Course Code: F- 501

Course Name: Management of Financial Institutions

Course Code: F-501

Submitted to:
Farzana Lalarukh
Associate Professor
Department of Finance
University of Dhaka

Submitted By
Group No: 14

Section A

SL Name ID No Remarks
no.

1 Farhana Waleja 18-035

2 Jannatul Naima 18-065

3 MD. Obydul Hoqe 18-087

4 Billal Hosen 18-155

M.B.A. 18th Batch

Department of Finance
University of Dhaka

Date of submission: 16th February 15, 2017

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LETTER OF TRANSMITTAL

February 16, 2017

Farzana Lalarukh

Associate Professor

Department of Finance

University of Dhaka

Subject: Submission of report.

Mam,

With due respect, we, the study members of M.B.A. Program (18th Batch) under Department of
Finance, University of Dhaka, submit a report report on Case Analysis on Bank Failures in
Mature Economies. Learning how the firm structures vary for different financial sectors and
types of risks are faced by financial institutions belonging to different industries is very important
for a finance student.

We acknowledge the contribution of our course teacher heartily. We have tried to use our academic
knowledge in real life. We are pleased to be granted this vital opportunity and grateful for your
versatile assistance. We hope that our work will please you.

Sincerely yours,

Group No: 14

SL no. Name ID No Signature

1 Farhana Waleja 18-035

2 Jannatul Naima 18-065

3 MD. Obydul Hoqe 18-087

4 Billal Hosen 18-155

M.B.A. 18th batch

Department of Finance
University of Dhaka

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CONTENTS

INTRODUCTION .................................................................................................................................................................... 6
1.2 ORIGIN OF THE REPORT ........................................................................................................................................... 6
1.3 OBJECTIVES OF THE REPORT ................................................................................................................................ 6
1.4 SCOPE OF THE REP ORT ............................................................................................................................................. 6
1.6 LIMITATIONS ................................................................................................................................................................. 6
CASE 1- THE HERSTATT CRISIS IN GERMANY ..................................................................................................... 8
RISK MANAGEMENT IN B ANGLADESH ..................................................................................................................... 9
MEASURING FOREIGN EX CHANGE RISK ............................................................................................................... 10
MANAGING FOREIGN EXCHANGE RISK ................................................................................................................. 10
TRANSACTION EXPOSURE ....................................................................................................................................... 10
TRANSLATION EXPOSURE ........................................................................................................................................ 10
ECONOMIC EXPOSURE ............................................................................................................................................... 11
REGULATORY IMPOSITION TO MANAGE FOREIGN EXCHANGE RISK .................................................... 11
CASE-2 THE JAP ANESE FINAN CIAL CRISIS .......................................................................................................... 12
NPLs & Provision in Bnagladesh Banking sectors..................................................................................................................... 13
PROVISIONS FOR NPLS IN BANGLADESH ............................................................................................................. 13
RISK MANAGEMENT SYSTEM ..................................................................................................................................... 14
RISK MANAGEMENT IN B ANGLADESH BY REGULATORY AUTHORITIES ............................................. 14
CASE 3- THE NORWEGIAN BANKIN G CRISIS 1988 1992 .............................................................................. 15
THE SEQUENCE OF THE CRISIS .................................................................................................................................. 15
MACROECONOMIC BACKGROUND ........................................................................................................................... 15
REGULATION AND SUPERVISION ............................................................................................................................. 16
LESSONS LEARNED ........................................................................................................................................................... 17
RELEV ANCY OF THE CRI SIS IN BANGLADESH ................................................................................................... 17
CREDIT RISK SCENARIOS IN BANGLADESH ........................................................................................................ 18
ACTIONS AS A RISK ANALYST IF THIS CRISIS HITS THE BANKING IND USTRY OF
BANGLADESH...................................................................................................................................................................... 19
CASE-4 BANK FAILURES IN SPAIN ........................................................................................................................... 21
BANGLADESH PERSPECTIVE ....................................................................................................................................... 22
Basic Bank Scandal .................................................................................................................................................................... 22
Effects ........................................................................................................................................................................................ 23
Agrani Bank LTD....................................................................................................................................................................... 24
FROM BANKS PERSPECTIVE: ..................................................................................................................................... 24
From Country's perspective ........................................................................................................................................................ 25
Case 5- What crisis happened in Sweden........................................................................................................................................ 26
Possibility of such crisis in Bangladesh .......................................................................................................................................... 27
The problems associated with crises ............................................................................................................................................... 28

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 Real estate demand ..................................................................................................................................................................... 28
Credit risk................................................................................................................................................................................... 29
Liquidity risk .............................................................................................................................................................................. 30
Low growth of the country ......................................................................................................................................................... 32
Market risk ................................................................................................................................................................................. 33
What banks should do..................................................................................................................................................................... 35
Commercial Banks ..................................................................................................................................................................... 35
Public Commercial Banks .......................................................................................................................................................... 36
Specialized Banks....................................................................................................................................................................... 36
Case-6 what crisis happened in Switzerland ................................................................................................................................... 37
Possibility of such crisis in Bangladesh .......................................................................................................................................... 37
The problems associated with crises ............................................................................................................................................... 38
Price index change in real estate................................................................................................................................................. 38
High lending limit ...................................................................................................................................................................... 38
What banks should do..................................................................................................................................................................... 39
Private commercial, National commercial and specialized banks .............................................................................................. 39
Foreign banks ............................................................................................................................................................................. 39
CASE 7- BANK FAILURES IN UK ................................................................................................................................ 40
FRAUD AND IT CRIMES IN BANKING INDUSTRY: THE CASE OF BANGLADESH ................................ 41
2. Individual Fraud Incident ....................................................................................................................................................... 43
3. 2016 Bangladesh Bank IT Fraud and Previous Cyber Attacks ............................................................................................... 44
Background ................................................................................................................................................................................ 44
Events......................................................................................................................................................................................... 45
Attempted fund diversion to Sri Lanka .................................................................................................................................. 45
Funds diverted to the Philippines ........................................................................................................................................... 45
Investigation ............................................................................................................................................................................... 46
Bangladesh............................................................................................................................................................................. 46
Philippines ............................................................................................................................................................................. 47
United States .......................................................................................................................................................................... 47
Other attacks .......................................................................................................................................................................... 48
CASE- 8 BANGLADESH AND THE CASE OF US BANK FAILURES ............................................................... 49
Bangladesh Context.................................................................................................................................................................... 51
CONCLUSION ....................................................................................................................................................................... 53

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C HAPTER 1:
INTRODUCTION

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INTRODUCTION

In this chapter we tried to describe the origin of the report, objective of the report, scope and
limitations of the report.

1.2 ORIGIN OF THE RE PORT

The M.B.A. Program under the Department of Finance offers a course named Management of
Financial Institutions (F-501) which requires submitting a report on a specific topic. The report
under the headline Case Analysis on Bank Failures in Mature Economies has been prepared
towards the purpose.

1.3 OBJECTIVES OF THE REPORT

To build a regulatory framework that mitigates the risk of future bank failures, the
insights found in the paper regarding the reasons for such crises should be researched
further.

The way those banking problems were resolved may have been anticipated by market
participants, and thus have had an impact on their likelihood and severity.

The regulatory changes following those crises indicate the perception of respective
national authorities as to the underlying causes of the problems.

1.4 SCOPE OF THE REP ORT

Research papers
Country Report

1.6 LIMITATIONS

Like every task, we faced some limitations in case of preparing the report. Especially,

Lack of information: The case were solved on the basis of available information.

Time Constraint: There was a lack of time for this. So, some unwanted mistakes may be seen.

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C HAPTER 2:
CASE

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CASE 1- THE HERSTATT CRISIS IN GERMANY

The Herstatt was founded in Cologne in 1956 which was the thirty-fifth largest bank in Germany.
The case of Herstatt was the largest and the most spectacular failure in German banking history
since 1945. The Herstatt bank closed its banking operations in 1974. There were reasons for failure
of Herstatt on that time. These are given below:

Much attention in international financing

Excessive open position in International market
Introduction of floating exchange rate
Volatility in foreign market
Wrong speculative decision
Collapse of Bretton Woods System in 1973
Unanicipated appreciation of dollar
The international financial system gave much attention to the Herstatt bank because of the
regulatory implications that caused to make open position amounted to DM 2 billion which was
eight times above the banks limit of DM 25 million. At the end of 1973 the total assets of the
bank was DM 2.07 billion. When the bank suffered loses it was amounted four times of the total
size of the capital of the bank. Unanticipated appreciation of dollar injected the severity of loses.
The Herstatt crisis took place shortly after the collapse of the Bretton Woods System in 1973. The
bank had a high concentration of activities in the area of foreign trade payments. Under the Bretton
Woods System, where exchange rates were fixed, this area of business tended to carry little risk.
In an environment of floating exchange rates, this area of business was fraught with much higher
risks. Foreign exchange risk was much acute in case of Herstatt bank because of excessive pressure
of foreign investors that can be shown in the following graph:

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RISK MANAGEMENT IN B ANGLADESH

