exchange-rate regime, which is now, market determined. Floating of taka since June 2003 was achieved without encountering undue volatility. Further reform in simplifying and streamlining forex operations and payment system is underway. New financial instruments of varying tenure such as repo and reverse repo and government investment bonds of longer tenor have been introduced. Efforts are underway to develop the government and corporate bond market. The BB and the Securities and Exchange Commission (SEC) agreed to allow the government bonds to be traded in the stock exchange. Securitisation of receivables of private financial institutions has started.
A capacity building programme has been initiated in the Bangladesh Bank. Service standards have been introduced for work in different departments. Workflow analysis has been initiated to bring in greater speed and ensure quality. The Central Bank Strengthening Project (CBSP) includes (a) computerisation of the operations of the Bangladesh Bank, (b) human resource development through reforms of recruitment, promotion and compensation policies, (c) restructuring of the different departments, (d) reengineering the business processes, (e) automation of the Clearing House, (f) capacity building in the core activities i.e. monetary policy, regulation of the financial sector, and research and policy analysis. The goal is to transform the decades-old traditional and manual system to a modem, automated system.
The BB has got a Policy Analysis Unit (PAU) which produces various analytical policy briefs and publishes monetary policy review, financial sector review and Bangladesh Bank quarterly.
Baking Sector: Issues here relate to make it more competitive financial sector.
Restructure and Corporatise: (a) Nationalised Commercial Banks(NCBs): Sonali Bank, Janata Bank and Agrani Bank have been corporatised and incorporatised as public limited company. Sale of Rupali Bank to a foreign private entrepreneur is underway. These banks will be more accountable to the central bank.
(b) Specialised Banks (SBs): Public sector banks in charge of agricultural and industrial term lending suffer from poor decision making and low efficiency. In order to make them efficient and financially viable, restructuring of these institutions is necessary. Otherwise, it will hinder the overall financial sector stability and soundness.
Non-Bank Financial Institutions (NIBFIs): Here the major challenge is how to create a level playing field vis-i-vis banks.
The NBFIs play a significant role in meeting the diverse financial needs of various sectors of an economy as well as to the deepening of the country's financial system. The activities of NBFIs witnessed an impressive growth during the last five years.
Both banks and NTBFIs to function as complementary institutions should follow some ethical and technical norms. Banks can go for joint financing under syndication arrangements with leasing companies on any project proposal.
Capital Market: Capital market, comprising of debt and equity instruments, can play a key role in economic development by channelling surplus resources to the most productive uses. A notable characteristics of the capital market of Bangladesh is its limited role in funding long term investment as compared to banks and non-bank financial institutions. The capital market is still thin having low level of capitalisation, liquidity and depth; it lacks active trading in fixed income securities (bond and debentures). A number of steps have already been adopted to develop the capital market of Bangladesh. However, there are some urgent issues which include the following.
How to raise market capitalisation: Insufficiency of disclosure of financial statements, weakness of corporate governance, limited fixed-income securities are among the major factors holding back the development of a vibrant equity market in the country. Successful conversion of nationalised commercial banks (NCBs) into corporate entities hold the prospect of major new entrants into the stock exchanges in the near future, and even foreign banks may seek listing if encouraged. Other ideas to render the equity market more attractive would include the state-owned enterprises (SOEs) and the telecommunication companies to issue equity in an orderly fashion. These initiatives will definitely raise the market capitalisation to a significant extent, which will foster the overall economic growth.
(The writer is Governor of the Bangkadesh Bank and the paper was presented to a recent meeting held in Dhaka. Views expressed here are author's own and do not reflect those of the central bank. To be continued.)
ONE has to agree that no economy can grow and improve the living standards of its population in the absence of a well functioning and efficient financial sector. Improvement of the financial sector can create a conducive environment to enable the poor and disadvantaged to get the benefits of accelerated growth.
The financial sector of Bangladesh is composed of Bangladesh Bank (BB) or the central bank, scheduled banks (or, deposit money banks, DMBs), non-bank financial institutions (NBFIs), insurance companies, micro-finance institutions (Wls), credit rating agencies and stock exchanges. Direct regulatory and supervisory responsibility over DM[Bs and NBFIs rest with the BB.
Developments in the financial sector: Banks dominate the financial sector of Bangladesh like in many other developing countries. At the early stage of history of Bangladesh, banks, were nationalised and gradually assets and liabilities faced mismatches. The banking sector had to finance fiscal deficits and fund the state owned enterprises (SOEs). Political influence eventually became dominant in lending decisions, as all the banks were owned by the government. Loan recovery rate drastically fell. Lack of good governance resulted in rise in non-performing assets.
The central bank of the country had limited tools to manage monetary policy. It often had to take the recourse of the so-called moral suasion, supported by other direct tools namely determination of statuary reserve requirement (SLR) cash reserve ratio (CRR) and administered rate policy.
There was a major policy shift in early 1980s when private sector banks were allowed in the country. The sector embarked upon a Financial Sector Reform Program in the 1990s which primarily aimed at entrusting additional powers to the central bank by strengthening efficacy of its instruments. Interest rates were liberalised; open market operation was activated by introducing new bills. Attempts were made to improve governance in the financial sector.
