Private credit demand expected to moderate in 1Q

• Banks continue to factor inflation in pricing loans while monetary policy skews towards tightening 

As persistent inflation gets fed into interest rates with the likelihood of a more hawkish Central Bank, the demand for credit is expected to moderate in the first quarter of 2022.

According to ICRA Lanka Limited, even without a substantial hawkish policy pivot by the Central Bank, the banks have been pricing in the rising inflation into their lending rates in the recent past, and that could well be the case going forward as the price pressures are unlikely to fade away for sometime. 

What could potentially add more tailwind to the rise in lending rates is the 50 basis point policy rate increase by the Central Bank last week.
While much of the inflationary pressure is driven by supply side constraints, one way of checking inflation is the monetary policy, 

which could rein in aggregate demand, which creates inflationary impulses. 
ICRA Lanka is of the belief that these developments could weaken the pace of credit demand in the first quarter of the year. 

“Financial institutions may continue to factor inflation into pricing which will lead to a further increase in retail lending rates,” the rating agency said. “Sluggish global and domestic economic conditions together with tighter monetary policy may result in weaker credit demand in the first quarter of 2022,” it added.

Contrary to milder inflation expectations in the coming months by the Central Bank, ICRA Lanka expects the price pressures to be stickier and could further exacerbate once the government unleashes its relief package worth Rs.229 billion announced earlier in the month.  Although the overall economy languished, Sri Lanka’s banking business boomed in 2021 on faster credit growth, which took place amid lockdowns. 

Outstanding private sector credit grew by a robust 13.6 percent or Rs.750 billion in the eleven months to November, and is estimated to have crossed a Rs.800 billion for the full year, marking the highest annual private sector credit recorded since 2015. Some amount of slowdown in private sector credit may not necessarily hurt economic growth, which the Central Bank estimates at 5.5 percent for 2022.