Banks are exposed to five core risks through their operation, which are-credit risk, asset/liability
risk, foreign exchange risk, internal control & compliance risk, and money laundering risk.
Among these risks management of credit risk gets most attention. Credit risk arises due to the
possibility that the borrower may fail to repay the loan. Following the recent global financial
crisis, which originated from poor management of credit risk, credit risk is the most discussed
topic in banking industry. Credit risk is one of the most vital risks for any commercial bank.
Credit risk arises from nonperformance by a borrower. It may arise from either an inability or an
unwillingness to perform in the pre-commitment contracted manner. The real risk from credit is
the deviation of portfolio performance from its expected value. The credit risk of a bank is also
effect the book value of a bank. The more credit of a particular is in risk, the more probability of
a bank to be insolvent. Therefore, the status of depositor in the bank is at risk and probability of
incurring loss from their deposited value. In my whole report, I was working on the credit risk
management practices of Prime Bank Limited. During the preparation of the report, I provide the
last five years information of PBL from 2006-2010. In the whole report I also explained detailed
credit policy and credit risk management of PBL. If I make focus on the ratio analyses I found
that, PBL was quite good in those selected ratios. The various ratios of PBL indicate that the
credit risk in those years was in tolerable limit. In the comparison part, I make compare the credit
risk of PBL with the industry average of the present time. In Capital Adequacy Ratio, PBL has
shown great consistency and the ratio is more than the Bangladesh Bank requirement of 10%.
Finally, I like to conclude that PBL is one of the most promising and fast growing bank in our
country. According to its operational excellence, it is now competing with some renowned
foreign commercial banks which are operating in our country. Hopefully it may achieve its target
to simplify the banking system in Bangladesh. But the alarming fact is that the NPLs in banking
sector in Bangladesh are increasing at an alarming rate. The statistics of NPLs are given below:

The state owned commercial banks LC operation creates major foreign exchange exposure.
Transaction conducted by private owned commercial bank denominated in foreign currency
increases the foreign exposure in Bangladesh. But the foreign exchange risk is no much extent in
case of foreign direct investment in a particular country.

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MEASURING FOREIGN EX CHANGE RISK

As most of the banks in Bangladesh are engaged in foreign business the foreign exchange risk is
one of the crucial factors in case of decision making. There are several methods of measuring
foreign exchange risk. These are;

Measuring the foreign currency cash flows

Measuring foreign currency exposure
Conduct sensitivity analysis
Calculation the value of risk

MANAGING FOREIGN EXC HANGE RISK

To manage foreign exchange risk we have to consider three broad categories of exposure. These
are:
I. Transaction Exposure
II. Translation Exposure
III. Economic Exposure

TRANSACTION EXPOSURE
Transactions in the form of purchase contracts or agreements denominated in a foreign currency
but not yet settled create transaction exposure. The fluctuation of the currency will have an impact
on the value until the transaction is completed. The value of an unsettled export receivable or an
import payable is just one example. There are multiple hedging techniques to help the investor
minimize his risk, including:

forward contracts
futures contracts
use of a money market hedge
contractual risk sharing
pricing adjustments based on forward rates
foreign currency accounts
foreign currency options

TRANSLATION EXPOSURE
The revaluation of all foreign-denominated assets and liabilities often referred to as transfer pricing
is usually considered paper gains or losses. The conversion of an asset by selling it and
converting the proceeds to the local currency would create a realized gain or loss. This form of
exposure is created when financial statements are prepared and converted to the local currency of
the owner or investor. This form of exposure is considered an indication of potential gains or
losses.

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ECONOMIC EXPOSURE
The evaluation of foreign governments from an economic standpoint determines whether a
translation exposure could be realized. The projected stability of a country, both politically and
economically, impacts future cash flows and can adversely impact the profitability of an
organization. Strategic planning for operations must include economic exposure.

REGULATORY IMPOSITIO N TO MANAGE FOREIGN EXCHANGE RISK

Bangladesh bank also provide guideline to other banks so that the commercial banks can mitigate
their foreign Exchange risk

If other bank go to the major transaction in foreign currency the have to take permission of
Bangladesh bank.
Need to maintain foreign reserve central bank ensures the foreign activity of other bank.
Forecast the trend of foreign exchange rate and involve in transaction.
where the business may imports or exports or in which country
where other costs, such as capital expenditure, are denominated in foreign currency, where
revenue from exports is received in foreign currency
where other income, such as royalties, interest, dividends etc, is received in foreign
currency

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CASE-2 THE JAPANESE FINANCIAL CRISIS

Financial deregulation in Japan started in the early 1970s, though measures were implemented on
a step-by-step basis. Meanwhile, the deposit insurance system was first established in 1971. In
1986, in line with the financial deregulation, the Deposit Insurance Law was revised. Under the
legislation, the Deposit Insurance Corporation (DIC) was provided with two policy options. One
was a payoff (or refund on deposit) in which a failed bank would be closed down and a depositor
would be protected up to Y10 million per depositor. The other option was called financial
assistance in which the DICs funds were transferred to the rescue bank upon assuming the
businesses from the failed bank, thereby protecting depositors and other creditors of the failed
bank. The reasons for Japanese financial crisis can be shown by the following chart;

Increase in
NPL

Heavily
Insufficient exposed to
provisioning the real
estate loan
Reasons of
the crisis

Exceeds loan
Declining real
concentratio
estate prices
n limit

Heavily exposed to the real estate loan was the main factor of Japanese crisis. Insufficient
provision, increase in NPLs, exceeding concentration limit, declining the value of real estate
caused the crisis in Japan. The impact of crisis are;
There was limited information on banks asset quality available for the public
The crisis shows primarily in loan losses (credit risk).
Till 2002, The total amount spent dealing with the problem of non-performing loans
(NPLs) Y102 trillion (20% of GDP).
Jusen companies & Nippon Credit Bank (NCB) shifted their lending towards real estate
loan & invest highly.
Public disclosure on NPLs was not existent before early 1990s,

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NPLS & PROVISION IN BNAGLADESH BANKING SECTORS

Non-performing loans is a concern for every bank. The non-performing loans are created for the
unethical behavior of borrowers something like the following picture;

The non-performing loans ratio in Bangladesh is high compared to the developed countries. The
following table shows that

PROVISIONS FOR NPLS IN BANGLADESH

Banking industry lenders generate revenue from the interest and expenses they receive from
lending products. Banks lend to a wide range of customers including consumers, small businesses
and large corporations. Lending standards and reporting requirements are constantly changing, and
constraints have been rigorously tightening since the height of the 2008 financial crisis. Improved
regulations for banks resulting from the Dodd-Frank Act have been focused on increasing the
standards for lending, which have required higher credit quality borrowers and also increased the
capital liquidity requirements for bank. Despite these improvements, banks still have to account
for loan defaults and expenses that occur as a result of lending. Loan loss provisions are a standard

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accounting adjustment made to a banks loan loss reserves included in the financial statements of
banks. Loan loss provisions are consistently made to incorporate changing projections for losses
from the banks lending products. While standards for lending have greatly improved, banks still
experience late loan payments and loan defaults. The provisions adequacy in Bangladesh of
different categories of banks are given below;

RISK MANAGEMENT SYST EM

To mitigate the risk of non-performing loans there are several strategies taken by the commercial
banks in Bangladesh. These are;

Know the Customer & Analyze financial Nonfinancial Risks factors

Structure the Deal & loan covenant checklist
Reviewing loan status, collateral and security documents
Provision requirement to reduce the risk exposure
Centralized procedure for loan approval
RISK MANAGEMENT IN BANGLADESH BY REGULATORY AUTHORITIES

The regulatory authority of banking sector in Bangladesh is Bangladesh bank. Bangladesh Bank
introduces some strategies to mitigate the risk of non-performing loans. These are;

Setting concentration limit

No bank can give loan to an applicant more than 10% of its risk weighted assets.

All bank should use the tools like Credit Risk Grading (CRG), Internal Risk Rating System

FIs should take adequate measures to test and develop a risk rating system prior to adopting
one.

Review the loan status, loan covenant and the deal of the loan

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CASE 3- THE NORWEGIAN BANKIN G CRISIS 1988 1992

Some features of the Norwegian banking crisis

First industrialized economy after WW II to suffer a

Systemic crisis.
Banks accounting for 60 pct. of bank lending needed support, 3 of the 4 largest banks
failed.
Happened after financial deregulation and a rapid boom.
Crisis resolved rapidly
No depositors lost money
Rapid economic recovery after crisis
Low resolution costs to the taxpayers.
THE SEQUENCE OF THE CRISIS

1984 1987: Financial deregulation and boom

1988 1990: Failures of small banks resolution mostly financed by banks own collective
guarantee funds

1991 1992: Systemic crisis, peak 1991 government intervention

1993: Crisis ended

MACROECONOMIC BACKGROUND
Old regulation regime collapses: deregulation of credit markets in 1984 to 1985
After deregulation huge growth in bank credit and domestic demand 1985 to 1986
Money market interest rate politically controlled until 1987
Fixed exchange rate regime since World War II
Sharp fall in oil price 1985, major export commodity
Capital outflow sterilized by unsecured lending from central bank to the bank sector
Need for consolidation during the late 1980s
Deepest recession since world war II
Fixed exchange rate regime caused procyclical monetary policy
High real interest rate during the recession
Norwegian krone depeged in Dec. 1992, interest rate down and macro recovery

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House prices Real prices (index 1997 = 100) Rental prices for office space. NOK per sq.m. 1980 1997

REGULATION AND SUPER VISION

Capital requirements were gradually eased prior to and after deregulation.
During liberalization on-site inspection scaled back in favor of document-based
inspections.
After deregulation the Financial Supervisory
Authority had problems recruiting experts.
Bank behavior right after deregulation:

Little or no experience with competitive credit markets

New breed of bankers, sales oriented not credit risk oriented
Aggressive marketing
Herd behavior
Results of the Norwegian crisis resolution

Crisis over by 1993

No depositors lost money
No money market lenders lost money (with a few exceptions at a small bank before the
systemic crisis)
Avoided run and severe credit crunch
Low fiscal costs Net fiscal costs (discounted) end 1993: 0.8% of
GDP.

