Abstract
Bangladesh: Selected Issues
Bangladesh: Bank Lending Rates–Some Preliminary Thoughts1
Average bank lending rates and interest rate spreads in Bangladesh are not high by international standards. Though interest rates have declined there is scope for bringing them down further through a mix of prudent policies, improved bank governance, and a more efficient credit market.
1. There is a widespread perception in Bangladesh that lending rates and spreads are very high. This note provides some preliminary thoughts on the subject, using a cross-country perspective. The analysis is indicative, and will need to be complemented by a detailed statistical examination of the data.
How have Bangladesh’s interest rates evolved and how do they compare to those of other countries?
2. In Bangladesh, the average nominal lending rate for commercial loans by banks has fluctuated between about 11 and 14 percent over the past ten years.2 More recently, as inflation and the demand for loans have fallen, lending rates have also declined.
3. When looking at it from a broad cross-country perspective, Bangladesh’s average nominal lending rate over the past decade was clearly higher than for advanced economies and slightly higher than for Asian emerging economies.3 However, it was broadly in line with the global and South Asia averages, and significantly lower than the average lending rates for emerging economies outside Asia.
Bangladesh: Banks’ Average Lending and Deposit Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: Bangladesh Bank.1/ Calculation of average rates changed in July 2009.Bangladesh: Banks’ Average Lending and Deposit Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: Bangladesh Bank.1/ Calculation of average rates changed in July 2009.Bangladesh: Banks’ Average Lending and Deposit Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: Bangladesh Bank.1/ Calculation of average rates changed in July 2009.
Banks’ Nominal Lending Rates on Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; I database; and Haver Analytics.1/ Excludes Bangladesh.Banks’ Nominal Lending Rates on Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; I database; and Haver Analytics.1/ Excludes Bangladesh.Banks’ Nominal Lending Rates on Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; I database; and Haver Analytics.1/ Excludes Bangladesh.Adjusting for inflation
4. Nominal interest rates tend to move up and down with actual and expected inflation. When considering the magnitude of interest rates over time and across countries, it is preferable to focus on real interest rates; that is, nominal rates adjusted for the expected inflation rate (roughly, the real rate can be approximated by taking the nominal interest rate minus inflation). While Bangladesh’s real lending rate has been fluctuating significantly in the past decade, its 10-year average has been lower than the global average, and much lower than the average for emerging markets economies. However, it has been higher than the average for other countries in South Asia and for advanced economies.
Bangladesh: Banks’ Real Lending Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database.1/ Lending rates for commercial loans adjusted for inflation.Bangladesh: Banks’ Real Lending Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database.1/ Lending rates for commercial loans adjusted for inflation.Bangladesh: Banks’ Real Lending Rates 1/
(In percent)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database.1/ Lending rates for commercial loans adjusted for inflation.
Banks’Real Lending Rates for Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Banks’Real Lending Rates for Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Banks’Real Lending Rates for Commercial Loans
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.What drives lending rates in Bangladesh?
5. For the purposes of understanding the determinants of banks’ lending rates, it is useful to break down lending rates into two components: (i) banks’ cost of funds; and (ii) the mark-up (or spread) over the cost of funds.
A. The cost of funds
6. Banks in Bangladesh rely mainly on deposits for their funding: deposits accounted for 85 percent of banks’ liabilities as of end-2013.4 Therefore, deposit rates are by far the main determinant of banks’ cost of funding. Bank deposit rates in Bangladesh have averaged about 7 percent over the past decade. However, average real deposit rates in Bangladesh have been lower than for most comparator country groups. In fact, they have been negative on average (that is, nominal deposit rates have been lower than inflation on average).
7. This suggests two conclusions. First, real deposit rates have not been a factor pushing up real lending rates in Bangladesh. Second, relatively high inflation has been a contributing factor driving up the nominal deposit rate.
Banks’ Nominal Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Banks’ Nominal Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Banks’ Nominal Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.
Banks’ Real Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.Banks’ Real Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.Banks’ Real Deposit Rates
(In percent; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.8. Notwithstanding their relatively low level, a factor that may have contributed to push up real deposit rates is the administered interest rates on the national savings instruments (NSC). Because these instruments compete with bank deposits as savers look for attractive investment options, their rates also influence deposit rates. A comparison over the past decade reveals that NSCs in domestic currencies and maturing in less than one year offered about 4 percentage points higher interest rates on average than the average deposit rate. A widening of this wedge in FY14 and FY15 resulted in a large subscription of NSCs.5
B. The interest rate (or bank intermediation) spread
9. The spread between lending and deposit rates has remained relatively stable in Bangladesh, at around 5 percentage points. This spread is lower than averages for most emerging economies, but significantly higher than for advanced economies.
