This contextual “world” has many dimensions e.g. legal, ethical, political, social, economical, etc. People are inclined to perceive this complex world differently because their motivations, attitudes, experiences and their horizons differ. It is therefore naturally expected that peoples’ thinking on goals, policies and decisions and actions would also vary.
Commercial banking has not been a mere industry but a culture, which has found the culture of the urban businessmen and industrialists congenial. This trend continues all over the emerging markets even today. Another important development that has happened is the emergence of the retail sector. The worldwide consumerism has helped in developing this profitable line of business for commercial banks over the past two decades. Nepal has also seen a significant growth in this sector, culminating from the changing socio-economic situation in the country and supported by the relentless flow of inward remittances by Nepalis working abroad. India and other developing markets witnessed a similar situation a few years earlier than Nepal. This has helped commercial banks in developing newer products e.g. mortgages, credit cards, personal loans and also structured deposits providing holistic solutions to the emerging middle class in the country.
Nevertheless, it would be pertinent to refer to the realistic world in that the recent global financial meltdown has taught a good lesson to the banks and financial institutions about the genesis of a proper credit culture. In my opinion, the fundamentals of lending haven’t changed, only the methodology and product ranges have undergone evolutionary changes. One needs to keep this in the back of the mind.
It is important to draw our attention to another element of tradition and culture relating to the depth of banker-client relationship with the borrower. Banking is understood as different from other industries. Money and credit transactions are risky and require to be handled under close continuous and intimate relationship. Competition provides the real fulcrum to such a relationship. In a buyer’s market, if one crosses the “generally prevalent” practices, he loses the customer. If he can be smart to further accommodate the borrower, he gains business today. With the passage of time, bankers from other banks will catch up with him. Under such oligopoly, the division of gains in the bargaining process in favor of the banker is bound to be minimum. This is very often experienced in the emerging markets.
Hence, the culture of credit discipline and appropriate governance by the bank management and also by the Central Bank of the country needs to be adopted in a more vigorous way so that the danger of weakening the credit process and eventual losses to the financial sector could be avoided.
If we look at the basics and characters of lending, it reveals that the strongest canon of commercial bank lending, which is used to justify its “pure” character and is meant to distinguish it from other types of banking, is the short-term and inherently self-liquidating character of its loans. At last, as an underlying philosophy, it is even now mentioned with enthusiasm. To my mind, it is both wrong in theory and false in practice. It now remains merely as a reminder of the past. The very premise that the source of ‘loanable’ funds of commercial banks is deposits repayable on demand is no longer holding true and the same is true of lending against self-liquidating assets. We have moved from “self-liquidating assets” to “shiftable assets”, to “anticipated income” to “permanent lending” theories of lending. Facts have changed radically; most of our lending in practice is such that concepts of traditional commercial banking do not really hold true. A large part of our loans are not loans. Loan implies repayment. ‘Renewability’ means our right to review and an occasion to withdraw. If not, it is virtually capital finance with a right to earn fixed dividends even if there are losses, which is a before-tax item and ranks higher in the event of liquidation, nearer to preferred capital than debentures.
Commercial bank lending practices and the law supporting them were evolved largely during the last century and with a view to meeting the credit needs of the trading clientele. The basis got focused on the transaction, the related negotiable instruments, various types of charges on moveable and immoveable assets, etc. This led to transaction and asset-based lending. Basic emphasis was on “lending to” and “lending against”; “lending for” was largely presumed to exist “ipso facto”. Even today, in some of the developing markets, one could still be able to identify the fact that equation between need, purpose and eligibility is treated as apparent. Deviation are being permitted when overtrading are financed through accommodative papers or loose multiple banking.
When the market is extended to working capital loans for industry, it is done through extension of some practices and by adding many other types of loans to the shopping list of the borrower providing further scope for financing overtrading. Apparent equation between need, purpose and eligibility has become tenuous and for most part is engineered in ways that are getting increasingly complex and purpose-defeating.
This is really dangerous and could become a major reason for collapse if not checked at the appropriate time. Nepal’s financial market is no exception.
Under the given market conditions and imperfect work technology, particularly in the under developed economies, they only serve as channels of over borrowing for overtrading and speculation and therefore dilution of financial discipline. Money has liquidity and miscibility as two basic properties. It is almost impossible to control in reality the specific linkages between sources and uses. It flows into the pool from various sources, gets mixed up and flows out to users, which the user considers beneficial. Control and discipline are most likely to get diluted if this reality is ignored. A total approach is the right answer. Objectives of reform and incentive-giving, as long as they affect the working of the banking system, must also be based on total and not partial consideration of reality.
Writer is CEO, Standard Chartered Bank Nepal Ltd.
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