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Sri Lanka state banks see ‘unsustainable’ growth, high SOE finance: Fitch

ECONOMYNEXT – Sri Lanka’s state banks have seen high balance sheet growth with large exposures to state and state enterprises amid sovereign downgrade, while all banks faced a deteriorating operating environment, Fitch, a rating agency said.

“We believe that all banks’ risk appetites are somewhat correlated to the deteriorating operating environment, which weighs on the credit profiles of the borrowers, and the weakened sovereign credit profile,” Fitch Ratings said following a relative assessment of banks rated by the agency in Sri Lanka.

“State banks’ risk appetites are even higher relative to the large private banks given high loan book concentration and unsustainable balance sheet expansion.”

During the first nine months of 2020, exposure of the Bank of Ceylon and People’s Bank to the state sector has expanded further to 40 percent of their loan book from 36 percent at the beginning of the year.

“This could put pressure on liquidity due to the rollover of such borrowings, although guarantees against some of these exposures mitigate credit risks,” the rating agency.

State banks generally mobilize savings including from rural areas and channel the funds to the budget deficit and loss making state enterprises in a directed lending.

State banks usually finance energy utilities such as the CPC, making them run losses sometimes with printed money from the central bank and which trigger balance of payments deficits, analysts have pointed out in the past.

They also provide dollar loans to Ceylon Petroleum Corporation when money is printed triggering currency pressure, which then expands the current account deficit of the country and leave large losses when the rupee collapses.

Meanwhile Fitch said private banks were also exposed to the state, including dollar denominated bonds.

“Fitch views BOC’s and PB’s intrinsic credit profiles to be weaker than those of CB and HNB and closer to that of SAMP, due mainly to weaker financial profiles in terms of asset quality, profitability and capitalisation and higher risk appetites, despite their stronger franchises as well as funding and liquidity profiles relative to CB and HNB,” Fitch said.

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“The relative strengths and ranking of these banks could differ should there be stress on the sovereign, based on their different direct and indirect exposures to the sovereign.”

Sri Lanka also started a credit facility using central bank re-finance (printed money) in 2020 to help Coronavirus hit businesses.

“We expect state banks to continue to record higher loan growth relative to the private banks, on increased demand for credit from the state and state-owned entities, alongside the potential for these banks to be called upon to lead in supporting individuals and businesses affected by the pandemic,” the rating agency.

“BOC and PB have disbursed nearly a third of LKR178 billion of loans approved under the Saubagya Covid-19 Renaissance Facility, a Central Bank of Sri Lanka (CBSL) refinance facility for pandemic-hit businesses. This also represents nearly half of the total applications the CBSL approved.”

Fitch said asset quality has weakened across all banks.

“Their current impaired loans/gross loans ratios are not fully reflective of the underlying credit quality due to the various moratoria,” the rating agency said.

“We estimate that at least 26 percent of Fitch-rated banks’ loans were under the first phase of the regulatory moratorium at end-June 2020. Fitch sees state banks’ asset quality, excluding state exposure, as weaker, reflecting their higher risk appetite relative to the large private banks.” (Colombo/Mar05/2021)

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