Time for Banks to Manage Their Books Smartly

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Time for Banks to Manage Their Books Smartly

Given the pandemic-induced uncertainty, the current fiscal year remains critical for the banking sector.

In my three decades in banking, I have never seen a bank’s income and profit taking a beating like in the last fiscal year.

The Nepali banking sector, in the last 20 years, had to grapple with major disturbances including the Maoist insurgency, 2015 Earthquake, and Indian economic blockade. But the crisis created by the Covid-19 pandemic has been the most challenging. The silver lining amid this crisis is banks were still in profit last year. But, given the pandemic-induced uncertainty, the current fiscal year remains critical for the banking sector.

The net profit and many other indicators of commercial banks have declined in the last fiscal year due to the impact of Covid-19 and lockdown that crippled economic activities.  Whatever impact we saw in the banking sector occurred in the last four months of the last fiscal year.

The scale of the impact of the pandemic in the banking sector can be gauged by the fact that due amount in interest payment of banks has increased to Rs 51 billion by mid-July 2020 which was Rs 11 billion in mid-July 2019. It means banks' due interest payment amount expanded by Rs 40 billion in the last one year. This has happened mainly due to the adverse impact of COVID and anticipation of the borrowers that the central bank would offer some type of relaxation. Even those who were in a position to pay the installments, interest and principal amounts did not pay their dues.

The financial statements of almost all commercial banks show a rise in non-performing assets (NPAs). NPA of banks increased to 1.74 percent in mid-July 2020 which was 1.44 percent earlier. NPAs would have reached much higher hadn't there been new loan classification norms of the central bank.

The central bank in the Monetary Policy for FY2020/21, has said a credit which had remained good until mid-January, 2020 could be counted as good credit till mid-July. And, even if an installment is not paid by mid-April, banks and financial institutions can make provisioning of just 5 percent of such loans which otherwise had to be 25 percent.

Despite this relaxation, the loan-loss provisioning of the banks increased to Rs 18.7 billion by mid-July this year from Rs 7.27 billion in mid-July 2019. The provisioning amount would have reached Rs 40 billion if this relaxation wasn’t announced by the central bank.

Meanwhile, the deposit rate of banks has gone down by 1 percent in savings and 1.5 percent in fixed deposits from mid-April. The base rate has also declined by around 1 percent.  

Globally, banking is among the sectors hard-hit by the Covid-19 pandemic. The case is the same for Nepali banks. The country’s economy took a massive hit due to the public health emergency and it has been reflected in the balance sheets of the banks.

The profit of banks has been hit because income got affected and provisioning for potential losses increased.  Major business areas of Nepali banks are consumer loans, business loans, trade financing and guarantee business. As economic activities slowed down due to the lockdown, all these areas got affected. The trade financing business declined due to the slowdown in the country's foreign trade.

Of late, other major income sources of banks such as interest income, LC income, forex income, guarantee income, card income have slowed down. Currently, there is less LC issuance as well as less outward remittance.

Given that banks are already under stress from the start of the current fiscal year, we may see some of the banks going into loss this year. Even if such a situation arrives, depositors need not to worry about their deposits. This is basically due to the fact that banks are in a comfortable position in terms of maintaining capital adequacy ratio (CAR). CAR of commercial banks as of now is in the range of 12-20 percent against the requirement of minimum 8.5 percent.

The interest spread has been narrowed from an earlier 4.5 percent to 4.4 percent with conservative formula from bankers’ perspective. This will drastically reduce the interest income of banks by 20-25 percent. There are now some barriers in fee-income of late which will further erode their income.  

As demand for loans has dried up, the banking system is now flushed with investment-grade liquidity. Currently, banks have loanable funds totalling Rs 200-300 billion which will be enough for the large part of this year. This will also prompt unhealthy competition among banks to poach borrowers from each other. Given the scale of the impact of the pandemic, the central bank has the authority to be accommodative and relax the provisions. But such relaxations should not be in place for any extended period as it will affect the health of banks. The depositors' confidence is derived from how financially sound that bank is. The fact that the Nepali banking sector has remained sound and safe is because we have very good capital adequacy and loan classification norms in place.

Commercial banks have a net worth of around Rs 480 billion. They have also maintained around Rs 60 billion for loan-loss provision. The estimated capital fund of the commercial banks currently is around Rs 600 billion with total loans of around Rs 3,000 billion. And even if 20 percent of such loans, or Rs 600 billion, turns into bad debt, banks have the capacity to withstand that shock. Moreover, banks take collateral while providing loans. As of now, commercial banks have the capacity to absorb the Rs 600 billion loss and depositors' money will still be safe.

As a bank CEO, my major worry for now is the management of bad loans which I think is the case with other CEOs as well. The NPA of almost all lending sectors including hotel, transport and education has increased due to the Covid-19 pandemic and sluggish economic activities.  Hence, this year is the time for banks to manage their books smartly.

We were hopeful when the four-month long lockdown was lifted in mid-July and subsequent improvement was seen in economic activities. But, the last month has been quite disappointing as major cities across the country are under prohibitory orders.

The current fiscal year will certainly be challenging for us. This is because the banking sector is already under stress from the start of the fiscal year. Economic activities in the country's major business centres including Kathmandu valley have come to an almost grinding halt due to the latest restrictions. Hence, the impact of the pandemic on the banking sector this year is likely to be more severe than last year.

This article is based on a conversation with Dahal who is CEO of Sanima Bank and President of Nepal Bankers’ Association.

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