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LESSONS LEARNED

Causes

Macroeconomic boom, procyclical monetary policy

Financial deregulation
Weakened capital requirements
Weak supervision
Resolution

Focus on saving the system, not the individual bank

Owners first in line to take losses
Board and senior management of failed banks to be changed
Blanket creditor guarantees not necessary

RELEVANCY OF THE CRISIS IN BANGLADESH

Bangladesh has very low probability to experience the crisis similar to Norways banking industry.
The following factors have been identified to clarify the reasons of irrelevancy of the crisis-

Structure of the banking industry: In 1987 the Norwegian banking industry consisted of 193
domestic banks, of which 132 had total assets of less than US$100 million each. There were
eight subsidiaries of foreign banks, with a combined market share for bank credit of only 0.5%.
Only two commercial banks were operating nationwide with a combined market share of 27
per cent. So, the failure of the large two banks had an excessive impact on the overall industry.
Unlike Norway, Banking industry in Bangladesh is not much concentrated which lowers the
likelihood of such a crisis or if happens the impact will not be huge.

Inflation rate: A reason of boom of Bank loan in Norway was prevailing high inflation rate
which lowered the real interest rate. Bangladesh is not exposed to the risk as the possibility of
dropping the interest rate to negative is too minimal; because the inflation rate, though once
too high is gradually decreasing over the time.

Legal Reforms and Prudential Regulations: As part of the ongoing efforts to strengthen the
banking system through the adoption of policies, several policy measures were initiated during
FY09. With a view to strengthening the capital base of banks and making them prepared for
the implementation of Basel II accord, banks are required to maintain a ratio of capital to risk
weighted assets of not less than 10 percent with at least 5 percent in core capital effective from
31 December 2007. And proposed Basel III regulation of BCBS will be implemented for
banks in Bangladesh from 2019 which will increase the strength of capital and reduce credit
risk.

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 Supervision of Banks: With a view to promoting and maintaining soundness, solvency and
systematic stability of the financial sector as well as protection of depositors interest, BB
carries out two types of supervision namely (i) off-site supervision and on-site supervision.
Department of Off-site Supervision (DOS) is responsible to conduct offsite supervision of
banks. Basically, two types of on-site inspections are conducted namely (i) comprehensive
inspection, and (ii) special inspection.

CREDIT RISK SCENARIOS IN BANGLADESH

State Owned Bank

Bank Number of defaulters Rebate

Sonali Bank 6,468 17 billion
Janata Bank 4,456 18 billion
Agrani Bank 8,557 5 billion
Rupali Bank 3,886 3 billion
Total in default loans Tk 244 billion and only Tk 13.21 billion could be recovered.

Specialized Bank

Bank Rebate
Krishi Bank 530 million
Bangladesh Development Bank Tk 1.8 billion
Rajshahi Krishi Unnayan Bank Tk 184 million
Basic Bank 147 million
Total Number of defaulters 18,824

Private Commercial Bank:

Private Banks reported 76,331 defaulters.

Foreign Commercial Bank:

Foreign Banks reported 10,252 defaulters.

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ACTIONS AS A RISK ANALYST IF THIS CRISIS HITS THE BANKING IND USTRY OF BANGLADESH

Establishment of Government guarantee fund: The Bangladesh Bank should provide liquidity
support on an individual basis. This can be done by establishing guarantee fund by government
to provide capital to distressed banks. The guarantee funds would have a wide mandate, i.e.
beyond paying out depositors at failed institutions they could infuse capital into member banks
and issue guarantees against the portfolio of a member institution. For the acquiring bank to
agree, the guarantee fund of the distressed bank may issue guarantees regarding some of the
bank's portfolio, issue a specific equity guarantee for the bank, and/or in connection with
mergers infused capital, to cover negative net worth of the failed bank.

On-site inspections: The number of on-site inspections should be increased dramatically as

signs of a crisis emerged. Inspection of banking companies is assigned on BB under article 7A
(f) of the Bangladesh Bank Order 1972 and section 44 of the Banking Companies Act 1991. It
should be implemented strictly to ensure to ensure safety, stability and discipline in banking
sector, to ensure compliance of banking laws, rules and regulations, to evaluate quality and
performance of bank management and Board of Directors, to identify weaknesses which are
to be addressed to strengthen the banks and to evaluate financial soundness and operational
efficiency of the banks so that the unsecured bad loan cannot be granted by the banks

Strengthen the Banking, Insurance and Securities Commission: Strengthen the Banking,
Insurance and Securities Commission by devoting more resources to it. The Commission
would closely monitor macroeconomic conditions, and exchange of information with the
central bank would be strongly improved.

No bad banks: Not to establish a separate bad bank to handle the failed banks problem
loans. The reason is, bad bank would have to be completely financed by government,
particularly given the extremely low supply of risk capital during the crisis. Thus, more
taxpayers money than that already infused as equity into the troubled banks would have had
to be put at risk.

Writing down share for losses: If the general meeting of shareholders in a bank with huge
losses refuses to write down the existing shares according to the losses, the government may
get a legal mandate to write them down.

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 To strengthen the supervisory and monitoring functions of Bangladesh Bank so as to
discipline banks that engage in malpractice.
Pushing to improve corporate governance practices in banking industry
To measure how well a credit policy and guidelines, operating procedures, central banks
directives and credit practices are being followed, internal credit audit should be
implemented
Capital Adequacy Requirements Strengthened by Enforcing Basel Framework. Mandatory
requirement of 10 percent capital adequacy requirement has been enforced as per Basel-II.
Paying greater attention on the evaluation of Banks internal audit program
Wheatear Adequate NPL provision are maintained for all banks.
New legal and special investigations units being created within the BB
Better training of supervisors to enhance their alertness of fraud or malpractice.

Though not have much possibility, if the similar crisis like Norway arises in Bangladesh banking
industry, we would take the above mentioned measures as a risk analyst to resolve the crisis and
to facilitate building a stable, resilient banking system and economy as well.

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CASE-4 BANK FAILURES IN SPAIN

Regulatory rigidity distinguished the characteristics of banking sector of Spain during and prior to
1960s. Fixed (with maximum and minimum limit) interest rate, mandatory investment proportion
in govt. debt, strict regulation on branch opening, freezing of the new license, oligopolistic
competition, entry restriction for foreign banks- all these issues were in practice. After 1962,
regulations were eased. Issuing new license, opening new branch encouraged by extraordinary
profit added new dimension to the Spanish market. A number of new banks got permission and
several new branches were established. The 1978-1983 crisis which can be identified as the result
of three main reasons affected around half of the commercial banks.

The first factor is economic crisis which was the result of change in policy decision, rise in price
of energy and wage increase because of increased trade union pressure. There was an increase in
inflation and cost for firms, decrease in sale, profit and investment- thus an increase in
unemployment. The expansion of the 1960s, based on the intensive use of labour and cheap energy
came to an end.

Poor Bank Management was the second reason behind the crisis. Defective lending policy led to
increase in doubtful and default asset. To handle it, banks refinanced the default loan with accrued
interest with new principal. Share repurchase was done by banks to protect the fall of share price.
Some banks revised their accounting practice as cash basis for expense and accrual basis for
recording income. Fraud occurred. In most of the banks where funds were diverted to the business
of managers or large shareholders.

Lack of regulation was another reason. There was no requirement (experience and integrity were
assumed) when giving license for new banks. No active regulation on doubtful asset provisioning
was in practice. The Banco de Espaa,- the body responsible for supervising the Spanish banking
system was found to be inefficient to regulate. Thus credit risk, liquidity and operational risk were
high.

An Ad hoc vehicle Corporation Bancaria was formed which took control of the insolvent bank,
valued the actual losses, reduced capital to zero and then sold the banks at book value. Rumasa
which was a holding company with 20 banks and 300 plus non-financial corporations was

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nationalized. In later period it was sold separately. There was a large change in regulation in
response to the crisis. New definition of CAR was formed. New regulation on loan categorization
and provisioning was imposed. Internal control system was emphasized.

BANGLADESH PERSPECTI VE

Our observation on the banking sector crisis of Spain is much similar to Bangladesh especially in
State Owned Specialized banks for example Basic bank. Agrani bank has also been found likely.

The countrys six state-owned commercial banks (SOCBs) control around one-quarter of all bank
assets in the country but have an outsize influence on the economy thanks to their connections to
the government. For example, SOCBs have extremely high rates of nonperforming loans,
according to the I.M.F., and the average for the entire banking industry is very high: about 11
percent, compared with about 4 percent in advanced economies. Part of the explanation for this is
poor governance by the banks boards, but the main culprit is the countrys culture of patronage.

