Private credit slumps in Sept. on rising rates, subdued economy

• Commercial banks give Rs.29.1bn in fresh credit, sharply down from Rs.134.1bn in Aug.
• But Sept. could be an outlier as lockdowns, forex crunch and inflation damaged sentiments  
• Leading global central banks last week disappointed markets which bet on rate hikes

Credit extended to the private sector plunged in September after reaching a multi-year high in August signalling that consumers and businesses are pulling back on spending amid rising interest rates, soaring prices, shortage in liquidity and mounting challenges to the 
broader economy.

According to the data released last week by the Central Bank, credit extended to the private sector by licensed commercial banks in September fell sharply to Rs.29.1 billion from Rs.134.1 billion in August, supporting the stance of the Monetary Board as to why the Central Bank should hold rates at least a little longer to support the recovery of the economy repeatedly beset by the pandemic.

The September credit translated into a 13.8 percent growth from year ago, down from 15.1 percent in August, but still within the projected 12 to 14 percent growth expectations for 2021. 

With September data, licensed commercial banks have given Rs.654.2 billion in total credit in the nine months, making the full year target of Rs.750 - Rs.850 billion within reach.   Monetary policy hawks have been calling for at least one more rate hike before the end of 2021 followed by further rate hikes in 2022 to tame the soaring inflation and to slowdown the pace of monetary expansion, which has created the current bout of foreign exchange troubles. 

However, the Central Bank maintains that the prevailing higher prices are largely supply-driven and caused by the global commodities prices bubble and the supply chain disruptions triggered by the pandemic. 

The Central Bank is also of the view that liquidity support to the government and the markets are necessary to maintain stability and support growth, and scaling down of its Rs.1.4 trillion worth government securities holdings cannot happen abruptly but must be done “methodically”, without disrupting the markets.  

The Central Bank cut rates by 50 basis points on August 19, somewhat surprising the markets, but held the rates steady in October saying they are comfortable with the current level of monetary expansion.

Markets both domestically and globally have priced in sharp and successive interest rate hikes on persistently high inflation fears, but the major global central banks last week pushed back on such claims by citing subdued medium term inflation outlook.    Last week, the United States Federal Reserve announced tapering of its US$ 120 billion a month bond buying programme from November by US$ 15 billion a month, starting the ending of the pandemic era liquidity support programme, but called for patience on rising rates, adding that they would not flinch from action if warranted by inflation.   A day later, the Bank of England disappointed the markets by keeping its benchmark rates unchanged adding that expectation for rate hikes were somewhat overdone, but indicated that the rates would rise in the coming months.

In Sri Lanka, the 3-month Treasury bill yield fell by 25 basis points to 8.18 percent on Wednesday after rising for consecutive weeks and the yields of 6-month and the 1-year bills rose at modest 5 and 8 basis points to 8.21 percent and 8.26 percent after logging double digit increases for many weeks in a row.   Soon after the Central Bank held rates in October, ICRA Lanka Ratings said the Treasury bill rates would level off in the coming weeks ending the wild run seen in the yields until then. 

However, the significantly slower growth in private sector credit growth indicates that the monetary policy transmission of the August rate hike is happening quite fast and effectively.  But, September credit in isolation may not be a good indicator of the trend as the month is largely marred by dampened economic conditions caused by the lockdowns and the foreign exchange liquidity crunch, which fed already soaring prices and caused shortages of many commodities.