NPL or Non-Performing Loan is a term in the banking industry that refers to problem loans. It means that the borrower is unable to repay the principal or interest according to the agreed schedule. Generally, a loan is categorized as an NPL if the delay in repayment exceeds 90 days for commercial credit or 180 days for consumer loans.
Criteria and Types of NPL
Several criteria typically classify loans as NPL, such as:
- Loans where the principal or interest payments have been overdue for more than 90 days.
- Loans that have been restructured but still fail to meet obligations.
- Loans that have not yet reached 90 days overdue but already show a high risk of default.
In banking practice, loan collectability is usually categorized as substandard, doubtful, or bad loans. This classification acts as a benchmark in assessing the risk level of a loan.
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How to Calculate NPL
Calculating NPL is relatively straightforward. The formula used is:
NPL Ratio = (Total Non-Performing Loans ÷ Total Loans Disbursed) × 100%
For example, if a bank disburses loans worth IDR 100 billion and IDR 5 billion of them are problematic, then the NPL ratio is:
(5 ÷ 100) × 100% = 5%
Regulators then monitor this ratio. In Indonesia, Bank Indonesia sets the safe gross NPL threshold at below 5%. Anything above that indicates the bank is under significant credit risk pressure.
Causes of NPL
Several major factors can trigger NPL, including:
1. Macroeconomic conditions. Recessions, inflation, or volatile interest rates can reduce borrowers’ ability to repay.
2. Borrower conditions. Job loss, business downturns, or poor personal financial management are frequent triggers of default.
3. Weak credit issuance process. Inadequate credit analysis may lead to loans being given to high-risk borrowers.
4. Changes in regulations or interest rates. Higher interest rates increase repayment burdens, making it harder for borrowers to pay.
5. Unexpected external factors. Pandemics, natural disasters, or drastic industry changes can directly affect borrowers’ cash flow.
Impacts of High NPL
A high NPL ratio brings major risks for banks and financial institutions, such as:
- Liquidity disruption: Stalled repayments hinder cash flow.
- Declining profitability: Lost interest income and higher provisions for bad debts.
- Weakened solvency: Bank capital erodes if too many loans default.
- Damaged reputation: Stakeholders may question the bank’s risk management and credibility.
- Reduced new lending: Banks become more cautious, which in turn may slow down economic growth.
Relevance of NPL to the Crypto World
Interestingly, the NPL concept is not limited to traditional banking. In the crypto ecosystem, especially in crypto lending services such as Aave, Compound, or stablecoin-based loan platforms, similar risks exist.
The difference is that in crypto, loans are usually collateralized with digital assets. If the value of these assets drops significantly, the collateral may become insufficient, and the borrower defaults. This resembles NPL in banks, but in crypto the handling process is automated via smart contract liquidations.
Other cases can be seen in DeFi protocols during sharp market corrections. A spike in defaults on lending platforms can destabilize the ecosystem, just like high NPL ratios can shake banks.
Thus, whether in traditional finance or digital assets, the principle remains the same: debt repayment failures pose systemic risks that must be managed.
How to Mitigate NPL Risks (Traditional and Crypto)
Conventional banks usually mitigate NPL risks through stricter credit analysis, borrower monitoring, loan restructuring, and the use of collateral.
In the crypto world, different mechanisms apply:
- Over-collateralization: Loans are only granted if borrowers deposit collateral larger than the loan amount.
- Automatic liquidation: If collateral value drops below a certain threshold, smart contracts automatically liquidate assets to protect lenders.
- Stablecoin lending: Using stable assets as loan bases to reduce volatility risk.
Although the methods differ, the goal remains the same: maintaining system health and preventing widespread defaults.
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Conclusion
NPL is an important indicator that reflects the health of the banking sector. A low NPL ratio shows sound risk management and financial stability, while a high ratio is a warning sign that can erode profits, reduce public trust, and threaten overall financial stability. The same principle also applies in crypto, where failed repayments in digital lending platforms can pose systemic risks if not properly managed.
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