Good borrowers pay, but defaulters finally win

An economy cannot maintain credit discipline when offenders are repeatedly rewarded rather than punished. When such rewards become the norm, borrowers start to feel less obligated to repay.

Economists call this the “soft budget constraint,” a term coined by Hungarian economist János Kornai to describe state-owned enterprises that expected government bailouts regardless of performance. Applied to banking, the same logic holds where borrowers who anticipate rescue lose the incentive to repay.

Tap here to add The Daily Star as a trusted source

And as concessions to defaulters become routine, even disciplined borrowers start to ask why they should keep paying on time themselves.

Bangladesh’s banking sector is now demonstrating both dynamics at scale.

At the end of June this year, bad loans in Bangladesh’s banking sector stood at Tk 6.07 lakh crore, or 32.78 percent of total disbursed loans, according to Bangladesh Bank data. By separate comparisons using IMF Financial Soundness Indicators and African Development Bank data, this gives Bangladesh the world’s highest non-performing loan (NPL) rate.

The trajectory shows how the constraint kept softening.

Under 16 years of Awami League rule, defaulters received restructuring, rescheduling, interest waivers and one-time exit facilities year after year instead of facing action, allowing large defaulters to keep bad loans booked as regular.

When the party took office in 2009, NPLs stood at just Tk 22,480 crore. By the time the AL-led government fell in August 2024, the figure had reached Tk 2.85 lakh crore.

The pattern did not end with the change in government. During the interim government, the central bank allowed defaulters to extend repayment over five to 15 years, with down payments as low as 1 percent and grace periods up to three years, aiming to revive business activity.

The ruling BNP took office after the 13th national election in February this year and installed Md Mostaqur Rahman, a garment-sector businessman, as the 14th BB governor.

He introduced further rescheduling and restructuring facilities, a one-time exit policy, and stimulus packages for closed factories.

There is a legitimate economic argument for supporting viable businesses during a downturn. A company facing a temporary liquidity problem should not necessarily be treated in the same way as a borrower who deliberately siphoned off bank funds.

Bangladesh’s problem, however, is that the distinction between the two has often been blurred.

The shutdown of many businesses linked to the previous ruling party has further complicated matters. Some have halted production, while others are not receiving banking support because their owners are in jail, fugitives or have fled abroad following allegations of loan irregularities, financial scams and money laundering.

According to Bangladesh Bureau of Statistics data, GDP growth had slowed to 2.22 percent in the January-March quarter, roughly half the year-earlier rate, as industry contracted.

Against this backdrop, supporting viable businesses may be necessary. But an important question remains: will the increasingly generous concessions being offered to defaulters actually revive businesses and the wider economy?

Over the past seven months, the BB has issued roughly half a dozen circulars extending relief to defaulted borrowers.

In February, it allowed defaulting borrowers to repay over up to 10 years, with grace periods of up to three years. Required down payments could also be made in instalments. Half could be paid at the time of approval, with the remaining 50 percent payable within six months.

In March, it allowed banks to renew continuous loans even after their stipulated tenure had expired, provided those loans had not yet been classified as defaulted. The deadline for this policy support has also been extended several times.

In May, it announced a Tk 60,000 crore stimulus package to support the troubled private sector, boost investment and revive the economy. Of the package, Tk 20,000 crore was earmarked for closed factories.

BB stated that defaulting borrowers would not be eligible for the facility. Yet a large number of the owners of closed factories are reportedly themselves defaulters, raising questions about how effectively the package can reach otherwise viable businesses without also benefiting problematic borrowers.

In June, the BB announced a one-time “special exit” facility for defaulting borrowers, allowing banks to waive interest and let borrowers settle bad loans with a single payment. The facility will remain effective until December 31 this year.

In the ongoing September, the BB further allowed large defaulters with outstanding loans of Tk 1,000 crore or more to repay over 15 years, including a two-year grace period, instead of 10 years.

Such generous concessions have been granted in the name of reviving businesses and creating employment. Similar measures were also taken during the previous Awami League government.

Despite all this, NPLs have risen, not fallen.

The tools to break this cycle already exist. The Bank Company Act, 1991, and its recent amendments provide several punitive and preventive measures against loan defaulters to restore discipline in the financial sector

Under the law, defaulters are barred from becoming directors of banks or financial institutions. Even after their names are removed from the default list, they remain ineligible to serve as directors for five years.

Willful defaulters may also face restrictions on forming new companies, obtaining trade licences, buying, selling or registering land and other immovable property, and travelling abroad.

In addition, willful defaulters are ineligible for interest waivers and loan rescheduling facilities. They may also be excluded from state awards, honours and certain government benefits.

These measures, intended to deter deliberate default and ensure that those who misuse bank funds face meaningful consequences, are hardly enforced.

Instead, defaulters are often rewarded with more discounts and facilities. Such rewarding risks push regular borrowers to become defaulters too.

So who rewards honest borrowers? Does any bank, or BB itself, keep a list of on-time payers, or offer them any comparable recognition?  Has the banking regulator introduced any meaningful form of appreciation or reward for them?

Toufic Ahmad Choudhury, former director general of the Bangladesh Institute of Bank Management (BIBM), told The Daily Star that everyone in the country is a victim of the NPL crisis.

“It is because of these bad loans that ordinary depositors are now unable to get their money back. In one way or another, everyone in the country is paying the price for the problem of NPLs. Even good borrowers are having to bear the cost,” he said.

He noted that small and SME borrowers regularly repay their loans, yet there are hardly any benefits or incentives for them.

Almost all the benefits, he said, are being extended to large borrowers and willful defaulters.

“Providing special benefits and concessions to willful defaulters and large borrowers has become a culture. NPLs will not come down this way,” said Toufic.

Reducing them, he said, requires strong action against defaulters, sustained political commitment, and a strong central bank.