Spread between Banks’ Lending Rates and Deposit Rates
(In percentage points; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Spread between Banks’ Lending Rates and Deposit Rates
(In percentage points; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.Spread between Banks’ Lending Rates and Deposit Rates
(In percentage points; simple average over 2004 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; IMF, International Financial Statistics database; and Haver Analytics.1/ Excludes Bangladesh.What drives interest spreads?
10. The spread between deposit and lending rates can be broken down into two main components: banks’ operating costs (for instance, administrative and personnel expenses) and the returns on banks’ assets (net interest and non-interest income after loan loss provisions).6
11. The operating costs of Bangladesh banks appear to be lower on average than those of banks in other countries, at least when expressed as a share of gross income. These are therefore unlikely to be driving up interest rate spreads in Bangladesh when compared to other countries. Rather, the causes for relatively high interest rate spreads in Bangladesh are likely to lie among the factors driving banks’ return on assets and provisions for loan losses. Such factors include: macroeconomic (economic growth, inflation) and sector- or industry-specific conditions and outlook, all of which affect borrowers’ demand for credit and their ability to service the loans; reserve requirements or the cash reserve ratio (CRR), which affects the return on total assets as the fraction of assets deposited by banks at the central bank (known as bank reserves) carry no remuneration; and the institutional structure (for example, credit history information, contract enforceability and the rule of law, and bankruptcy procedures), which affects banks’ capacity to identify credit risks and to recover funds from non-performing loans.
Banks’ Operating Costs
(In percent of gross income; simple averages over 2010 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ Operating Costs
(In percent of gross income; simple averages over 2010 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ Operating Costs
(In percent of gross income; simple averages over 2010 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.
Credit Depth Information Index
(Index ranging from 0 to 6; with 0=low and 6= high)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: World Bank.1/ This index measures rules affecting the scope, accessability, and quality of credit information available through public or private credit agencies.2/ Excludes Bangladesh.Credit Depth Information Index
(Index ranging from 0 to 6; with 0=low and 6= high)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: World Bank.1/ This index measures rules affecting the scope, accessability, and quality of credit information available through public or private credit agencies.2/ Excludes Bangladesh.Credit Depth Information Index
(Index ranging from 0 to 6; with 0=low and 6= high)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Source: World Bank.1/ This index measures rules affecting the scope, accessability, and quality of credit information available through public or private credit agencies.2/ Excludes Bangladesh.12. In the case of Bangladesh, banks’ returns on assets net of loss provisioning are driven down by very high nonperforming loans (NPLs). In particular, NPLs in state-owned banks are extremely high. Thus, Bangladesh’s banking-wide NPL ratios stand out when compared to other countries. Poor governance at bank boards, inadequate credit information (a World Bank index puts Bangladesh in the lowest bracket), and inadequate financial statements of borrowers are major factors contributing to poor asset quality. Moreover, lengthy legal procedures involving disputed loans make it very difficult for banks to recover value from nonperforming loans or their collateral, further exacerbating loan losses.
13. In sum, high NPLs, low loan recovery ratios, and the correspondingly large provisions for loan losses, are an important driver of interest rate spreads in Bangladesh. It is estimated that halving loan loss provisions from their end-2013 level (through an improvement in asset quality) would help bring down lending rates by 0.4 percentage points.
Banks’ NPLs to Gross Loan Ratios
(In percent; simple average over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ NPLs to Gross Loan Ratios
(In percent; simple average over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ NPLs to Gross Loan Ratios
(In percent; simple average over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.
Banks’ NPLs and Interest Rate Spreads 1/
(Simple averages over 2004 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ South Asia excludes Bangladesh. Trendline excludes Western Hemisphere EMs. Data on NPLs begin in 2005.Banks’ NPLs and Interest Rate Spreads 1/
(Simple averages over 2004 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ South Asia excludes Bangladesh. Trendline excludes Western Hemisphere EMs. Data on NPLs begin in 2005.Banks’ NPLs and Interest Rate Spreads 1/
(Simple averages over 2004 -2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: IMF, Financial Soundness Indicators database.1/ South Asia excludes Bangladesh. Trendline excludes Western Hemisphere EMs. Data on NPLs begin in 2005.
