Credit support scheme to keep banks’ asset quality weak, prolong unwinding of NPLs: Fitch

Fitch Ratings yesterday said the loan moratorium for the small and medium-sized enterprises (SMEs) and the broader credit support scheme announced by the government will keep Sri Lankan banks’ asset quality weak and result in prolonged unwinding of non-performing loans (NPLs).

“We believe that the scheme will prolong the resolution of non-performing loans only until end-2020 and delay capital repayments this year but the banks’ improved liquidity, due to a slowdown in loan growth in 2019, should mitigate the effects,” Fitch said in a statement.

Sri Lanka’s new administration led by President Gotabaya Rajapaksa has announced a broad-based economic stimulus package, which includes sweeping personal and corporate tax cuts and a moratorium on capital repayments of loans taken by SMEs up to end-2020. The bankers, who have deeper local knowledge about the ground realities, note that while they are in principle not against the credit support scheme, they are worried of the free-riders, who will want to exploit the facility.  

“There are bad SMEs, who are always bad and they will do whatever it takes to delay repayment. On the other hand, we find good SMEs, who will continue to service their facilities irrespective of what the situation is and sometimes they may not even apply for the moratorium,” a bank manager of a leading bank told Mirror Business on condition of anonymity. 

However, Fitch said the implications of the scheme for banks’ stocks of restructured loans are likely to be limited, given the amount of loan restructuring that has already taken place.

Restructured loans increased to 3.6 percent of gross loans across Fitch-rated Sri Lankan banks at end-September 2019, from 1.8 percent at end-2018. 

Fitch became the second such rating agency to underplay the effects of the credit support scheme after Moody’s gave a harsher assessment of the effects of the scheme, not only on the banks but also on  the economy. 

They said the debt moratorium is credit negative for both banks and the sovereign and is unlikely to support economic revival. 

But Senior Economic Advisor to Prime Minister and former Central Bank Governor Ajith Nivard Cabraal, who spoke on the matter in an earlier instance, said with the stimulus package and the credit support scheme, the new administration is addressing the root cause of the current economic malaise, which will in turn strengthen the banks. 

“If the businesses are failing and if businesses that owe money to the banks are in trouble, the banks also get into trouble at some stage.

So, we are fixing the root cause of businesses struggling. Two root causes—one is not enough business, which we are fixing and have fixed to some extent and expect the loan momentum will keep them improved. 

Number two is the interest rates, which were too high, now have a chance of coming down. The rupee being stable will also help. With all that, we think that the general atmosphere of business will improve. When that improves, it will only have a favourable impact on the banking and financial sector,” Cabraal said. 

Fitch Rating however believes the banks’ asset quality will remain weak in 2020, with the resolution of non-performing loans likely to extend beyond 2020. 

Sri Lanka’s banking sector asset quality as measured by the gross non-performing loans ratio touched 4.9 percent by end-October 2019.  Meanwhile, First Capital Holdings Senior Equity Analyst Dimantha Mathews, who spoke on the banking sector recently, said the current NPL levels were expected to ease towards the latter part of the year with an uptick in the economy.