The COVID-19 pandemic caused and continues to have a multi-faceted impact on the domestic banking sector’s operations. The sector’s recovery is strongly correlated with the rebound of the Sri Lankan economy, says KPMG report on the Banking sector.
With weak results in 2Q-2020 Gross loans and advances increased by just 0.7% Quarter-on-Quarter (QoQ) in the period, with contractions in credit extended to the private sector in May and June 2020, contributing towards this performance.
Banking sector’s Net Interest Income (NII) declined by 3.3% YoY in 1H-2020 due to slow credit growth, declining interest rates and debt moratoriums imposed. Net Interest Margin (NIM) continued to trend lower, falling to 3.2% in 2Q-2020, from 3.4% in 1Q2020, a further decrease from 3.6% recorded in 2019. As at October 15, 2020, under the Saubagya COVID -19 Renaissance Facility, Rs 177.9 billion was approved in total loans, benefitting 61,907 applicants.
The CBSL also decided to go beyond the Rs 150 billion limit on the facility, which it had previously increased from Rs 100 billion, due to the large number of applications received.
The Bank Rate was also lowered to 8.5% in July 2020. All such efforts of the CBSL combined, released Rs 459.4 billion of liquidity into the domestic economy between February and June 2020.
There is however, a significant risk that these measures, whilst supportive in the short-term, are expected to impact the profitability and asset quality of domestic banks, particularly following the expiry of the loan moratorium (end-September 2020 except for tourism related loans).
“We expect to see a rise in Non-Performing Loans (NPLs) as default risk increases toward the end of 2020 with significant increase in credit risk. Provisioning levels are also anticipated to grow as the flexibility in impairment recognition for regulatory and financial reporting purposes, which was previously granted by the CBSL throughout the period of the moratorium which concluded by end September 2020.”
However, in the recent months, up until the second wave of COVID-19 hit in October 2020, there was an uptick in positive business sentiment in the country, as there was minimal community transmission due to successful containment efforts by the Government.
“We expect in the coming quarters, this momentum to continue and as a result private sector credit growth to slowly pick up in 2021, as GoSL has indicated that they do not opt for a prolonged lockdown as earlier, under the current economic situation.” CBSL has taken several measures to revive the economy, since March 2020 with policy revisions, liquidity injections, loan moratoriums, as well as curtailment in imports and foreign currency investments to push towards an economic recovery.
It is noteworthy to mention that the banking sector has maintained healthy capital adequacy ratios (CAR) throughout 2020, reporting a Tier 1 CAR of 13.1% and a total CAR of 16.4% at end-June 2020. This was well above the minimum regulatory requirements.
“With increasing regulatory requirements, there is a likelihood of consolidation within the industry as smaller banks that are faced with more challenging operating conditions and greater profitability pressures may not be able to maintain competitiveness.”
“A positive change witnessed during the pandemic has been the progress of digital banking, which has been accelerated, due to the increasing need to serve customers remotely and efficiently.
This creates opportunities to remodel banks’ operations, focusing more on value addition and quality of service delivery.
In conclusion, due to relief measures aimed at boosting the banking system, it is yet to fully recognise the impact of the pandemic.
The end of the moratorium will determine how the sector is likely to progress in the months ahead.
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