Banks’ Profitability: Return on Assets
(In percent; simple averages over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ Profitability: Return on Assets
(In percent; simple averages over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.Banks’ Profitability: Return on Assets
(In percent; simple averages over 2005 – 2013)
Citation: IMF Staff Country Reports 2016, 028; 10.5089/9781498353748.002.A001
Sources: Bangladesh Bank; and IMF, Financial Soundness Indicators database.1/ Excludes Bangladesh.14. Another factor that might have contributed to push up bank interest spreads and lending rates in Bangladesh is the practice of devolvement of treasury bills and bonds, by which banks are forced to acquire treasury securities when auctions for these securities are not fully subscribed. Treasury securities pay much lower interest rates than the typical loan in Bangladesh. Devolvement reduces both the fraction of assets that can be loaned at any point in time and the average return on assets, and thus may force banks to increase lending rates in an effort to increase returns on assets.7
15. Finally, inflation erodes the real value of the returns on assets. Therefore, it may also force banks to increase lending rates and spreads to compensate.8
16. As a result of all these factors, bank profitability in Bangladesh – for instance as measured by the pre-tax return on assets after provisioning for loan losses is one of the lowest in the world.
Conclusions and policy implications
17. Bangladesh’s average nominal and real lending rates, and banks’ interest spreads, are not exceptionally high by international standards. However, both lending rates and spreads are much higher than those for advanced economies, indicating that there is scope for bringing them down. The above cross-country analysis suggests that the main drivers of lending rates and interest rate spreads in Bangladesh are inflation, low credit quality (high NPLs), low recovery ratios for bad loans, and the practice of devolvement
18. From this, several policy priorities can be drawn to help bring down lending rates and spreads in Bangladesh:
Reduce inflation on a sustained basis through prudent monetary and fiscal policies.
Strengthen bank governance, particularly in the state-owned banks, to help improve asset quality. The very high stock of nonperforming loans in state-owned banks is a cause for concern. Improvements in bank governance could also help strengthen management practices and reduce operating costs.
Improve credit information sharing (for instance, through economy-wide credit bureaus) to help banks better assess borrowers’ creditworthiness.
Improve contract enforceability and judicial proceedings for loan collections, foreclosures and the recovery of collateral.
Minimize or eliminate the practice of forced subscription of Treasury bills and bonds, replacing it with a fully-functioning auction-based approach.
Automate bank branches, particularly at the state-owned banks - a plan for which is currently under implementation - would help reduce operational risks as well as operating costs.
References
Bangladesh Bank, 2015, Financial Stability Report 2014, Bangladesh Bank, Issue 5, June.
Mujeri, M. K. and S. Younus, 2009, “An Analysis of Interest Rate Spread in the Banking Sector in Bangladesh”, The Bangladesh Development Studies, Vol. XXXII, December 2009, No. 4,
Randall R., 1998, Interest Rate Spreads in the Eastern Caribbean, IMF Working Paper No. 98/59 (Washington: International Monetary Fund).
Prepared by Souvik Gupta.
This note uses the weighted average of lending rates for Bangladesh’s commercial banking system as a whole, as published by Bangladesh Bank. Lending rates, however, vary by banks, and within banks, by type of loans and type of borrowers. For example, in August 2015, average lending rates across banks ranged between 8¼ percent and 15percent. But, for the banking system as a whole, the average lending rate was 11½ percent.
When comparing interest rates across countries, it is better to take the average interest rates over a relatively long period of time, so that temporary fluctuations do not distort the analysis. In this note, we base most comparisons on 10-year averages.
Interest rates on NSCs were cut by 1½–2 percentage points in May 2015, but they still remain significantly above bank deposit rates.
For details, see Randall R. (1998).
Banks’ holdings of treasury securities have increased from below 15 percent of deposits in early 2011 to about 21 percent of deposits in August 2105.
Mujeri and Yonus (2009) used statistical techniques to explain the determinants of interest rate spreads across bank types in Bangladesh. Using data for 48 banks for the period of 2004 – 09, they find that inflation, operating costs, nonperforming loans, noninterest income, market share of deposits, and regulatory requirements affect interest rate spreads. However, the impact of these factors differs across bank groups.
