Contrary to Moody’s stance, Central Bank says lending caps credit positive for banks

The Central Bank yesterday disputed Moody’s Investors Service’s claim that the recently announced lending rate cut was credit negative for banks and said the rating agency had not taken into account the complete information set to arrive at its conclusion. 

The Central Bank said the lending interest rate caps announced last week in fact would be credit positive for banks as they would help banks to address the issue of rising non-performing loans (NPLs) with the gradual pickup in economic activity, amid increased demand for credit.

The Central Bank stressed that the lending caps were imposed after taking a number of measures over the past 11 months to ease monetary policy to stimulate economic growth, amid well-anchored inflation expectation.

While slashing policy rates by 100 basis points, the Central Bank reduced the Statutory Reserve Ratio (SRR) on banks by 2.5 percent, making Rs.150 billion additional funds available to banks for revenue-generating activities. The Central Bank said the deposit cap it imposed on banks in April 2019, which was subsequently removed from September, helped to reduce the Average Weighted New Deposit Rate (AWNDR) by 284 basis points in four months and limit unhealthy competition in deposit mobilisation among banks and assisting them
to reduce lending interest rates.

“However, in spite of continued deliberations with banks, most market lending interest rates have been downward rigid, unlike deposit interest rates as well as rates on short-term funds and government securities.   

It is in this context that the Central Bank imposed caps on lending rates of licensed banks on September 24, 2019,” the Central Bank said.

It added that with the substantial decline in cost of funds, in terms of lower SRR, lower money market interest rates, lower policy interest rates and lower deposit interest rates, along with the allowance of sufficient time for banks to adjust lending rates downwards, it has sought to minimise any disruption to the smooth operation of the banking system as well as its profitability.

“The Central Bank does not expect a material change in interest margins of the banking system arising from the imposition of caps on lending rates, holding other factors constant. The Central Bank has also announced its intention to review this action by March 2020.”