Basic Bank Scandal

Taking out loans with forged documents is so easy in Bangladesh that fraudsters don't want to miss
out on any opportunity. The issue has come to focus again with a recent scam at Basic Bank that
approved loans of Tk 4,500 crore, mostly without proper documents and scrutiny. The bank's board
and top management were found to have helped the culprits steal the money. A Bangladesh Bank
inspection found many irregularities in four branches of state-owned Basic Bank -- Motijheel,
Shantinagar, Dilkusha and Gulshan branches -- that involved loans of nearly Tk 4,424.93 crore
between December 2009 and November 2012. Of the amount, Tk 1,594.73 crore was given by the
Gulshan branch, and majority of the loans was issued without proper scrutiny. The bank gave loans
to nonexistent companies and promptly approved loans to clients instantly after they had opened
accounts. Moreover, the bank's board sanctioned loans before the branch sent the proposal to the
bank headquarters.

Though the bank's top management had been aware that many borrowers diverted their funds at
will, it did not take any action. In violation of banking rules, the state-run bank showed interests
as income against many loans that had not been paid.

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Though Bangladesh Bank first came to know about massive irregularities in Basic Bank in
September 2011, it did not take any regulatory action against the people responsible. The central
bank signed a memorandum of understanding with the troubled bank, which some senior central
bankers view as a move to spare the culprits. Abu Hena Md Razi Hasan, deputy governor of BB,
told The Daily Star that the banking company laws prevented them from taking any action against
the board or the managing director of state-owned banks.

The central bank found clear involvement of the board of directors in the loan scam of AB Trade
Link. The board approved the loan on September 6, six days before the bank's branch concerned
sent AB Trade Link's proposal to the head office on September 12, 2011. But no follow up action
was taken and the loan scams continued to such a huge extent. But it was slowed down by
intervention from powerful quarters, the sources said

Effects

The bank had fallen into a provision deficit of Tk2.1 billion as on December 31 2012, to adjust
which its capital shortage would stand at around Tk1.39 billion. According to banking rules, the
shortage could be adjusted first from the banks income, and then if the income amount is
exhausted from its capital.

An inspection of the Bangladesh Bank ordered by Governor Atiur Rahman found that the BASIC
Banks provision as on December 31 2012 should have been Tk4.42 billion against loans and
advances of Tk85.95 billion. However, the bank kept only Tk2.32 billion as provision.

The central bank governor instructed the BASIC Bank to adjust the shortage but it could not fulfill.
Activities of desperate loan disbursement at several branches of the bank, which constituted the
majority debt, and weak management were mainly responsible for the current ailing situation of
the BASIC Bank, the Bangladesh Bank report.

After four years of remaining silence, the Anti-Corruption Commission (ACC) has suddenly
become lauded over the Tk 4,500 crore loan scam of state-owned specialised financial institution
Basic bank. The ACC investigation team submitted its report on BASIC Bank loan scam to the
commission on Tuesday, recommending filing cases against 56 people, excluding the bank`s then
chairman. The accused 56 people include Basic Bank officials as well as chief executives and

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managing directors of the organizations involved in the scam. ACC has so far changed three
officers on BASIC Bank inquiry. For this, none of them was able to prepare a probe report, and
the commission has nothing in hand to disclose publicly or take action.

Agrani Bank LTD

The central bank expressed concern over the financial health of the state-owned Agrani Bank after
it found a concentration of credit by fewer branches of the bank. It also asked the bank authorities
to immediately shape-up the credit concentration through an effective portfolio credit management
the warning that any failure in this regard could increase the tide of its bad loans.

A lax credit management has led to higher loan concentration by fewer branches of Agrani Bank.
This has seriously affected the bank's financial performance .Besides, the bank hid the large
amount of provision shortfall amounting to Tk 1,020 crore in last year as it informed the central
bank that there was no provision shortfall in the bank. The BB asked the state-owned bank to
calculate the recently unearthed defaulted loans and provision shortfall on the basis of its financial
position. Every bank has to keep 20 per cent provision against their classified sub-standard loans,
50 per cent against defaulted doubtful loans, and 100 per cent provision against defaulted bad
loans.

Besides, banks have to keep provision between 0.50 per cent and 5 per cent against their regular
loans and special mention category loans to ensure a sound financial health.

FROM BANKS PERSPECT IVE:

Foreign Banks

Foreign banks generally do not invest blindly without judging the pros and cons. Thus, default rate
is relatively lower than local commercial banks. But, if our economy faces some severe situation
like one in Spain, it will be very difficult to tackle successfully. In case of foreign bank, these
disorders can be avoided by strictly taking some rules and regulation in practice.

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National Commercial Bank and Private Commercial Bank

Following steps will make the situation better if we can consider

Credit worthiness must be evaluated before providing loans

Further loan should not be provided to the borrowers already defaulted
Should be much more careful while sectioning loan to the stake holders.
Specialized Banks

From the view point of specialized banks, the following steps should be taken

Proper implementation of regulation

Evaluation of management skill
Diversification should be emphasized while loan sanctioning
From Country's perspective

Our economy needs to be well furnished with transparency in business and financial information
should be available. As a financial manager, I think anybody would like to

Risk Management Process

Policies, processes and procedures concerning the review, treatment and resolution of non-
compliance issues.

Separating loan assessment & loan authorization body.

Assess the quality and appropriateness of actions taken by the senior management.

Off-site supervision & On-site supervision

Document verification & multi-stage authorization for sanctioning loan & selling banks property

Decentralized or branch level decision making process

Sale & purchase of Property for the bank must be documented appropriately

Adequate provision, capital & reserve to get ready for any future operational risk.

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Case 5- What crisis happened in Sweden
Before 1980, there were a lot of restrictions on the financial sector. The interest rate, amount of
lending, foreign exchange transactions etc. were restricted. Moreover, foreign banks were not
allowed to operate within the country. So, new banks began to enter in the market to skip the
regulatory part. Non-bank financial institutions were arranging loans as they were not taking any
deposit and were not regulated heavily. This regulatory strictness worked until 1985 and foreign
exchange was restricted until 1989. The banks were not managing their risks at all. For high level
of risk, they were required to keep a capital of 8% only. Moreover, the level of inflation was
increasing in the country. As the country was maintaining fixed exchange rate system, it
experienced devaluation due to higher inflation. Tax rate was saving borrowings, lending was
becoming less restricted, credit demand was higher. Ultimately, the interest rate (nominal) was
higher. On that time, banks began to provide real estate loan as it was the prominent and boosting
sector of all. People were arranging for collaterals to ensure the safety and backup for loans. So,
the value of collaterals was increasing as well as the asset prices. As the foreign transaction was
opened from 1989, people started to take loans in foreign currency. So, all financial institutions
fell in liquidity crisis. Apparently, banks also found people not paying their dues which led to
credit risk for the country.

The crisis began to take place in 1990 with the lower economic growth. Rents were falling in city
areas and the demand of the premises was also falling. With the lower prices, inflation rate was
falling too. As a part of govts anti-inflationary policy, interest rate was going higher. Government
also provided tax incentives to increase savings. The growth rate was apparently decreasing. These
changes affected financial institutions badly. They were losing their customers, especially loan
seekers of real estate. They couldnt even collect the due amounts. Apparently, this had leaded
them towards credit loss. Their sister concerns, finance companies began to fail due to lower real
estate prices. Moreover, the currency crisis in Europe had made the situation worst. Banks like,
Riksbank increased short term interest rate to attract lenders but all in vain. Liquidity crisis were
increasing and krona depreciated again by 20%. Bankruptcy was all around as loan repayment
from the borrowers were increasing.

In such devastating situation, government entered in the scenario. It reconstructed the banks and
FIs and issued a guarantee for the timely payment. Government appointed BSA (Bank Support

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Authority) to take care of the reconstruction in 1992. BSA had analyzed every application to bank
supports and taken decisions regarding the reconstruction. It introduced some laws for supporting
banks. It had authority to buy or sell any banks shares after valuating it. Even if BSA would not
support a certain bank, the valuation would remain the same. So, no fraudulent was taking place.
Moreover, BSA introduced another concern of it to take care of bad assets and loans to maintain
liquidity. The government also changed the fixed exchange rate policy into floating one.
Accumulating all the steps had liquidated the crisis in just 4 years which was incredible. From
1994, the regulations became stricter for banks regarding risk management. For the supervision of
risk management, the Govt established SFSA (Swedish Financial Supervisory Authority) which
increased the regulatory assets in the banks with focusing on risk management. The establishment
of daughter concerns was restricted and a framework had been designed for fighting against future
crises. Banks were instructed to keep provisions for solidity, liquidity, risk management,
transparency etc. The need for capital to keep was also designed by the SFSA. When the crisis
over, BSA transformed into DIA (Deposit Insurance Agency) which had increased the level of
savings in the country to prevent another crisis.

Possibility of such crisis in Bangladesh

The main reasons behind the crisis in Sweden were:

1. Less supervision on risk management

2. Lower incentives to save. Saving was not encouraged as the tax was supportive to
borrowers and interest rate was restrictive.
3. Fixed exchange rate which caused devaluation in 1981 and 1982. This had lead to lower
payment for the borrowers in foreign currency. This has induced borrowing in foreign
currency.
4. Loan concentration in one sector, real estate. As being the only booming sector, it attracted
lenders to lend even with higher risk. Huge loan concentration has led towards a possibility
of credit risk of people.
5. Lower capital requirement for the risky assets. The lower capital requirement had led
towards less risk management in the banking sector of the country.

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The problems associated with crises
In Bangladesh, such crisis may take place. With such crisis, the country, especially the banking
sector of the country will be affected. Mainly, different risks like liquidity, credit, concentration
etc. and real estate bubble will arise.

