Sri Lanka loan price controls may not improve credit growth: Fitch
ECONOMYNEXT – A ceiling on interest on loans by Sri Lankan banks imposed by the central bank may not increase lending in the short term, Fitch Ratings has said.
“To the extent banks cannot price for risk in order to make hurdle rates of return, they may extend less credit for riskier consumer and commercial loans that carry higher losses,” the rating agency said in a statement.
“The lending rate cap recently imposed by the Central Bank on rupee-denominated loans may not improve loan growth in the short term.”
Fitch Ratings said lower lending rates may not be enough to spur credit demand to stimulate economic growth, given the nation’s weak borrower sentiment and subdued economic activity.
Banking sector loans contracted by 0.5 percent at the end of June 2019 from December 2018, driven by a reduced appetite for lending among banks and weakened credit demand in an economy growing slowly.
The central bank directive to cap lending rates was a response to regulatory concern over deceleration in credit demand and continued increases in nonperforming loans (NPLs).
Its actions are intended to accelerate the effects of previous measures to reduce lending rates, including a reduction in policy rates, a decrease in the Statutory Reserve Ratio and a cap on rupee deposit interest rates that has since been lifted with the introduction of the lending rate cap.
“Bank profits, already weakened by higher credit costs and effective tax rates, could see further pressure given our expectation of continued subdued loan demand,” Fitch Ratings said.
In the near term, the lending rate cap may have a limited impact on bank net interest margins, it said.
“Yield pressure on loans from caps on incremental lending and when loans come up for renewal will be partially offset by a lower funding costs given the progressive repricing of deposits, as the Central Bank imposed a cap on rupee-denominated deposits in April 2019.”
However, Fitch Ratings said, the ultimate impact depends on several factors, including the composition of individual bank loan portfolios.
Banks are required to reduce interest penalties on delinquent loans to a cap of 400 basis points by October 15, which may not be enough to facilitate a reduction in NPLs, Fitch said.
The trend of rising NPLs continued into 2019, with the sector-wide NPL ratio climbing to 4.8 percent at end-June 2019 from 3.4 percent at December 31, 2018.
“Credit risks are likely to linger, reflected in an increase in restructured loans,” Fitch Ratings said.
“The reduction in lending rates may help to alleviate pressure on the accretion of NPLs. However, asset quality stresses are expected to remain until economic activity resumes.”
The Central Bank ordered banks to reduce the interest rates on all rupee-denominated loans and advances by at least 200 basis points by October 15, from the interest rates charged at April 30, 2019, except those with rates at or below 12.5 percent.
Rates on certain products, while reduced, remain high, with credit card annual percentage rates capped at 28 percent while leases and gold-backed loans are excluded.
The Central Bank also requires banks to reduce the weekly Average Weighted Prime Lending Rate (AWPR) by 150 basis points by November 1 and by at least 250 basis points by December 27, compared to the AWPR at April 26, 2019.
Banks with AWPRs at or below 9.5 percent are excluded.
The AWPR of domestic commercial banks was already at least 100 basis points lower at end September 2019 than at April 2019. The CBSL indicated that it expects to review this order at end March 2020.
(COLOMBO, 07 October 2019)