Sri Lanka has sound prospects; uncertainty over banking reforms, monetary policy: S&P

COLOMBO (EconomyNext) – Sri Lanka has sound economic prospects with credit growth likely to recover to 15-17 percent in 2015 but there is uncertainty over reform plans and monetary policy, Standard & Poor’s, a rating agency has said.

After the end of a 10 year rule by ex-President Mahinda Rajapaksa, there was "some uncertainty about policy direction."

"In particular, the new leadership and the new Central Bank of Sri Lanka (CBSL) governor are yet to clearly articulate policies related to economic reforms, monetary policy, and banking sector consolidation," the rating agency said in a banking sector report.

A plan to merge and reduce the number of banks and finances companies was put on hold by the new administration.

"Standard & Poor’s believes the consolidation plan announced earlier offers an opportunity to increase the resilience of the financial system and could lead to more effective oversight," the agency said.

"Nevertheless, questions remain as to whether the consolidation plan can be successfully implemented, given the short implementation time frame and execution risks."

The rating agency said bank credit would grow by 15 to 17 percent, partly helped by credit guarantees on pawning loans after a 13.7 percent in 2014.

A sharp pickup in credit growth above Standard & Poor’s base case could weaken capitalization levels. The Tier 1 ratio for the banking industry has declined steadily to 13.1 percent as of Dec. 31, 2014, compared with 14.9 percent in 2013.

Though the ratio as above the regulatory minimum of 5 percent it was overstated due to the lack of capital charges on gold backed loans.

But bad loans are expected to have bottomed out.

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"We expect the asset quality of Sri Lanka’s banks to improve on the back of favourable economic conditions, low domestic interest rates, the credit guarantee scheme for pawning loans, and relatively stable gold prices," Standard and Poor’s credit analyst Deepali Seth Chhabria said.

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