Non-Performing Loans and Credit Managers' Role: A Comparative Approach from Pakistan and Turkey

I. INTRODUCTION Most developing economies that undergo the process of financial liberalisation have banking systems that are burdened by a large proportion of bad loans and risky credits. The most common cause of bad loans is directed lending to preferred individuals or favoured sectors of the economy. These loans have created several problems for financial sectors and have seriously hindered the growth of developing economies. State-owned banks (SOBs) rely on government interventions to protect them against their large risk exposures to the enterprises to which they have lent. That weakens their bargaining power and ability to control borrowers. Over the last three decades, banking crises have become more prominent for both developed and developing countries. Caprio and Klingebiel (1996, 1997 and 1999), for example, have identified over eighty-six separate episodes of large-scale bank insolvency across a wide range of developed and developing countries in the 80s and 90s while Kaminsky and Reinhart (1999) report 102 banking or currency crises from 1970 to 1995 among a sample of 20 industrialized and developing countries. Between 1999 and 2001 Turkey experienced systemic financial difficulties punctuated by a series of banking and currency crises--June-December 1999, November 2000, and February 2001--that wiped out the capital of the Savings Deposit Insurance Fund (SDIF) banks, decimated the equity of the other public and private banks, and necessitated a bailout by the International Monetary Fund. Over this period, 22 private banks were seized by the regulator, the Banking Regulation and Supervisory Agency (BRSA), and several state banks were reorganized. By the end of 2001 the BRSA had injected over USD 42 billion into the banking sector and Turkey's gross domestic product stood 5.5% lower then in 1998. The Pakistani financial system has been in a transitional period from a predominantly administered system to a market oriented one since the early 1980s. The Pakistani banking system, in particular, faced a number of bottlenecks that were similar to those of other countries of comparable development like India, Bangladesh and even Turkey. A fundamental problem was the large volume of non-performing loans (NPLs) that have accumulated since the nationalization of the banking system in the 1970s. This paper contributes to the literature on non-performing bank loans in developing countries by investigating the behaviour of credit managers in Turkey and Pakistan who actually make the lending decisions. The study identifies factors that contributed to an increase in NPLs in large state-owned commercial banks over the period 1999-2001 and 1996-1998 in Turkey and Pakistan respectively. A major feature of the paper is the use of survey methodology to obtain primary data. We had face-to-face interviews with 110 senior credit managers in the four major commercial banks in Turkey and 100 credit managers in five large state-owned commercial banks of Pakistan. Then we use the application of the ordered probit model for analysing the survey data. The paper is divided into five sections. The second section gives a brief background of the subject and the literature review. The third section gives the details of the Turkish and the Pakistani Banking sector. The fourth section contains the methodology used and the fifth section contains the empirical results. Finally, the last section concludes with a short summary. II. BACKGROUND AND LITERATURE REVIEW Surveys have been employed by previous studies, but none of them used it for examining the causes of bank failures and banking crises. For example, Royal and Althauser (2002) use surveys across different levels of an organization to determine key indicators and performance drivers in the investment banking industry. In the same way, Bassi et al. (2001) employ surveys and interviews to test their hypotheses regarding the positive relationship between sophisticated use of human capital and firms' financial performance. …