Bangladesh Bank may seek to delay IMF’s default loan policy

Highlights:

• BB's new policy, to take effect on 1 April, cuts NPL classification from 6 to 3 months
• But the banking sector's fragility became more evident since August regime change
• Default loans surged, reaching over 20% of total loans in Dec, up from 9% a year ago
• Stricter policy enforcement may raise NPLs, hindering IMF's 2026 targets (10% for state banks, 5% for pvt banks)

The Bangladesh Bank may enter renegotiations with the International Monetary Fund (IMF) regarding its upcoming loan classification policy, set to take effect on 1 April. The move comes in light of the banking sector's fragility, which has been further exposed since the regime change in August 2024, a senior central bank official said.

Under the new policy, loans will be classified as non-performing (NPL) after three months of overdue payments, down from the current six-month grace period. This aligns with global Basel III banking regulations, which Bangladesh Bank initially agreed to implement under the $4.7 billion IMF loan package secured in 2023.

However, with default loans surging—accounting for more than 20% of total disbursed loans as of December 2024, up from 9% a year prior—the central bank now faces challenges in enforcing the stricter policy. A return to global standards could further inflate NPL figures, making it difficult to meet the IMF's requirement to bring NPLs down to 10% for state lenders and 5% for private banks by 2026.

IMF review and possible renegotiations

The IMF's fourth review mission is scheduled to visit Dhaka from 17-19 April, during which Bangladesh Bank is expected to discuss potential policy adjustments. The release of the third installment of IMF funds, initially set for 5 February, has already been delayed without an official reason.

Bangladesh Bank Governor Ahsan H Mansur is also expected to raise the issue during the Spring Meetings of the World Bank Group and IMF, taking place in Washington from 21-26 April.

Banking sector downgrade and economic implications

Moody's has downgraded the outlook of Bangladesh's banking sector to negative, citing deteriorating asset quality. The stricter loan classification policy could worsen the situation, forcing more businesses into default amid an economic slowdown and high inflation.

Bangladesh is not alone in seeking delays in Basel III implementation. Authorities in the US, UK, and EU have also sought extensions, with American banks set to begin compliance from July 2025 with a phased three-year transition period. The EU has postponed certain Basel III provisions to ease the burden on mid-sized banks. These international precedents strengthen Bangladesh's case for renegotiation.

Default loans may cross Tk5 lakh crore

Bangladesh's default loans have surged by Tk2 lakh crore in the past year, reaching Tk3.45 lakh crore by December 2024. Of this increase, Tk1.34 lakh crore was revealed within six months following the regime change in August.

The central bank's latest monetary policy projects that default loans could exceed 30% of total disbursed credit, potentially crossing Tk5 lakh crore. Contributing factors include regulatory weaknesses, systemic inefficiencies, and illicit financial practices like money laundering and capital flight.

A worsening asset quality crisis could further damage Bangladesh's banking reputation, making it difficult for local banks to secure foreign credit lines, the central banker warned.

Deviation from global standards and its consequences

Bangladesh Bank initially adopted global loan classification rules in 2012, marking loans overdue from the day after a missed payment and classifying them as defaults after three months. However, in 2019, the central bank introduced a relaxed grace period of six months, effectively allowing defaulters up to nine months before a loan was marked non-performing.

While this deviation from Basel III standards helped banks avoid large-scale loan defaults on paper, it ultimately weakened financial health, pushing at least 10 banks to the brink of collapse over the last decade. Additionally, the loan rescheduling policy introduced in 2012 allowed defaulters to restructure their loans up to three times, further masking bad assets.

Despite these relaxations, global rating agencies did not immediately downgrade Bangladesh's banking sector. However, with the sharp rise in default loans and the imminent enforcement of stricter policies, the risk of further credit downgrades looms large.

As Bangladesh Bank prepares to negotiate with the IMF, the outcome will be critical in determining the future trajectory of the country's financial stability. Striking a balance between regulatory compliance and economic reality remains a pressing challenge.