An Assessment of Financial Sector Development in Bhutan

Abstract

This paper presents the results of an investigation into the performance and stability of Bhutan’s banking system. The study has found that economic growth has fueled a large demand for household credit over recent years, and in turn, banks have responded by substantially increasing their loan portfolios. Private sector credit growth took off from its earlier steady pace in the years preceding 2008, reaching over 40% growth year-on-year in the 2009-10 fiscal year, and has retained a relatively high growth rate even as heavy import restrictions remain in place. Although the largest recipient of credit is the building and construction sector, personal loans now make up more than 18% of credit extended to the private sector. And while non-performing loans have decreased substantially from their peak of close to 40% in the mid-1990s, they are still relatively high, and are decreasing as much due to total private sector credit growth as they are to loan recovery rates. Within this context, this paper discusses policy recommendations to strengthen and improve the banking sector. These policy measures include fostering banking sector competition, improving regulatory practices—on both the monitoring and the enforcement side—and enhancing risk diversification and liquidity management practices.