The central bank move to cap lending rates at 9% and the pandemic fallout is now colliding with a weak financial system that may be heading for even greater turbulence in banking system, industry insiders said.

The NPL problem leaves Bangladesh poorly prepared to withstand the coronavirus fallout, while the pandemic’s implications will increase the number of bad loans they said.

The IMF estimated that eight state-run banks in Bangladesh alone account for more than 50% of all default loans, hitting a record in September 2019.

Rahel Ahmed, Prime Bank said Yet by warping the true level of risk in Bangladesh’s financial system, the rate cap runs afoul of all these goals.

Zahid Hussain, former World Bank economist said “the 9% interest rate cap will not cover the costs and risks, thus resulting in the sector’s portfolios becoming commercially unviable overnight. This will… reduce the supply of credit to these customers, forcing them to borrow from unofficial predatory lending sources such as traditional moneylenders.”

In a recent pre-pandemic report on rate caps, the World Bank warned of “substantial unintended side-effects.” Among them: “reduced price transparency, lower credit supply and loan approval rates for small and risky borrowers, lower number of institutions and reduced branch density, as well as adverse impacts on bank profitability.”

The timing of Dhaka’s experiment comes just as the IMF is pointing out the microeconomic cracks that mar an otherwise sunny macro story that was garnering global attention.

“Market forces should determine the lending rate, and any other arrangement, unless accompanied by subsidies from the government, will hinder the growth in business lending, especially for the smaller businesses,” says Jobayer Alam, head of SMEs of IDLC Finance.

The last year, even before the coronavirus, saw “unprecedented” government borrowing directly from banks, says Ahsan Mansur, executive director of the Policy Research Institute. The bulk of the borrowing goes toward infrastructure projects aimed at reducing Dhaka’s notorious traffic. If this can be managed well, the Bangladesh economy will recover very strongly from this coronavirus breakdown   –

“There is nothing to be satisfied about,” says Transparency International Bangladesh executive director Iftekharuzzaman, who goes by one name. In particular, Iftekharuzzaman calls out the government’s interference in the banking sector.

Political meddling in development projects, government institutions borrowing directly from banks and putting cronies in regulatory positions mean that Dhaka’s bad-loan troubles could be worse than the official data indicates. Iftekharuzzaman doesn’t mince words: “The state structure and governance process are often captured by agents and beneficiaries of corruption, the striking example of which is the banking sector bedevilled by loan defaults and all possible forms of swindling public money, he said.