Moody’s Ratings has revised its outlook for Bangladesh’s banking sector from “stable” to “negative”, citing escalating asset risks and worsening economic conditions.
In a report released yesterday, the credit rating agency highlighted several key concerns, including the deterioration of asset quality, high inflation, and slowing economic growth. These factors are expected to negatively impact the profitability and financial stability of the country’s banks.
“Structural risks to banks’ asset quality, such as weak regulations and poor corporate governance, will persist,” Moody’s stated.
While liquidity across the banking system is expected to remain stable, it will be tight, with the system-wide loan-to-deposit ratio recorded at 81% as of September 2024. Moody’s also acknowledged the government’s likely continued support for banks through regulatory forbearance and liquidity measures to minimise “contagion risks.”
However, the agency warned that such measures could obscure underlying asset risks and hamper loan recovery. The system-wide non-performing loan (NPL) provision ratio remained low at 42% as of June 2024, and it is expected to decrease further if loans with modified payment terms are included.
The negative outlook also reflects the government’s declining capacity to provide support to banks during times of crisis, the report stated.
Asset risks in Bangladesh’s banking sector are expected to intensify, particularly as NPLs continue to rise. As of September 2024, the system-wide NPL ratio had increased to 17% from 9% in the previous nine months.
Moody’s foresees asset quality continuing to deteriorate as the operating environment worsens, further exacerbated by social unrest which has undermined the financial stability of many domestic businesses. This unrest has led to reduced demand, disrupted supply chains, and created labour shortages.
The situation could be made worse by stricter NPL classification rules that are set to come into effect in April 2025, according to the agency.
In terms of profitability, Moody’s projects a decline as loan-loss provisions are expected to rise significantly across the banking system. The existing reserves for stressed loans are insufficient, particularly in the face of mounting asset risks.
Banks with strong fundamentals are expected to see improvements in net interest margins (NIMs) due to elevated lending rates following the removal of an interest rate cap by the central bank. They will also benefit from a decrease in deposit costs amid a shift of funds to safer banking options. However, banks with worsening asset quality will experience a reduction in NIMs as the proportion of interest-earning loans shrinks.
Moody’s forecasts Bangladesh’s real GDP growth will slow to 4.5% in the fiscal year ending June 2025, down from 5.8% the previous year. The slowdown is attributed to a combination of political and social instability, disruptions in the garment sector supply chain, and weakening demand both domestically and internationally.
Additionally, the central bank has raised policy rates from 6% to 10% over 15 months in an effort to curb inflation, which is expected to remain high at 9.8% in 2025.
The report also pointed out that high inflation and unemployment will limit the political capital of the interim government to implement substantial reforms. The fiscal capacity of the interim government to offer support will be constrained, further impacted by its lack of political power.
Despite these challenges, Moody’s noted that overall capitalisation in the banking system is likely to remain stable due to slower credit growth. However, state-owned banks remain particularly vulnerable, with an average capital-to-risk-weighted-assets ratio of -2.5% as of September 2024, significantly lower than the private sector average of 9.4% and well below regulatory minimums.
“State-owned banks will remain undercapitalised due to weak profitability, which is further strained by high NPLs and the absence of government capital injections,” the agency concluded.