Macroeconomic Determinants of Non-Performing Loans in South Asia

Abstract Purpose/Objectives: This study investigates the impact of macroeconomic variables on Non-Performing Loan Ratios (NPLR) in the banking sectors of eight South Asian countries over the period 2013 to 2022. Methodology/Approach: Utilizing panel data and applying the Feasible Generalized Least Squares (FGLS) regression technique to address heteroscedasticity and autocorrelation, the analysis focuses on key macroeconomic indicators including GDP growth, unemployment, inflation, interest rate spread, consumer price index (CPI), exports, foreign direct investment (FDI), and liquidity ratio. Results/Findings: The findings reveal that GDP growth has a statistically significant negative impact on NPLR at 1% significance level, indicating that stronger economic performance contributes to improved loan quality. Inflation also shows a marginally significant negative association, suggesting that controlled inflation may support credit stability. Interestingly, unemployment demonstrates a negative impact on NPLR at 1% significance level, a counterintuitive result that highlights complex interactions within regional labor markets. At 1% level FDI significantly reduces NPLR, emphasizing its role in strengthening financial sector stability. Other variables such as interest rate spread, CPI, and liquidity ratio display mixed or insignificant impacts. Novelty/Originality: The study contributes to the understanding of macro-financial linkages in emerging economies and offers evidence-based policy guidance for managing credit risk across South Asia. Implications: The study recommends that South Asian policymakers should focus on inclusive economic growth, control inflation to optimal levels, and strengthen frameworks that attract and retain productive foreign investment to minimize credit risk. Furthermore, this study's findings also recommend reforms in labor market structure and improvements in credit risk assessment mechanisms to ensure long-term resilience of the banking sector.