Sri Lanka is among the twelve countries that has highly vulnerable financial systems and a highest risk rating, according to global rating agency, Fitch.

Usually referred to as ‘Macroprudential risk’, it evaluates the health, soundness and vulnerabilities of a country’s financial system. The indicator ranges from ‘1 to 3’ where ‘1’ indicating the least vulnerability and ‘3’ the highest risk rating to the financial system.

“Loose monetary and credit policies in emerging Asia carry some downside risk for financial stability. Real policy rates across the region (GDP-weighted average) dipped back towards zero as Central Banks reverted to easing (while regional inflation eased to 3% since June). Four regional central banks cut their policy rates in H2’12 (China, Korea, Philippines and Thailand) while none hiked, although Indonesia tightened its macro-prudential requirements and raised its deposit rate,” a report on Emerging Asia Sovereigns by Fitch said.

Emerging Asia already hosts four of the world’s 12 countries in the highest risk ‘3’ category of Fitch’s macro-prudential risk assessment framework. China, Mongolia, Indonesia and Sri Lanka are among them. Four out of 11 members of the Emerging Asia that includes Korea, Myanmar, India and Philippines are ranked ‘1’ while Vietnam is ranked ‘2’.

On the fiscal side, Fitch projects the government debt to GDP ratio to fall slightly from its current 78% in Sri Lanka, but the high public indebtedness of those sovereigns’ is expected to provide a limited scope for further fiscal easing if shocks take place.

Sri Lanka has limited fiscal flexibility due to high debt along with a strongly negative real policy rate which indicate limited scope for a policy response if shocks occur.

“Although the foreign currency denominated debt is projected to decline as a ratio of current external receipts as a whole in the Emerging Asian region, the ratio will remain above 100% for Sri Lanka. This factor is likely to weigh on the sovereigns’ ratings”, the report added.

Finally, Fitch rates nine out of eleven Emerging Asian countries with Stable Sovereign Outlooks including Sri Lanka with BB− for both Long Term(LT) FC Issuer Default Rating (IDR) and LT Local Currency IDR for 2013 with the exception of India and China which were revised to negative.

Sri Lanka issued a US $1bn 10-year sovereign bond in July at the rate of 5.87%, much lower than the first bond in 2007 issued at the rate of 8.5%.