Real estate demand

In Bangladesh, the real estate loan demand was increasing from 2002. Until 2012, the demand was
quite higher that the growth rate was almost close to 5% growth rate where the GDP rate was 6.1%.
With newly found wealth and rising purchasing power, people started to buy plots and apartments
in the 2000s, channeling their incomes into the sector.

Figure: Growth rate in real estate sector of Bangladesh

As a result, real estate underwent a boom that reached its peak in 2009-10. Attracted by the boom,
100 new firms entered the industry and sparked unhealthy competition. Many of these new entrants
took up expensive projects, a lot of which were even sold. But the bubble surpassed its sustainable
limit, which leads to its inevitable burst come 2012. As a result, sales have dropped by between
30-50% in the 2012 to 2015. Because of the slowdown, developers have cut down projects and a
huge number of apartments have remained unsold. The number of unsold apartments multiplied
by four times, from 3,018 units in 2010 to 12,185 units in 2014, according to the Real Estate &
Housing Association of Bangladesh (REHAB), the industry lobby group. At present, the number
stands at about 10,000 flats unsold.

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 Year Unsold flats
2010 3018 units
Such lower 2014 12,185 demand
of flats and plots 2016 10,000 would
lead to lower demand of real estate loans. Loans provided by Mercantile banks, National bank,
Standard Bank, Bank Al-Falah etc. had led to a real estate bubble in the industry. Lower rate and
easy terns had led borrowers to take loans from their favorite banks with favorable terms and
conditions.

Figure: Apartment prices in Dhaka

Average price of per square feet in Dhaka was also becoming higher until 2012. Then it was falling
consecutively. This can indicate a real estate bubble in the country which can lead to a crisis for
the country.

Credit risk
The credit risk will arise with such crisis. With the easy real estate bubble, borrowers mainly with
high credit will tend to default. Higher demand for loans will lead to overconfidence among the
banks. Now banks of all kinds have become quite clumsy in risk management. They are providing
loans without the proper analysis. Even many nationalized banks are providing loans borrowing
from the private commercials. For example: In December 2015, Janata Bank acquired a loan of
Tk142 crore for Habib Hotel International owned by Alam Ahmed from National Bank. The

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company had tried to take loan from the Sonali Bank with its high lobbying but in vain. The
privately owned National Bank approved the Tk180 crore loan in 2013, but refused to extend the
loan when the borrower tried to revise up the cost of the project. A Bangladesh Bank investigation
in 2014 found that the bank had breached regulations in granting the Tk180 crore loan and a large
portion of it was diversified later on to an account named Tilottoma Life Style, International
Television Channel and Little Builders Limited. Investigators suggested that the

bank should recover its money or classify the loan account. Following the investigation, National
Bank refused to release money beyond the Tk142 crore that had already been issued. Janata Bank
has issued the loan even though the borrower is a risky one. This loan has been cleared by
Bangladeh Bank when Janata Bank was unable to repay it. Centralization of loans without the
analysis of risk of the borrower can lead to credit risk which has happened in the country. Most of
the banks like: Sonali Bank, Janata Bank, National Bank, newly introduced banks like Modhumoti
etc. are facing defaults of loans.

From the graph, it is evident that from 2012 the loan default is increasing. This default is increasing
due to less management of risk factors, lobbying of loan defaulters for loans, relativism etc. This
is leading towards credit risk and the crisis can default many other banks.

Figure: Default trend in Bangladesh

Liquidity risk
The default risk will lead the country towards the liquidity risk in banking sector of Bangladesh.
As the crisis will come with an inflation, higher interest rates and failures of customers to pay due

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amount, banks will find a crisis in liquidity. They have to endorse checks to the customers when
they come. When the crisis will take place, people will become frightened about their money. They
will try to withdraw money within a very short time. In one hand, customers will withdraw money
and in the other hand borrowers are unable to pay the dues. This will create a liquidity demand
among banks and they will try to borrow from each other. Such liquidity shortage can make the
banks unable to fulfill customers demands. So, the banks will face liquidity crisis.

Figure: Non-performing loans and liquidity burden in Bangladesh

In Bangladesh, liquidity crisis could be a possible problem due to other factors stated above. But
the real picture says different. In Bangladesh, most of the banks are burdened with huge amount
of liquid assets. The excess liquidity increased by Tk240bn or 40% during January-September
period of the current year and stood at Tk840bn from Tk600bn in January, according to the
Bangladesh Bank data. Moreover, the credit growth of the banks was 13.39% in January with
surplus liquidity of Tk600bn, followed by 10.29% growth in March with Tk660bn in excess
liquidity. The growth was 8.97% in June when the liquidity was Tk790bn and 7.40% in September
as the liquidity rose to Tk840bn. For such, it is possible that the banks will reduce the liquidity
risk by significant amount though there is a burden of unutilized liquidity.

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Figure: Liquidity position of banking sector of Bangladesh (Dhaka Tribune, 2013)

Low growth of the country

Any crisis in economy always brings some major change in country. For example: change in
growth rate drastically. In Sweden after the devaluation of currency for 2 times, growth rate was
decreasing. After 1990, the growth rate just fall a lot. This had led to an economic downturn very
quickly.

Figure: GDP growth rate in Bangladesh

In Bangladesh currently growth rate is quite high. In last 10 years, the growth rate had not fall
lower than 5%. Such high growth rate is coming from different sectors like agriculture, garments
and others manufacturing based sector. The contribution of remittance is also a lot. But new
investments in Bangladesh are not increasing. For example: SME loans provided by banks are

32 | P a g e
decreasing. Banks are concentrating their loans in few sectors only. For such, new entrepreneurs
are being sidelined rather than loans. This situation has a heavy impact on growth rate. If loans on
potential sectors decline, banks will have less to do. Their defaulters on loans will increase and
profitability of banks will decline. Disaster in one money controlling sector in economy can lead
to greater disaster in economy. Moreover, fewer loans on potential sectors will make entrepreneurs
to move from such sector. For example: from agricultural sector. So, the emerging growth in such
sectors will stop and the growth rate will decline. Ultimately, recession will take place.

Figure: SME loan distribution declining in 2010-2013

Market risk
This refers to the risk that adverse changes in market variables like inflation, share prices,
unemployment, market perception etc. might adversely affect the value of a financial institutions
assets and liabilities. This market risk is quite evident in Sweden. From 1980, inflation was going
higher that the property prices gone up a lot.

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 Figure: Inflation in Sweden from 1956-2012

From 1970, the prices were going up. The country had to devalue its currency twice within 1980
to 1982. Such inflation and devaluation was concentrating loans in the prominent sector only, real
estate. So, other sectors were just lagging behind. Such loan concentration can also happen in
Bangladesh. In here, with a high inflation, banks can experience a reduction in level of savings in
banks. Moreover, demand for credit or loans will increase. Such loan demands can pose a threat
to the country with risky exposure.

In addition to the above specific factors, the banking crises worldwide was also fuelled by
inadequate banking regulation, ineffective banks management and external shocks such as rise in
oil price, war, international sanctions.

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What banks should do
When the crisis like Sweden takes place, banks and govt should take different positions. Moreover,
banks should take proper measures to prevent the effect of such crisis. Different category banks
can take the following measures:

Commercial Banks
To protect the economy, govt in such case should establish a separate body to regulate and
supervise banks other than the Bangladesh Bank. Such entity will analyze the banks; will support
them to issue capital and to determine the true price of company shares. With such, failing
commercial banks will perform better. In Bangladesh, commercial banks can undertake following
measures:

Reconstruction of loans
Private commercial banks, to reduce the risk exposure should diversify their loans. Depending
only real estate sector can bring crisis in a drastic way. Concentrating loans in different sectors,
especially manufacturing and potential ones like: SME, agricultural, tannery etc. can reduce the
effect of bubble and liquidity burden in economy.

Provisions and supervision

Banks in Bangladesh are now becoming less supervised. Bangladesh Bank is providing proper
guidelines for every sector but banks are not following them strictly. For such, loan default is
increasing.

Figure: Default loans in Bangladesh

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To reduce such loan defaults, banks should supervise their NPLs properly. Such defaults mainly
come from big shots in the country. To save the banks from huge default, loan amount in each
borrower should be specified. For example: 1-2% of risky capital in each borrower maximum.
Proper supervision and establishment of new regulatory bodies can reduce the NPL level and
defaults from banks.

Public Commercial Banks

PCBs like: Agrani Bank, Sonali Bank are mostly affected due to the crisis as they are quite
vulnerable right now. For different kinds of risks arising like: liquidity burden, market risk, credit
risk etc. PCBs need to allot their loans in diversified way. Their concentration of loans to limited
people should be limited. For the mortgage of loans, a proper limit should be followed.

Figure: Risk management in PCBs

Separate credit and risk management department can help a lot in this case. With such department,
any official cannot pressurize the banks to give an extended loan to a loan defaulter. Moreover,
supervision will be enhanced. So failure of loan will reduce.

Specialized Banks
Specialized banks in Bangladesh also should try to supervise its loans properly. To reduce the
heavy liquidity burden, they should extend the loans in SME sector which is still unutilized. Such
extension can reduce the liquidity burden of banks. Moreover stronger corporate ethics should be
ensured, politically appointed Board of Directors and MDs should be reduced etc.

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Case-6 what crisis happened in Switzerland
Swiss banks failed in the 1990s due to domestic loan losses owing to NPLs and sudden fall in real
estate prices and collateral values.

