Vulnerabilities in banking sector require close monitoring: World Bank

While Sri Lanka is witnessing  improvements in its economic  landscape, the World Bank  asserted that the persistent  vulnerabilities in the banking  sector require close monitoring.  Even as the credit conditions  improved, the non-performing  loans (NPL) remained elevated  at 13.4 percent in 3Q 2023,  compared to 11.6 percent at end- 2022, reflecting a deterioration  in the debt servicing capacity in  the economy.  In the recently launched ‘Sri  Lanka Development Update:  Bridge to Recovery’, the World  Bank noted that the recently  introduced temporary freeze  on parate actions may provide  some relief to some business  segments but it would also delay  the recovery of the overdue loans  and may negatively affect the  willingness of the banks to lend. It cautioned that this move  would affect the pricing and  availability of credit for the  private sector, particularly if the  suspension is further extended.

  Similar warnings were issued  by the Central Bank of Sri  Lanka and Sri Lanka Banks’  Association, with regard to the  government’s intervention in  putting on hold the parate rights,  which is typically used as a  last resort. The World Bank said that  the efforts to develop a modern  insolvency regime and revise the  requirements for the functioning  of the business revival units  can help strengthen the NPL  resolution and recovery, by  enabling the provision of  effective alternatives for debt  recovery by the banks.  Although the banks’ capital  adequacy ratio improved from  16.1 percent at end-2022 to 16.4  percent in 3Q 2023 – primarily as  a result of the credit contraction  that took place in the first half  of 2023, the agency noted that  some banks may experience  capital shortfalls, due to the  need to absorb the losses on the  FX component of the domestic  debt restructuring, continued  FX exposures to the state-owned  enterprises and increasing  pressure on their asset quality.  Accordingly, the Central  Bank requested the banks to  submit their recapitalisation  plans in early 2024. A budgetary  provision of Rs.450 billion  (1.5 percent of gross domestic  product) has also been allocated  for the replenishment of the  banks’ capital in 2024.