Flush with cash, banks ready to fund the govt leaving private sector dry

Highlights

• In April, banks' excess liquidity stood at Tk1,13,000 crore with an increase of Tk24,000 crore over a month
• The liquidity position of banks is 6.5 percent of GDP
• Bangladesh Bank created new money worth Tk70,794 crore
• Private sector credit growth dropped to 8% during March-April period
• The government's bank borrowing reached Tk54,000 crore in April which has already surpassed the fiscal target

The banking sector has never witnessed so much supply of money in such a short time. In April, the banks' excess liquidity surged by Tk24,000 crore and reached a whopping Tk1,13,000 crore.

The Bangladesh Bank also--for the first time in its history--created new money worth Tk70,794 crore within a short time after the outbreak of Covid-19 in March to provide liquidity support to the banks.

The liquidity position of the banks stood at 6.5 percent of GDP.

While the banking sector is sitting over so much surplus cash, credit flow to the private sector hit the lowest growth at eight percent in the last two months – March and April.

However, going against the current, the government is on a borrowing spree from banks during this period. Its borrowing has already crossed the fiscal target in April. In the 10 months of the current fiscal year, the government borrowed around Tk54,000 crore against the fiscal target of Tk47,850 crore.

In the revised budget, the government enhanced its borrowing target to Tk 82,421 crore and in the new budget the target is likely to be set at Tk 84,980 crore.

Even then, the government is not going to be shy about taking a big gulp as it is going to double its borrowing target in the new budget for the next fiscal year.

Can the banking sector support the loan-dependent new budget the government is planning to present next Thursday? It looks like banks are ready, willing and able to support the government, according to banking industry insiders.

The current lending approach of the banking sector gives a clear sense that the banks are interested in investing in government treasury bonds as risk-free investments instead of lending to the risky private sector.

While the private sector's demand remained depressed amid a high unemployment rate, and its business activities came to a halt, the banks' current liquidity position has the capability to meet the budgetary target.

Why do banks love to lend to the government?

When it comes to investing, it is a no-brainer for the banks to decide between risk-free investment and risky investment in a fiscal  environment of interest rate mismatch.

Savings instruments and government treasury bonds – which are risk-free investments – offer interest rates ranging between seven and half percent and 12 percent while the banks are offering deposits at six percent rate and lending at nine percent in the private sector.

When the risk-free rate is high, the banks prefer to park money in government treasury bonds which result in rising excess liquidity.

The current macroeconomic scenario indicates that the government's dependency on banks will increase in the next budget as sales of savings instruments will decline due to a fall in the savings capacity of people amid massive job cuts in the pandemic ravaged economy. On the other hand, revenue collection will be low due to a squeeze in business activities, said market insiders.

Banks are now more concerned about credit risk and are keeping their liquidity position stable, said Rahel Ahmed, secretary general of Association of Bankers Bangladesh (ABB) and managing director of Prime bank.

From July, there is a risk of rising non-performing loans as the banks will start to report classification, he said. 

In this situation, the banks will prefer to invest in government treasury bonds instead of taking the risk of rising default loans by investing in the private sector, he said.

If money goes to the public sector, the private sector will dry up, which will ultimately hurt the economic momentum, he opined.

The government should bring a balance between private and public sector investments by cutting down unnecessary expenditure, Rahel added.

Arif Khan, managing director of IDLC says, "Theoretically,the risk-free rate should be the lowest. But in Bangladesh, it is the highest. And we want to bring down the interest rate in the country by keeping them high! Look at Sanchaypatra [savings certificates] and long-term treasury bond rates.

If a bank offers deposit at six percent, and those risk-free rates offer 7.5-10 percent, who on earth will put money in non-performing loans burdened and ill governed commercial banks," he added.

Why will the private sector remain depressed?

There are problems on both sides – demand and supply in the private sector. Banks are reluctant to lend to the private sector due to an interest rate cap.

The government announced a stimulus package of Tk50,000 crore to support affected-industries through banks. The Bangladesh Bank created 50 percent funds of the stimulus package to provide liquidity support to the banks.

But all this effort seems to go in vain as the banks are not too eager to lend under strict implementation guidelines. Moreover, the central bank has set the ceiling for each bank which will allow them to lend 10 to 20 percent of the stimulus package in the first year.

On the other hand, the demand side for a loan in the private sector is expected to remain depressed due to a fall in the income level. The inflation is on a declining trend because households are slashing their consumption and saving more. Some of that is by necessity – it is hard to spend when shops are shut.

But even as the economy resumes, spending is likely to remain tepid, not least because unemployment is soaring. Job insecurity in a depressed labour market is the reason to cut consumption.

The country's think tank CPD (Centre for Policy Dialogue) analysis shows that the negative shocks on household consumption will be in the range of 9-25 percent, leading to an increase in the national (upper) poverty rate to 35 percent in 2020 from 24.3 percent in 2016.

Consumer loan disbursement is almost nil, said Syed Mahbubur Rahman, managing director of Mutual Trust Bank.

He said only some home loans are being disbursed.

Arif Khan of IDLC thinks that although businesses will benefit because of the single-digit lending rate, actually they will be starving for cash.

"It is already evident that private sector credit growth is at an all-time low, and I believe it will continue to move to the south unless we create money in the system," said Arif.

He said thousands of businesses (especially SMEs) would be closed down and a large number of people will lose their jobs due to a lack of cash in businesses. Although during this time, they should be flooded with money to keep the demand side running, actually they will not get those lifelines.

He said, "Private sector credit growth will decline further if we do not act now and fast."