Banking sector asset quality sour slightly in 2Q reversing gains made in 1Q

• NPL ratio up at 5% by end-June, from 4.6% in March 2021

Dampening the gains made through March this year, Sri Lanka’s banking sector asset quality soured again during the April-June quarter, as broad-based payment holiday schemes came to an end while the economy went into a hibernation again with the virus-related restrictions and lockdowns implemented from April. 

According to the latest data made available by the Central Bank, the overall banking sector asset quality measured by the gross non-performing ratio recorded 5.0 percent of the total loans and advances by June-end, reversing its course set off from a year ago, which brought down the ratio to 4.6 percent in 
March 2021. 

However, there was a notable divergence between how licensed commercial banks and licensed specialised banks performed in their respective asset qualities, which became more pronounced in the June quarter, despite the prevalence of a modest gap between the two types earlier. 

For instance, when the licensed commercial banking sector contained its reported gross non-performing loans ratio at 4.6 percent by June-end, from 4.5 percent three months ago, the licensed specialised banking sector reported a 9.0 percent ratio, rising sharply from 6.6 percent 
in March. 

The ending of more broad-based loan moratorium schemes from March-end, with the exception of the passenger transport and tourism sector schemes and the fresh hardships befell on the business community have led to the most recent stresses seen in the 
banks’ assets. 

The interim reports of the licensed commercial banks for the June quarter saw they had taken additional prudence in providing more for the possible loan defaults, considering the recent impact from the pandemic-induced restrictions on their borrowers. 

As a result, the banks also transferred many of their problematic accounts to the Stage III bracket of impairments, which consists of the non-performing loan accounts. 

Besides the slight weakness seen in the asset quality, the licensed commercial banking sector broadly fared well, both in its top and bottom lines, supported by slightly higher margins and growth in loans, which happened notwithstanding the dour economic conditions during 
the quarter. 

The lower tax rate of 24 percent, instead of 28 percent, which came into effect, also buttressed the banks’ bottom lines and thereby their returns to shareholders.

However, the increasingly bleak outlook over the broader economy, due to the virus spread and related lockdowns, which could last long, would have a bearing on the banking sector asset quality, as scores of small and medium-scale businesses, which predominantly cater to the domestic market, are increasingly running out of their cash buffers and are nearing bankruptcy. 

 Should the lockdowns remain beyond next week, the Central Bank would most likely will have to extend the current round of moratorium afforded to the borrowers, which is set to expire on August 31, by another three months or longer.

Reopening of their businesses will also not reinstate their cash flows imminently, as significantly less customers would patronise their businesses, due to fear of catching the virus.