Sri Lankan banks face challenges in current crisis as bad loans rise: Central Bank

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ECONOMYNEXT – Sri Lankan banks face rising bad debt as interest rates rise and economy shrinks, central bank says as country faces worst currency crisis in history of the monetary authority of the intermediate regime.

Stage 3 bad loans had reached 10.6% of loans, while banks were also hit by market value losses and possible restructuring losses.

The Sri Lankan rupee collapsed from 200 to 360 against the US dollar in 2022 after two years of money printing that caused the balance of payments to explode and interest rates to rise to 30% and the economy is expected to contract by more than 8% this year.

“The financial sector is likely to face significant challenges in the face of the current economic environment with shrinking economic output, sovereign debt restructuring, high interest rate environment, fiscal revisions and high exposure. from the banking sector to SOBEs,” the central bank said. said in a report released before the budget.

“At present, an upward trend in impaired loans is observed due to the current unfavorable macroeconomic circumstances and is expected to increase further given the weak contemporary economic conditions despite the concessions given to borrowers by the industry to cope. to the challenges.”

Sri Lanka has been hit by serial currency crises in 2015/16, 2018 and 2020/2022 under flexible inflation targeting where discretion is given to print money within the framework of an inflation target of up to 6% thanks to several liquidity tools.

Each crisis is accompanied by a production shock and a spike in bad debts. The 2022 crisis was followed by a sovereign default and there are concerns about domestic debt restructuring. The 2022 crisis came on top of a Coronavirus crisis.

The central bank had a plan to gradually build up capital buffers and they were still above the legal minimum in August 2022. A capital requirement from the end of 2022 had been postponed to 2023.

Now bad debts were growing rapidly.

“The sector’s asset quality has deteriorated in terms of the ratio of stage 3 loans to total loans. Stage 3 loans increased by Rs. 475.1 billion, registering a growth of 56.9% and reached Rs. 1.3 trillion at the end of August 2022,” the central bank said.

“Furthermore, the ratio of Stage 3 loans to total loans increased to 10.6% at the end of August 2022, from 7.6% at the end of 2021, driven by the increase in Stage 3 loans. and weaker credit growth.

“…[B]the stability of the banking sector could be threatened by increasing difficulties in maintaining its capital ratios above the minimum regulatory levels and a substantial deterioration of the capital buffers due to
the impact of adverse macroeconomic conditions.

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