Total mortgage amount and growth surpassed real estate prices which were on the rise since 1980s,
but those declined sharply from 1991. Collateral no longer covered mortgage amount and bank
customers shifted to regular bonds, equities or mutual funds instead of savings deposits, central
mortgage bonds and bank-issued medium term notes which were used to finance mortgages. The
loan loss reported by Swiss Federal Banking Commission (SFBC) was CHF 42 Billion, roughly
8.5% of total loan. The Cantonal and Regional Swiss banks, because they focused on domestic
loan, suffered the most while Big Banks survived through well-diversified portfolios and
Raiffeisen banks didnt have any NPL problems.

SFBC solved the banking crisis through closing insolvent banks, organizing takeovers by a task
force, persuading banks to merge with stronger partners, organizing government and regional
financial assistance etc. SFBC introduced an Early Information System in 1997 and SNB (Swiss
National Bank) created a Systematic Stability Division in 2001 to prevent such crises in the future.
Together they coordinated statistical data collection and important bank ratios. A new bank
insolvency law was passed in 2003 to give better protection to small depositors and make the
liquidation more efficient and restructuring process more successful.

Possibility of such crisis in Bangladesh

With all the following incidents, it is possible that the crisis can take place:

1. Less supervision on risk management

2. Higher inflation rate over the years
3. Increase in growth rate in abnormal level over the years
4. Loan concentration in one sector, real estate. As being the only booming sector, it attracted
lenders to lend even with higher risk. Huge loan concentration has led towards a possibility
of credit risk of people.
5. Mortgage backed loans in real estate sector. Such loans can default in time with a single
price movement in mortgage. So, the crisis can change the fate of banking sector, especially
of small banks.

37 | P a g e
The problems associated with crises

Price index change in real estate

Swiss banks were concentrating their loans on few sectors, especially the real estate. With such
concentration, change in price of such assets had a drastic impact on the banks. In Switzerland real
estate prices rose sharply in the 1980s and peaked in 1989 or early in the 1990s (depending on the
sub-index). In the 1990s, prices declined again to levels that had been reached in the mid-1980s.
As prices sank, the traded volume also plunged. Moreover, the real estate crisis was part of a
broader macroeconomic boom and bust period in Switzerland. The whole economy showed high
growth rates in the 1980s, followed by an unusually long recession in the 1990s, which led to high
unemployment rates and impaired the health of the Swiss banking system.

Figure: price index in Switzerland over the years

Banks were financing real estate with mortgages. Historically, real and nominal mortgage rates
have been low in Switzerland. Until the end of the 1970s, this was partly explained by the policy
of the SNB to control interest rates of bank-issued medium-term notes and, therefore, indirectly of
mortgage rates. However, in 1981, interest rate controls were abolished. Due to a shortage of land
and high construction costs, real estate prices have risen at a rate of 10% per year on average since
1960. This increase accelerated temporarily in the late 1980s. Swiss zoning laws further led to a
shortage of land to build on. So price of real estate assets were to fall.

High lending limit

In Switzerland, the lending to borrowers was quite high. The banks did not use any specific limit
in specific sectors. For such, when recession occurred, banks with less diversified assets lost huge

38 | P a g e
capital. Due to recession in 1990 the big banks earned sufficient profits out of their other businesses
to cover the losses on their domestic loans. They were strong enough to write off the non-
performing loans quickly. In contrast, the regional and cantonal banks, which focused on the
domestic loan business, suffered most from the banking crisis in the 1990s. High lending limit
caused many strong firms to stop their operation.

What banks should do

When the crisis like Switzerland takes place, banks and govt should take different positions.
Moreover, banks should take proper measures to prevent the effect of such crisis. Different
category banks can take the following measures:

Private commercial, National commercial and specialized banks

Borrower and collateral Analysis: The evaluation process of a borrower's income sources
and credit history, mortgage collateral value and validity, financial stability, credit ratings etc.
should be considered more rigorously before home loans are granted. Such analysis can be
done using CIB report, reputation and branding of companies, liquidity of mortgage and other
factors. On the basis of such analysis, a limited amount of loan should be provided.
Diversified investment: To prevent any unwanted losses in their financial statements, banks
should diversify their investment in different portfolio. It is better to invest in international
bonds or stocks. Such diversification can reduce the effect of losses on banks when crises arise.
Financial Assistance: Just like regional banking crisis in Switzerland was settled through
government financial assistance, future real estate price or collateral value problems and the
subsequent bank runs might be solved in the same way.
Coordinated Statistical Database: Just as SFBC & SNB collaborated to get a sound
information system and statistical database of Balance Sheet ratios, Profit & Loss and Off-
Balance Sheet (OBS) activities of banks regarding real estate sector.
Foreign banks
Foreign banks in Bangladesh are less affected when any crisis arises. For this, they are quite saved
from the recession or any other change in the economy. Still they should diversify their portfolio
in international era to reduce any effect of crisis such as Switzerland.

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CASE 7- BANK FAILURES IN UK

UK market experienced bank failures from 1990-1995 due to recession, widespread fraud and
individual fraud.

1. The Bank of Credit and Commerce International (BCCI) failed in July 1991 because of
widespread fraud

The reasons of BCCI failed in July 1991 are-

i. Showing falsified growth
ii. Making fake loans to generate profits
iii. Concealed lending losses
iv. Using of depositors money for proprietary trading
v. Making complex group structure that made IML (Institut Monetaire Luxembourgeois)
and BOE (Bank of England) unable to supervise and audit it on a consolidated basis.
vi. Untrue financial health reflected by their financial statements also gave false capital
ratios, which misled investors.

2. Small banks were heavily exposed to property lending and had rapid loan growth and
practiced excessive risky lending. During economic downturn of early 1990s, they were
pressurized on both sides of Balance Sheet. Property market declined to affect banks asset quality
and collateral values, foreign banks lost confidence and reduced sterling claims on UK banks,
many withdrew deposits from small banks and BOEs announcement to close down BCCI signaled
that even large banks were allowed to fail.

The small banks crisis were an example of:

i. how cyclical credit losses, run on deposits and erosion of high capital ratios could have
a contagious effect on the banking system.
ii. Undiversified or specialized lending and funding and heavy concentration on one type
can leave banks vulnerable to shocks
iii. rapid growth in loan may be a sign of excessive risk-taking or may result in a rise of
NPLs.

In short, The UK small banks crisis was a situation in which banks with relatively undiversified
loan portfolios experienced cyclical credit losses and a run on their deposits. It provides an example

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of how high capital ratios can be eroded within one or two years. Indeed the small UK banks that
would subsequently fail were well capitalized in June 1991, as most had risk weighted capital
ratios well above the 8% Basel minimum.

3. Barings Bank, which failed in 1995 because of fraud by one individual. Here the operational risk owing
to fraud by a single person, combined with market risk and weak, uncoordinated, and complicated
management and internal control systems threatened a large-scale banking collapse. Lesson took
increasingly risky and large trading positions in Singapore and Japans derivative and stock
markets which went undetected for a long time.

FRAUD AND IT CRIMES IN BANKING INDUSTRY: TH E CASE OF BANGLADESH

The state-owned Sonali Bank has written off the loans embezzled by the Hallmark Group, as there
is no hope of getting the money back. The executive committee of Sonali Bank recently approved
a proposal to write off a Tk2,086 crore loan in favor of 23 clients, including the scam-hit Hallmark.
Apart from Hallmark, the committee has also written off the bad loans of 13 other clients from
various branches of the bank. Of the loan amount, around Tk1,700 crore has been written off
against the loans of the Hallmark Group from the Ruposhi Bangla Hotel branch, and 13 other
clients from other branches. The approval came at the 35th EC meeting of Sonali Bank. The board
made the decision at a time when the bank is running with a capital shortfall of Tk394 crore.
Expressing concern over the large loan write off, Bangladesh Bank has undertaken a move to check
whether the required provisions were followed before writing off the loans. The BB investigation
had earlier found that Sonali Bank's Ruposhi Bangla Hotel branch lent the Hallmark Group and
five other companies Tk3,547 crore between 2010 and 2012, using fake documents. Of the
Tk3,547 crore, the Hallmark Group alone swindled Tk2,686.14 crore. Later on, Sonali Bank filed
cases against Hallmark Group as it failed to get buyers for the mortgaged assets of the company.
The bank fell into capital shortfall, while the large loans, taken through irregularities, went into
default. Then, the government injected around Tk2,000 crore in 2013, and Tk710 crore in 2014,
for the survival of the bank. However, despite large loans being written off, the bank showed high
profits in 2014. In fact, the bank bagged an operating profit of Tk855 crore and net profit of Tk492
crore. The actual profits of the bank could be ascertained just after the visit of the Bangladesh
Bank investigation team, said a BB review report on Sonali Bank. The bank also showed that

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capital shortfall was reduced to Tk394 crore last year, after the recapitalization of large amounts
by the government, from Tk895 crore in 2013, but this figure might be higher than the bank's claim
after the investigation was carried out by the central bank, said the BB report. Sonali Bank has
written off loans worth Tk2,946 crore during the last year and rescheduled loans of total Tk2,756
crore in 2013 and 2014. The bank's default loan rate came down to 28.54% last December due to
the rescheduling and writing off of large loans. It could have even crossed 40% had there been no
rescheduling and writing off, said Bangladesh Bank in its review report. The position of the state-
owned bank slipped to five from its previous marginal level of four, in its CAMELS rating during
last year as the bank's financial health was considered unsatisfactory.

