COVID-19 Implications for Banks: The Case of an Emerging Economy With a Weak Financial System

52 Pages Posted: 9 Jul 2020 Last revised: 20 Jul 2020

See all articles by Bipasha Barua

Bipasha Barua

University of Dhaka

Suborna Barua

University of Dhaka - Department of International Business

Date Written: July 9, 2020

Abstract

The COVID-19 pandemic is damaging economies across the world including financial markets and institutions in all possible dimensions. Particularly for banks, the pandemic generates multifaceted crisis, mostly through increases in default rates. This is likely to be worse in developing economies with poor financial market architecture. As a case of emerging economies, this paper considers Bangladesh and examines the possible impacts of the pandemic on the country’s banking sector. Bangladesh’s banking sector already has a high level of non-performing loans (NPLs) and the pandemic is likely to worsen the situation. Using a state-designed stress testing model, the paper estimates the impacts of COVID-19 pandemic on three particular dimensions – firm value, capital adequacy, and interest income under different NPL shock scenarios. Findings suggest that all banks are likely to see a fall in risk-weighted asset values, capital adequacy ratio, and interest income at the individual bank and sectoral levels. However, estimates show that larger banks are relatively more vulnerable. The decline in all three dimensions will be disproportionately larger if NPL shocks become larger. Findings further show that a 10% NPL shock could force capital adequacy of all banks to go below the minimum BASEL-III requirement, while a 13% or more shock could turn it to zero or negative at the sectoral level. Findings call for an immediate and innovative policy measures to prevent a large-scale and contagious banking crisis in Bangladesh. The paper offers lessons for other developing and emerging economies similar to Bangladesh.

Keywords: COVID-19, banking, credit risk, emerging economy, developing countries

JEL Classification: E44, G21, G32

Suggested Citation

Barua, Bipasha and Barua, Suborna, COVID-19 Implications for Banks: The Case of an Emerging Economy With a Weak Financial System (July 9, 2020). Available at SSRN: https://ssrn.com/abstract=3646961 or http://dx.doi.org/10.2139/ssrn.3646961

Bipasha Barua

University of Dhaka ( email )

University of Dhaka
Ramna, Dhaka, 1000
Bangladesh

Suborna Barua (Contact Author)

University of Dhaka - Department of International Business ( email )

Dhaka, 1000
Bangladesh

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