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Sunday May 9th, 2021

Concerns rise over Sri Lanka’s risky interventionist moves to coerce banks

ECONOMYNEXT – Concerns are rising that Sri Lanka’s interventionist proposal to ban leasing from banks, made without evidence based policy making or a consultation may have serious negative effects on the people, including small borrowers and depositors.

Ranel Wijesinghe, a director of state-run Bank of Ceylon told a business forum at Sri Lanka’s Ceylon Chamber of Commerce that while lenders like People’s Bank had a subsidiary, his bank did not have a specialized subsidiary to give leases.

This was provided the regulator allowed the bank to start a new subsidiary, he said.

Economic Freedom

Freedom advocates say the bigger problem is not just whether a bank is hurt, but that customers of Bank of Ceylon who used to get leases from it would find their access to credit restricted.

Charmaine Tillekeratne, a director at Price Waterhouse Coopers, an accounting firm, said bankers who fund construction including with big ticket machinery leases for Sri Lankan firms going abroad had voiced concern that the move would hurt contractors.

Many Sri Lankans have been able to lease vehicles and other equipment from banks which have a wide networks, in addition to going to specialized leasing and finance companies.

Leasing is simply a technique backed by a legal framework that allows banks and finance companies to lend money to people who do not already have assets. It is popular in Sri Lanka partly due to the effect of value added tax.

The laws backing leasing make it easier for banks to repossess the asset, reducing risk to depositors and as a result banks are more willing to loan money through leasing expanding credit access to small businesses and individuals.

In countries like the US, it is easier for people to get bank credit because it is also easier for banks to foreclose on ordinary defaulted loans than in Sri Lanka. Any laws to make it more difficult to foreclose will restrict credit access.

The move to ban leasing from banks, seems to have been proposed not to help the customers, but a special interest group in the form of leasing and finance companies who had faced competition from banks, some analysts say.

Banks typically present a lower credit risk to customers and people are therefore willing to get a lower return. But to keep the credit risk down banks must also lend to the lowest risk customers.

Social Market Economy

The coercive micro-managing move to stifle competition to leasing companies goes against a declared aim to follow a ‘competitive social market economy,’ which if it is backed by a strong currency can make the country overtake many other Asian nations by enhancing freedoms of the people and protecting property rights.

"I propose that licensed banks should concentrate on their core banking activities," Finance Minister Ravi Karunanayake said in the budget speech, giving a ruler’s definition as to what a bank should or should not do.

"The Leasing business, has become a distraction to core banking functions and as such Banks should cease in engaging in leasing business from 01 June, 2016," he claimed.

"Today banks are not keen to lend to certain important sectors of the economy, which has hampered the growth of these sectors."

Freedom advocates say definition of what is ‘important’ to the elected ruling class may not be what is important to the people and businesses run by them which make up what is commonly called the ‘economy’.

Market based credit allocation is key to fostering high growth in areas that people demand.

Directed lending, based on the whims and fancies of the elected ruling class or bureaucrats can destroy economies, deny credit to fast growing areas where there is the most demand from emerging trends in the economy and also load up bad loans, as has happened in countries ranging from India to communist states.

Karunanayake went further than the ousted Rajapaksa administration which wanted 10 percent of the credit to be given to agriculture.

”I propose that all the banks should lend at least 10 percent of their loan portfolio to Agriculture, 5 percent to SME and 5 percent to Women and Youth," Karunanayake said.

"Given the impact the international gold prices has had on the local banks specially with large pawning portfolios, I urge the banking sector to limit their pawning business to a maximum of 5 percent of their loan portfolios."

Banks loaned heavily on gold backed loans partly due to a regulatory loophole that allowed them to underweight risks and also money printing by the US Federal Reserve which inflated the price of gold, up to 2012.

Risky Lending

In another deadly move that can de-stabilize the entire banking system, Karunanayake advised banks to lend money for stock market speculation.

"Further, I encourage Banks to lend to customers who are engaging in stock market activities," he said.

Lending for stock market speculation is the most dangerous activity a bank can engage in. They can fire asset price bubbles, especially now that the Central Bank is printing money to manipulate interest rates down. Unless the Central Bank raises rates, there are concerns that a housing and property bubble could be fired soon.

Fortunately a part of the money printed and given as salaries over the past year was dissipated in the forex markets as car imports, generating balance of payments trouble, but contributing less to domestic inflation, which is now starting to happen.

In other interventions on banks, the budget also proposed to tax withdrawals above a million rupees at rates beginning from one percent, and coerce people to use bank drafts instead of withdrawing cash.

There were also a proposal to give a state guarantee to finance companies and a risky move to push old people to deposit in finance companies. Finance companies deal in the riskiest segment of business and old people are the last people who should deposit in them.

Karunanayake however has publicly said that he is willing to be flexible in listening to different ideas, which is an improvement on the previous administration.

While it may be acceptable to give freedom to the people by removing restrictions and freeing them from the yoke of the state or special interest groups, analysts say careful thought and consultation through a proper process must take place before any freedom is restricted or interventions made.

The budget had proposed the liberalization of many areas including lowering duties in building materials. (Colombo/Nov26/2015)

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