Reason and How the Hallmark-Sonali Bank loan fraud occurred:

Hallmark is accused of establishing fictitious companies, such as Anwara Spinning Mills, Max
Spinning Mills, Star Spinning Mills, which were shown as recipients of the LCs. These
companies submitted falsified paperwork reporting deliveries of fabric to Hallmark, which were
then paid for by the LCs from Sonali Banks Ruposhi Bangla branch.

Because the fictitious companies and Hallmark had their accounts at the Ruposhi Bangla branch,
on paper it looked like the branchs assets and liabilities were balanced out.

Another financial practice, known as Inland Bill Purchases, was then used to spread some of the
bad loans throughout the banking system. Because the still outstanding LCs were guaranteed by
Sonali Bank, the fictitious textile companies were able to sell the LCs to other banks before
maturity at a discounted price. As such, portions of the bad loans were passed on to 27 other banks.

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Recovery: How the Hallmark-Sonali Bank loan fraud was resolved

One major concern is recovery of the lost money, which, to put the amount in perspective, is
equivalent to 17% of the governments education budget. According to the findings of a
parliamentary committee probe, of the Tk. 26.86 billion loaned to Hallmark, only about Tk. 4
billion was actually invested and the remaining amount could not be traced.

Sonali Bank now confronts serious financial and leadership challenges. It had to cancel a Tk. 800
million loan in fall due to financial shortfalls, and it has had to borrow heavily from other banks
to stay afloat.

2. Individual Fraud Incident

The banks irresponsible lending practices and the states irresponsible efforts to systematically
bail them out are partly the result of collusion between business and political elites.

An example is, Salman F. Rahman, one of Bangladeshs wealthiest individuals and a co-founder
of Beximco, a major business group that specializes in exports of pharmaceuticals and garments.
A 2007 cable from the United States ambassador in Dhaka subsequently disclosed by WikiLeaks
called Mr. Rahman allegedly one of Bangladeshs biggest bank loan defaulters. He was
imprisoned for fraud in 2007-8, under the caretaker government.

In an interview in his Dhaka office early in 2015, Mr. Rahman stated he owed about $800 million
to state-owned banks. He blamed the previous government, led by the Bangladesh Nationalist
Party a staunch rival of the Awami League, which is in power today for not servicing his
debts. By that time, Mr. Rahman had become an adviser to Sheikh Hasina, the prime minister of
Bangladesh and the president of the Awami League. And the Bangladesh Bank was now
restructuring his debts, he said.

Mr. Rahman is no exception. Some $565 million in assets are said to have been looted from the
state-owned BASIC Bank between 2009 and 2012, yet the scams suspected mastermind, a
former chairman of the bank, wasnt troubled by the anticorruption commission investigating the
fraud, reportedly thanks to his political connections. Banking in Bangladesh is beholden to the
politician, largely because state institutions are underfunded and weak. Technocrats, auditors,

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courts all those traditional safeguards dont have enough authority or muscle in Bangladesh to
keep the politicians in check.

3. 2016 Bangladesh Bank IT Fraud and Previous Cyber Attacks

In February 2016, instructions to steal US$951 million from Bangladesh Bank, the central bank of
Bangladesh, were issued via the SWIFT network. Five transactions issued by hackers, worth
$101 million and withdrawn from a Bangladesh Bank account at the Federal Reserve Bank of New
York, succeeded, with $20 million traced to Sri Lanka (since recovered) and $81 million to the
Philippines (about $18 million recovered). The Federal Reserve Bank of NY blocked the
remaining thirty transactions, amounting to $850 million, at the request of Bangladesh Bank. It
was identified later that Dridex malware was used for the attack.

Background

The 2016 cyber-attack on the Bangladesh Central bank was not the first attack of its kind. In this
cyber heist, thieves tried to illegally transfer US$951 million to several fictitious bank accounts
around the world. In 2013, the Sonali Bank of Bangladesh was also successfully targeted by
hackers who were able to cart away US$250,000. In 2015, two other hacking attempts were
recorded, a $12 million theft from Banco del Austro in Ecuador in January and an attack on
Vietnam's Tien Phong Bank in December that was not successful. In all these cases, the
perpetrators are suspected to have been aided by insiders within the targeted banks, who assisted
in taking advantage of weaknesses within the SWIFT global payment network .

In 2012, the Philippines loosened restrictions on its gambling industry despite opposition from the
Catholic Church. After the country's gambling industry benefited from Chinese paramount leader
Xi Jinping's campaign against corruption, which drove gamblers further south of Macau. its casinos
lobbied against a 2012 amendment by the Philippine Senate of the 2001 Anti-Money Laundering
Act that required them to report suspicious transactions. Senate President Juan Ponce Enrile had
lobbied for the inclusion of casinos in the scope of the law. At that time, big casino firms in the
Philippines such as the City of Dreams had not yet been established.

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Events

Capitalizing on weaknesses in the security of the Bangladesh Central Bank, including the possible
involvement of some of its employees, perpetrators attempted to steal $951 million from the
Bangladesh central bank's account with the Federal Reserve Bank of New York sometime between
February 45 when Bangladesh Bank's offices were closed. The perpetrators managed to
compromise Bangladesh Bank's computer network, observe how transfers are done, and gain
access to the bank's credentials for payment transfers. They used these credentials to authorise
about three dozen requests to the Federal Reserve Bank of New York to transfer funds from the
account Bangladesh Bank held there to accounts in Sri Lanka and the Philippines.

Thirty transactions worth $851 million were flagged by the banking system for staff review, but
five requests were granted; $20 million to Sri Lanka (later recovered), and $81 million lost to the
Philippines, entering the Southeast Asian country's banking system on February 5, 2016. This
money was laundered through casinos and some later transferred to Hong Kong.

Attempted fund diversion to Sri Lanka

The $20 million transfer to Sri Lanka was intended by hackers to be sent to the Shalika Foundation,
a Sri Lanka-based private limited company. The hackers misspelled "Foundation" in their request
to transfer the funds, spelling the word as "Fundation". This spelling error gained suspicion from
Deutsche Bank, a routing bank which put a halt to the transaction in question after seeking
clarifications from Bangladesh Bank.

Sri Lanka-based Pan Asia Bank initially took notice of the transaction, with one official noting the
transaction as too big for a country like Sri Lanka. Pan Asia Bank was the one which referred the
anomalous transaction to Deutsche Bank. The Sri Lankan funds have been recovered by
Bangladesh Bank.

Funds diverted to the Philippines

The money transferred to the Philippines was deposited in five separate accounts with the Rizal
Commercial Banking Corporation (RCBC); the accounts were later found to be under fictitious

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identities. The funds were then transferred to a foreign exchange broker to be converted to
Philippine pesos, returned to the RCBC and consolidated in an account of a Chinese-Filipino
businessman; the conversion was made from February 5 to 13, 2016. It was also found that the
four U.S. dollar accounts involved were opened at the RCBC as early as May 15, 2015, remaining
untouched until February 4, 2016, the date the transfer from the Federal Reserve Bank of New
York was made.

In February 8, 2016, during the Chinese New Year, Bangladesh Bank through SWIFT informed
RCBC to stop the payment, refund the funds, and to "freeze and put the funds on hold" if the funds
had already been transferred. Chinese New Year is a non-working holiday in the Philippines and
a SWIFT message from Bangladesh Bank containing similar information was received by RCBC
only a day later. By this time, a withdrawal amounting to about $58.15 million had already been
processed by RCBC's Jupiter Street (in Makati City) branch.

On February 16, the Governor of Bangladesh Bank requested Bangko Sentral ng Pilipinas'
assistance in the recovery of its $81 million funds, saying that the SWIFT payment instructions
issued in favor of RCBC on February 4, 2016 were fraudulent.

Investigation

Bangladesh

Initially, Bangladesh Bank was uncertain if its system had been compromised. The governor of
the central bank engaged World Informatix Cyber Security, a US based firm, to lead the security
incident response, vulnerability assessment and remediation. World Informatix Cyber Security
brought in the leading forensic investigation company Mandiant, a FireEye company, for the
investigation. These cyber security experts found "footprints" and malware of hackers, which
suggested that the system had been breached. The investigators also said that the hackers were
based outside Bangladesh. An internal investigation has been launched by Bangladesh Bank
regarding the case.

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The Bangladesh Bank's forensic investigation found out that malware was installed within the
bank's system sometime in January 2016, and gathered information on the bank's operational
procedures for international payments and fund transfers.

The investigation also looked into an unsolved 2013 hacking incident at the Sonali Bank, wherein
US$250,000 was stolen by still unidentified hackers. According to reports, just as in the 2016
Central Bank hack, the theft also used fraudulent fund transfers using the SWIFT International
Payment Network. The incident was treated by Bangladeshi police authorities as a cold-case until
the suspiciously similar 2016 Bangladesh Central Bank heist.

Philippines

The Philippines' National Bureau of Investigation (NBI) launched a probe and looked into a
Chinese-Filipino who allegedly played a key role in the money laundering of the illicit funds. The
NBI is coordinating with relevant government agencies including the country's Anti-Money
Laundering Council (AMLC). The AMLC started its investigation on February 19, 2016 of bank
accounts linked to a junket operator. AMLC has filed a money laundering complaint before the
Department of Justice against a RCBC branch manager and five unknown persons with fictitious
names in connection with the case.