The second phase that begun at. the beginning of the present decade was a multifaceted one. Reform initiatives attempted to improve legal aspects, corporate governance, loan recovery, exchange and interest rates management, NCBs functions, risk management and efficiency of the Bangladesh Bank. With a strong legal foothold, the attention could be focused on establishing good governance. Better disclosure and transparency standards have been introduced; fit and proper tests prescribed for bank directors, chief executives and advisors; restriction imposed on the composition of the membership of the board of directors; the roles and functions of the board and management were clarified and redefined. Audit committees were mandated for all banks with clear guidelines and terms of references (TORs) and Early Warning System (EWS) was introduced. To strengthen the banking operation, minimum capital requirement was raised from Tk. 400 million to Tk. 1000 million and the requirement on risk-weighted basis was also increased. Most recently the capital requirement has been raised from Tk. 1000 million to Tk. 2000 million.
Stringent loan rescheduling conditions were introduced to stop ever greening of loans. An upper limit on a bank's exposure to a particular customer or group was introduced. Strict measures have been laid and enforced on loan loss provisioning. Loan write-off guidelines were issued by the Bangladesh Bank, allowing the banks for the first time, to write off 'bad' debts against full provisioning. Large loan limit has been linked to bank's NPL ratio. The BB is encouraging syndication of several banks for large loans and has issued guidelines for restructuring such loans.
In the core risk management, guidelines on five major risks has been introduced by the BB (credit, foreign exchange, and assets-liabilities risk management, internal control and compliance and anti-money laundering) laying down policies, processes, procedures and structures that will lead to better governance and unproved services.
In the monetary and foreign exchange front, there is an exchange-rate regime, which is now, market determined. Floating of taka since June 2003 was achieved without encountering undue volatility. Further reform in simplifying and streamlining forex operations and payment system is underway. New financial instruments of varying tenure such as repo and reverse repo and government investment bonds of longer tenor have been introduced. Efforts are underway to develop the government and corporate bond market. The BB and the Securities and Exchange Commission (SEC) agreed to allow the government bonds to be traded in the stock exchange. Securitisation of receivables of private financial institutions has started.
A capacity building programme has been initiated in the Bangladesh Bank. Service standards have been introduced for work in different departments. Workflow analysis has been initiated to bring in greater speed and ensure quality. The Central Bank Strengthening Project (CBSP) includes (a) computerisation of the operations of the Bangladesh Bank, (b) human resource development through reforms of recruitment, promotion and compensation policies, (c) restructuring of the different departments, (d) reengineering the business processes, (e) automation of the Clearing House, (f) capacity building in the core activities i.e. monetary policy, regulation of the financial sector, and research and policy analysis. The goal is to transform the decades-old traditional and manual system to a modem, automated system.
The BB has got a Policy Analysis Unit (PAU) which produces various analytical policy briefs and publishes monetary policy review, financial sector review and Bangladesh Bank quarterly.
Baking Sector: Issues here relate to make it more competitive financial sector.
Restructure and Corporatise: (a) Nationalised Commercial Banks(NCBs): Sonali Bank, Janata Bank and Agrani Bank have been corporatised and incorporatised as public limited company. Sale of Rupali Bank to a foreign private entrepreneur is underway. These banks will be more accountable to the central bank.
(b) Specialised Banks (SBs): Public sector banks in charge of agricultural and industrial term lending suffer from poor decision making and low efficiency. In order to make them efficient and financially viable, restructuring of these institutions is necessary. Otherwise, it will hinder the overall financial sector stability and soundness.
Non-Bank Financial Institutions (NIBFIs): Here the major challenge is how to create a level playing field vis-i-vis banks.
The NBFIs play a significant role in meeting the diverse financial needs of various sectors of an economy as well as to the deepening of the country's financial system. The activities of NBFIs witnessed an impressive growth during the last five years.
Both banks and NTBFIs to function as complementary institutions should follow some ethical and technical norms. Banks can go for joint financing under syndication arrangements with leasing companies on any project proposal.
Capital Market: Capital market, comprising of debt and equity instruments, can play a key role in economic development by channelling surplus resources to the most productive uses. A notable characteristics of the capital market of Bangladesh is its limited role in funding long term investment as compared to banks and non-bank financial institutions. The capital market is still thin having low level of capitalisation, liquidity and depth; it lacks active trading in fixed income securities (bond and debentures). A number of steps have already been adopted to develop the capital market of Bangladesh. However, there are some urgent issues which include the following.
How to raise market capitalisation: Insufficiency of disclosure of financial statements, weakness of corporate governance, limited fixed-income securities are among the major factors holding back the development of a vibrant equity market in the country. Successful conversion of nationalised commercial banks (NCBs) into corporate entities hold the prospect of major new entrants into the stock exchanges in the near future, and even foreign banks may seek listing if encouraged. Other ideas to render the equity market more attractive would include the state-owned enterprises (SOEs) and the telecommunication companies to issue equity in an orderly fashion. These initiatives will definitely raise the market capitalisation to a significant extent, which will foster the overall economic growth.
(The writer is Governor of the Bangkadesh Bank and the paper was presented to a recent meeting held in Dhaka. Views expressed here are author's own and do not reflect those of the central bank. To be continued.)