State-owned banks in Bangladesh weakest in South Asia: WB

State-owned commercial banks (SOCBs) in Bangladesh appear to be the weakest among the South Asian peer group with the highest ratios of non-performing loan and cost-to-income, resulting in negative profitability, says a World Bank report.

The SOCBs in Pakistan are, on average, the only profitable SOCBs in the comparison group and performing better than those in Bangladesh and India, says the report "Hidden debt: Solutions to avert the next financial crisis in South Asia."

Bangladesh risks higher fiscal costs – between $379 million to $730 million – from early termination of public-private partnership (PPP) projects, which will account for 0.14% to 0.26% of gross domestic product (GDP), the report reveals.

Released on Tuesday from Washington, it warns South Asia's heavy reliance on state-owned commercial banks, state-owned enterprises and public-private partnerships exposes the region to the risk of "hidden debt".

It offers key areas for policy actions and concrete reforms that can help governments leverage public capital more responsibly through these types of entities to advance economic development.

The Covid-19 pandemic has highlighted South Asia's rising levels of public debt, said Hartwig Schafer, World Bank's Vice President for South Asia.

The report studies the trade-offs between the state presence in the markets and the high levels of debt due to economic inefficiencies of SOCBs, state-owned enterprises (SOEs) and PPPs.

"The efficiency of South Asian state-owned banks and other state-owned enterprises is well below the international benchmark," said Hans Timmer, the World Bank Chief Economist for South Asia.

As governments rebuild from the shock of the Covid-19 pandemic and strive to avert future financial crises, they should clearly separate the social and commercial objectives of these enterprises in order to reduce inefficiencies, while maintaining socially beneficial investments, he suggested.

The report estimates that a systemic macro-financial crisis can trigger PPP failures that would cost South Asian countries more than 4% of revenues, and the potential costs from distressed SOEs have been even more overwhelming. In Pakistan, the total liabilities of chronic loss-making SOEs have been 8 to 12% of GDP in recent years, several times more than the country's public spending on education in FY19-20.

In Sri Lanka, liabilities of loss-making SOEs have been around 4 to 5% of GDP. In every country studied, the top 10 loss-making SOEs account for more than 80% of the total losses in the SOE sector.

The report recommends four key avenues for reform – clearly defining the purpose of SOCBs, SOEs and PPPs, proper incentives with greater financial discipline, debt transparency and ensuring accountability to stop the practice of political self-interest or side deals.

SOCBs

State-owned banks in Bangladesh have the "weakest performance indicators" with capital adequacy ratios below the 10% national prudential threshold and the Basel minimum. In comparison, Pakistan's SOCBs have the lowest cost-to-income ratio and their capital ratios are well above the threshold.

The performance of India's SOCBs is mixed: capital adequacy ratios are well above the 9% national prudential minimum and the Basel minimum, but NPL ratios hover at a worrying 17%. Despite the lowest cost-to-income ratio, profitability is strongly negative – particularly the return to equity.

NPL ratio is 12% in Pakistan and 28% in Bangladesh, says the report that used data until 2018. 

The South Asia region has the highest share of SOCB assets in terms of total banking assets in the world, followed by the Europe and Central Asia regions.

The share of SOCB assets in India, Bhutan and Sri Lanka is high compared with the regional average.

Despite a fair share of SOCB assets, Bangladesh and Pakistan fall below the regional average – but still above the average for the lower-middle-income country group. In general, in South Asia, SOCBs appear to be performing poorly when compared with privately owned commercial banks (PCBs), it says, comparing the banks' performance on the basis of public and private ownerships.

The PCBs are better capitalised than the SOCBs within the same country. The same goes for asset quality, profitability, and efficiency measures.

The data suggest that private banks take more risks in lending than SOCBs: their ratio of risk-weighted assets to total assets is greater than those of SOCBs.

PPPs

The report analysed the future risks of hidden debt in case of early termination of PPP projects.

Estimating fiscal costs of active PPPs in South Asia, it says India, Pakistan, and Bangladesh have the highest estimated fiscal costs from early termination of active PPPs in the region, while Afghanistan and Bhutan have the lowest.

Bangladesh had 45 active projects under PPP involving $6.9 billion until 2018, second after India in the region. About 70% of the costs is debt. The energy sector had the highest 31 PPP projects, followed by eight in transport, five in ICT and one in water and sewerage.

The estimated fiscal cost from early termination over the remainder of the contract periods of the PPPs ranges from $9.7 billion to $18.5 billion in India; $1 billion to $2 billion in Pakistan; and $379 million to $730 million in Bangladesh.

These estimates give an idea of the resources that would be needed in case of early termination of the PPP portfolio.

Even though Sri Lanka's current PPP portfolio is about half the size of Bangladesh's in terms of the number of projects, and almost 50% larger than Nepal's in terms of total investments, the fiscal cost estimates in Sri Lanka are less than one-sixth of the estimates in Bangladesh and less than 80% of the estimates in Nepal.

"The main reason is that the PPPs in Sri Lanka have mostly passed 40 percent of their contract period, while the portfolios in Bangladesh and Nepal are younger," it explains.

SOEs

The share of state-owned enterprises that reported a loss in 2017 ranged from 24% to 35% across South Asian countries. In every country studied, the top 10 loss-making SOEs accounted for more than 80% of the total SOE sector loss.

However, in recent years, state sector enterprises in Bangladesh and India have "consistently generated net profits", while those in Pakistan returned to loss after generating profits in the previous two years.

Bangladesh and Sri Lanka SOEs have a significant presence in the manufacturing, services, energy, and transportation sectors.

South Asian SOEs receive significant financial inflows from their governments in the form of equity injections, grants, and loans.

In Sri Lanka, the outstanding stock of SOE debt with a government guarantee amounted to approximately 5% of GDP in 2019. The corresponding numbers for Bangladesh, as reported in official statistics, are comparatively low – less than 0.1% of GDP.