brand logo

Following Moody’s, Fitch too criticises lending rate cap

11 Oct 2019

The lending rate cap recently imposed by the Central Bank of Sri Lanka (CBSL) on rupee-denominated loans extended by banks may not improve loan growth in the short term, Fitch Ratings said last week. To the extent banks cannot price for risk in order to make hurdle rates of return, they may extend less credit for riskier consumer and commercial loans that carry higher losses, the credit rating agency noted in a press release on the CBSL decision. It added that lower lending rates may not be sufficient to spur credit demand to stimulate economic growth, given the nation’s weak borrower sentiment and subdued economic activity. Banking sector loans contracted by 0.5% at the end of June 2019 from December 2018, driven by a reduced appetite for lending among banks and weakened credit demand against a challenging operating environment. The CBSL directive to cap lending rates was a response to regulatory concern over deceleration in credit demand and continued increases in nonperforming loans (NPL). The CBSL’s actions are intended to accelerate the effects of previous measures to reduce lending rates, including a reduction in policy rates, a decrease in the Statutory Reserve Ratio (SRR), and a cap on rupee deposit interest rates that has since been lifted with the introduction of the lending rate cap. “Bank profits, already weakened by higher credit costs and effective tax rates, could see further pressure, given our expectation of continued subdued loan demand. In the near term, the lending rate cap may have a limited impact on bank net interest margins. Yield pressure on loans from caps on incremental lending and when loans come up for renewal will be partially offset by lower funding costs given the progressive repricing of deposits, as the CBSL imposed a cap on rupee-denominated deposits in April 2019,” Fitch said. However, the ultimate impact depends on several variables, including the composition of individual bank loan portfolios, it added, noting that banks are required to reduce interest penalties on delinquent loans to a cap of 400 basis points by 15 October, which may not be sufficient to facilitate a reduction in NPLs. The trend of rising NPLs continued into 2019, with the sector-wide NPL ratio climbing to 4.8% at end-June 2019 from 3.4% at 31 December 2018. “Credit risks are likely to linger, reflected in an increase in restructured loans. The reduction in lending rates may help to alleviate pressure on the accretion of NPLs. However, asset quality stresses are expected to remain until economic activity resumes,” Fitch said. The CBSL ordered banks to reduce the interest rates on all rupee-denominated loans and advances by at least 200 basis points by 15 October, from the interest rates charged at 30 April 2019. Banks do not need to reduce rates if the interest rate is currently at or below 12.5%. Rates on certain products, while reduced, remain high, with credit card annual percentage rates capped at 28%; leases and gold-backed loans are excluded. The CBSL also requires banks to reduce the weekly Average Weighted Prime Lending Rate (AWPR) by 150 basis points by 1 November and by at least 250 basis points by 27 December, compared to the AWPR at 26 April 2019. Banks with AWPRs at or below 9.5% are excluded. The AWPR of domestic commercial banks was already at least 100 basis points lower at end-September 2019 than at April 2019. The CBSL indicated that it expects to review this order at end-March 2020. The Fitch assessment of the CBSL decision follows a Sector Comment by Moody’s Investors Service on Sri Lankan banks saying the lending rate cut is credit negative for banks as it would compress their net interest margins (NIM) and add to their existing profitability challenges. However, the CBSL countered by saying that the conclusion by Moody’s has not taken into account the complete information set, and is therefore “unfounded”. “The CBSL has taken a number of measures over the past 11 months to ease monetary policy and monetary conditions in view of decelerating growth of credit and monetary aggregates and subdued economic growth, amidst well-anchored inflation expectations. Amongst these measures, the reduction in the SRR by 2.5% in two steps has enabled licensed commercial banks (LCB) to invest additional funds amounting to around Rs. 150 billion in revenue-generating activities. The reduction in SRR has also improved rupee liquidity in the domestic money market, while a further reduction in money market interest rates has been effected by reducing policy interest rates by 100 basis points in two steps in May and August 2019,” CBSL said in the press release. It added that the imposition of caps on deposit interest rates of licensed banks in April 2019, which was subsequently removed in September 2019, was aimed at limiting unhealthy competition in deposit mobilisation amongst banks and assisting them to reduce lending interest rates. “This temporary cap imposed in consultation with banks helped reduce the Average Weighted New Deposit Rate (AWNDR) by 284 basis points within four months since end-April 2019. However, in spite of continued deliberations with banks, most market lending interest rates have been downward rigid, unlike deposit interest rates as well as rates on short-term funds and government securities.” It added that with the substantial decline in cost of funds, in terms of lower SRR, lower money market interest rates, lower policy interest rates, and lower deposit interest rates, along with the allowance of sufficient time for banks to adjust lending rates downwards, the CBSL has sought to minimise any disruption to the smooth operation of the banking system as well as its profitability. The CBSL also specifically addressed the concern about NIMs, saying it does not expect a material change in interest margins of the banking system arising from the imposition of caps on lending rates, holding other factors constant. The CBSL has also announced its intention to review this action by March 2020. It further justified the lending rate caps by saying that more “realistic” nominal and real lending rates are expected to stimulate economic activity gradually, thereby boosting the demand for credit. “This, along with improved repayment capacity of borrowers at lower interest rates, will help strengthen licensed banks, going forward, including by addressing the challenge of rising NPLs.” However, the CBSL has not issued a statement responding to the Fitch assessment of the lending rate cap.

Kapruka

Discover Kapruka, the leading online shopping platform in Sri Lanka, where you can conveniently send Gifts and Flowers to your loved ones for any event. Explore a wide range of popular Shopping Categories on Kapruka, including Toys, Groceries, Electronics, Birthday Cakes, Fruits, Chocolates, Automobile, Mother and Baby Products, Clothing, and Fashion. Additionally, Kapruka offers unique online services like Money Remittance, Astrology, Medicine Delivery, and access to over 700 Top Brands. Also If you’re interested in selling with Kapruka, Partner Central by Kapruka is the best solution to start with. Moreover, through Kapruka Global Shop, you can also enjoy the convenience of purchasing products from renowned platforms like Amazon and eBay and have them delivered to Sri Lanka.Send love straight to their heart this Valentine's with our thoughtful gifts!

Discover Kapruka, the leading online shopping platform in Sri Lanka, where you can conveniently send Gifts and Flowers to your loved ones for any event. Explore a wide range of popular Shopping Categories on Kapruka, including Toys, Groceries, Electronics, Birthday Cakes, Fruits, Chocolates, Automobile, Mother and Baby Products, Clothing, and Fashion. Additionally, Kapruka offers unique online services like Money Remittance, Astrology, Medicine Delivery, and access to over 700 Top Brands. Also If you’re interested in selling with Kapruka, Partner Central by Kapruka is the best solution to start with. Moreover, through Kapruka Global Shop, you can also enjoy the convenience of purchasing products from renowned platforms like Amazon and eBay and have them delivered to Sri Lanka.Send love straight to their heart this Valentine's with our thoughtful gifts!


More News..