A Philippine Senate hearing was held on March 15, 2016, led by Senator Teofisto Guingona III,
head of the Blue Ribbon Committee and Congressional Oversight Committee on the Anti-Money
Laundering Act. A closed-door hearing was later held on March 17. Philippine Amusement and
Gaming Corporation (PAGCOR) has also launched its own investigation. In August 12, 2016,
RCBC was reported to have paid half of the P1 billion penalty imposed by the Central Bank of the
Philippines.[18] Prior to that, the bank reorganized its board of directors by increasing the number
of independent directors to 7 from the previous 4.

United States

FireEye's Mandiant forensics division and World Informatix Cyber Security, both US-based
companies, are investigating the hacking case. According to investigators, the perpetrators'
familiarity with the internal procedures of Bangladesh Bank was probably gained by spying on its

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workers. In a separate report, the US Federal Bureau of Investigation (FBI) says that Agents have
found evidence pointing to at least one bank employee acting as an accomplice, with evidence
pointing to several more people as possibly assisting hackers in navigate the Bangladesh Banks
computer system. The government of Bangladesh is considering suing the Federal Reserve Bank
of New York in a bid to recover the stolen funds.

Other attacks

Computer security researchers have linked the theft to as many as eleven other attacks, and alleged
that North Korea had a role in the attacks, which, if true, would be the first known incident of a
state actor using cyber attacks to steal funds.

Regarding IT Frauds, Bangladesh is still very underdeveloped in terms of digital awareness and
expertise. Proper guidelines and training are needed in every bank to create an adequate IT
personnel who can build and overview the banking software, firewalls, protection of documents
and processes, and the overall banking system. Also, lack of coordinated information sharing
system is a barrier to creating a sound IT system to monitor and supervise the banking activities
over the whole country.

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CASE- 8 BANGLADESH AND THE CASE OF US BANK FAILURES

In the 1980s and early 1990s, the U.S. banking industry struggled through a difficult period,
suffering the highest number of failures since the Great Depression. The Federal Deposit Insurance
Corporation (FDIC) had to resolve roughly 1,650 federally insured banks. However, the problems
of commercial banks pale in comparison to the plight of the savings and loans (S&L). The
magnitude of the bailout cost of the 1,320 S&L institutions that failed during this period was
enormous, totaling $151 billion or roughly 80% of the aggregate resolution costs. Because of this
massive number of failures, regulatory agencies and policy makers had to take unprecedented
actions to restore the financial health and stability of the banking sector.

Continental Illinois National Bank (Continental) was the seventh largest commercial bank in the
United States and the biggest C&I lender in the country. Being limited by the McFadden Act,
Continental was confined by a very narrow consumer deposit base and had to raise fund from less
reliable large institutional or overseas depositors. But due to its connection with the failed Penn
Square Bank of Oklahoma, in May 1984, Continental faced a run by institutional depositors. In
less than two months, the bank lost $10 billion in deposits and had to borrow massively from the
Federal Reserves discount window to cope with these liquidity problems.

The underlying problem at Continental was liquidity risk as the bank was unable to liquidate its
assets to satisfy its creditors. In fact, at the time of closure, Continentals net worth was over $2
billion. So, the bank actually could not respond in time.

In result, bank regulators in 1985 implemented new capital rules that set minimum capital ratios
at 5.5% primary capital and 6% total capital and in 1985, issued preliminary risk-based capital
rules. In 1986, regulators issued preliminary risk-based capital rules and the U.S. began working
with their international counterparts on a common rule. In 1988, the Basel Committee reached
agreement on risk-based capital rules for internationally active banks.

Bank of New England (BNE) was one of the largest banks in the Northeast with over $32 billion
in assets and about 480 branches. BNE was the most aggressive real estate lender in the Northeast,
with over 30% of its loan portfolio in commercial real estate.

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In late 1980s, the collapse in real estate values caused BNE to have around $550 million of non-
performing loans, approximately 2.2% of total loans. BNEs loan quality deteriorated very rapidly.
On January 4, 1991, BNE announced a projected $450 million loss that technically rendered the
bank insolvent. With failure, the bank experienced a huge wave of withdrawals, losing over the
weekend more than $1 billion.

In consequence, Congress passed the Federal Deposit Insurance Corporation Improvement Act of
1991 (FDICIA) which addressed many of the shortcomings of the deposit insurance and regulatory
system including prompt closing of a failing bank using the least-costly method.

The involvement of insured institutions in subprime consumer lending, targeted to borrowers with
weak credit histories or limited ability to repay their debts, led to problems at some institutions.
BestBank was the first subprime lender to fail in 1988. In 1999 two other sub-prime banks failed,
namely The National Bank of Keystone (Keystone) and Pacific Thrift and Loan (PTL). Keystone
securitized some loans and had large concentrations of retained interests. The RIs were the
primary concern of the supervisory authority. BestBank and Keystone both were found to be
involved in fraud. Many institutions that engaged in sub-prime lending, including PTL, sold the
principal balances through securitization.

Subsequent to the failure, the federal regulators changed the capital treatment of residual interests.
The gains in the RIs are no longer counted for risk-based capital purposes and a bank can hold no
more than 25% of total equity capital in interest only strips.

Under this rule, banks would have to hold capital against the entire amount of the securitization at
risk, without the benefit of using the calculated gain. In addition, the institution would not be able
to be overly concentrated in first loss position assets.

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BANGLADESH CONTEXT

If the pitfalls of illiquidity occur in Bangladesh, the steps will be taken:

Foreign Banks perspective

The bank should maintain sufficient reserve and should ensure the liquidity of the assets in which
in invests, and also develop their own monitoring system for the purpose of proper management
of their funds.

National Commercial Banks & Private Commercial Banks perspective:

Sufficient amount of liquid assets should be maintained in its asset portfolio, those can be readily
converted into cash in the face of need, so that they can meet the withdrawal needs of their clients.
Proper monitoring systems should be developed for ensuring effective utilization of their assets.
Further, the allocation of fund should be in less risky sector. Banks also should maintain adequate
reserve for meeting any unprecedented needs.

Specialized Banks perspective:

Proper monitoring, sufficient liquidity, develop internal control systems, ensure transparency and
proper risk management system should be maintained to avoid such risk.

Countrys Perspective

Proper laws should be enacted and regulatory actions should be taken to ensure safety as well as
less risk exposure of the banks to unwanted events and adverse economic conditions. Further, there
should be proper mandate to maintain risk-based capital requirement and appropriate monitoring
policies should be introduced.

If the perils of real estate lending occur in Bangladesh, the steps will be taken:

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Foreign Banks perspective

The bank should adopt appropriate methods for analyzing the credit risk of the bank, and for
measuring the probable extent of exposure to such risk. They should also adopt proper strategies
for reducing credit risk and ensure the proper allocation of the fund.

From the perspective of NCBs, PCBs & SBs

The banks should ensure the safety of the allocated funds and also should minimize risk by
diversifying the allocation of funds among various sectors and should avoid the highly risky
investment. And also should develop proper monitoring systems.

Countrys Perspective

Proper and appropriate regulations and restrictions should be enforced to minimize the risk
exposure of banks.

If the collapse of sub-prime lenders occurs in Bangladesh, the steps will be taken:

Foreign Banks perspective

The bank should adopt appropriate methods for analyzing the credit risk of the bank, and for
measuring the probable extent of exposure to such risk. They should also adopt proper strategies
for reducing credit risk and ensure the proper allocation of the fund.

Countrys Perspective

Proper laws should be enacted and regulatory actions should be taken to ensure safety as well as
less risk exposure of the banks to unwanted events and adverse economic conditions. Further, there
should be proper mandate to maintain risk-based capital requirement and appropriate monitoring
policies should be introduced.

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CONCLUSION

Bangladesh is a developing country with an under developed banking system, particularly in terms
of the services and customer care provided by the government and private banks. Recently the
private banks (PCBs) are trying to imitate the banking structure of the more developed countries,
but this attempt is often thwarted by inexpert or politically motivated government policies executed
by the central bank of Bangladesh, Bangladesh Bank. The outcome is a banking system cherishing
corruption and illegal monetary activities/laundering etc. by the politically powerful and criminals,
while at the same time making the attainment of services or the performance of international
transactions difficult for the ordinary citizens, students studying abroad or through distance
learning, general customers etc.

The recent failures of banking sector in Bangladesh, such as the Hallmark-Sonali Bank Loan Fraud
incident are really threatening. In the absence of good governance, many banks have indulged in
irregular activities and corruption.

Bangladesh Bank, the main authority, is responsible for making proper banking policies as our
financial condition demand and monitoring if the others bank obeying or violent the rule. Not only
that if any try to violet the rules, Bangladesh Bank give punishment as soon as possible. But in our
country Bangladesh Bank is corrupted by itself. How it controls the other, where there isnt proper
security to protect nations resource. Recent report says that in the hacking and money transfer
crime from Bangladesh bank, a few officials of BB were involved.

Because of a non-transparent and weak financial system, we are not only losing foreign investment
but we cannot invest our own resources in our development projects. Our surplus resources are
being transferred abroad. Swiss bank money is mostly owned by the rich merchants of Africa and
Asia. The foundation of our economy is eroded for lack of transparency, accountability and
absence of monitoring in our banking system.

In this situation, general people are lose confidence over banking system. But central bank and
government take necessary steps to control fraudulent activities and stabilize economic system. In
recent years, the economy of Bangladesh largely depends on banking system.

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Bibliography:

1. Bank Failures in Mature Economies- Basel Committee on Banking Supervision

2. www.bb.org.com

3. Newspaper (Financial Express, The Daily Star)

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