Central Bank to soon begin diagnostic study on banks to identify cracks in asset quality, capital

• Two-stage study will cover nine domestic banks including two State lending giants

The Central Bank will soon launch a study to identify the undue cracks in the banking sector asset quality and thereby its spillover effects into banks’ regulatory capital coming from the pandemic, which became more pronounced with the economic crisis.

The Central Bank first announced the study, which it referred to as a ‘diagnostic study’, in early October to ascertain banks’ overall condition in terms of asset quality and capital.

Central Bank officials said the study would enable them to get a clearer picture of the conditions of the sector as it had to provide loan moratoria for about three years, first due to Easter attacks and then as a result of the pandemic. 

The prolonged moratoria and other payment relief afforded to borrowers from time-to-time masked the true nature of the asset quality condition of banks until all moratoria came to an end this June.

However, even before the final stretch of payment holidays, the banking sector was met with even bigger crisis having to provide for the foreign currency denominated bonds issued by the government over the years after the government announced a debt standstill in April. 

As part of the broader policy package launched from around April, both the Central Bank and the government reversed the monetary and fiscal policies making them bone crushingly tight, taking a severe toll on borrowers which in turn added fresh pressures on the banking sector asset quality.

Further, uncertainty over domestic debt restructuring has also spooked banks as these concerns have added to their existing woes. 

As ground works have now been nearly completed, the Central Bank said the study is ready to begin and it will come in two stages. 

“It is yet to start. Now we are in the final stages of appointing the reviewers. So, after that as we said we will do the first study with six banks and thereafter with another three,” said Central Bank Deputy Governor Yvette Fernando.