Sri Lanka has decided to suspend its debt recovery tool known as parate rights provided to listed commercial banks until 15 December to allow the Small and Medium-sized Enterprises (SMEs) sector to revive and protect its properties given as securities to the banking sector.
The parate execution process commences from the day a facility goes into the Non-Performing Loan (NPL) category, which will end up at the auction with the sale of the asset provided as security so that the banks can recover the loan. The average period between the recovery of the loan and the auction is about 18-24 months.
It is unclear whether the law has already been passed to suspend parate execution, since newspaper advertisements of the auctions are still being published. Accordingly, The Sunday Morning decided to investigate whether banks have suspended the practice, whether the period provided is sufficient for SMEs to gain independence, and whether an extension on the suspension deadline is possible.
Has it been suspended?
Speaking to The Sunday Morning, Micro, Small, and Medium-sized Enterprises (MSME) Chamber Member Susantha Liyanaarachchi said that although parate suspension had not become a law through Parliament, some banks had already suspended parate execution since they knew it would become law. However, he added that some banks were still continuing the process.
He said that the bill to amend the Recovery of Loans by Banks (Special Provisions) Act No.4 of 1990 had not been included in the Order Book of Parliament but would be taken up following the Party Leaders’ meeting on 25 April.
The MSME Chamber is of the view that parate auctions cannot happen from the date of issuance of the gazette on parate suspension, which was 13 March.
Moreover, he said that although some of the auctions had been published in newspapers, the banks, upon inquiry, had stated that auctions related to loans that were in default before 2019 had taken place.
Last week, a State-owned national newspaper carried auction announcement advertisements from banks such as Nations Trust Bank, DFCC Bank, and Pan Asia Bank on the sale of properties due to defaulted loans, mainly in the construction sector.
Speaking at a webinar in February, DFCC Bank Chief Executive Officer (CEO) Thimal Perera said that bank facilities provided to the construction sector and vehicle importers were continuing to cross over to the Stage 3 NPL category while the loans provided to tourism, agriculture, and vehicle spare parts sectors had been recovered.
Liyanaarachchi noted that chamber members were yet to raise any serious concerns on parate execution after the issuance of the gazette notification.
However, he said there was another loophole followed by the banks where they tried to hold auctions in Colombo, away from the properties, when the law required the auction to take place at the auctioned property, but this practice had now been discontinued after concerns had been raised.
Banks enjoyed high interest rates
Liyanaarachchi said that banks had collected enormous profits since 2019, especially due to the high interest rates that had existed due to high inflation.
“The banks have strengthened themselves for another 10 years and will not fall. However, the entrepreneurs, industrialists, and businessmen fell when the moratorium extension was converted to a loan and the single-digit interest rates were increased to 30%,” he said.
He noted that the listed commercial banks had enjoyed huge profits from the high interest rates the country experienced in the previous year, as clearly mentioned in their financial statements.
According to First Capital, the Profit Before Tax (PBT) of the big six listed banks grew by 93.4% Year-on-Year (YoY) to Rs. 32.1 billion in the fourth quarter of 2023.
Liyanaarachchi said that businessmen could not pay the high interest rates demanded by the banks in an environment where direct and indirect taxes had been increased and the market contracted, resulting in the fall of the SME sector.
According to him, 263,000 micro-level businesses have completely closed down since last year.
“According to the data, the country has recovered to an extent where the reserves have increased and inflation has come down to single digits, but I ask the economists to look at the difference between the increased reserves and the fall of the export economy,” he said.
A survey by the Department of Census and Statistics in 2023 revealed that the number of active MSMEs was 1.3 million by the end of 2018, out of which 79.8% remained active at the time of the survey in May 2023 while the remaining 20.2% were either permanently or temporarily closed.
Seeking further extension of parate execution
Liyanaarachchi said that although parate execution was suspended until 15 December, the chamber would conduct a survey by November on whether businesses had restarted and whether the SME sector loan payments had picked up and thereby seek a further extension on the suspension.
“We will not create a situation where banks can start executing parate in huge numbers just after the deadline, because if the GDP is strengthened, businessmen are also strengthened,” he said.
However, he added that if the GDP continued to contract in the future and the export economy was not strengthened, they would request an extension of the deadline based on economic factors.
He noted that the main reason for the difficulties faced by the two State banks during the economic crisis was the provision of loans to individuals through the political intervention of the Government.
He said that People’s Bank had already written off Rs. 58 billion as bad debt and that there were rumours that another Rs. 84 billion was set to be written off as bad debt by the two State banks.
“We will wait and see if such a thing will happen and take appropriate action as a response to such a move,” he said.
In February this year, Justice Minister Dr. Wijeyadasa Rajapakshe said that the staggering amount of loans extended by the two State banks totalled approximately Rs. 602 billion, much of which was destined to be written off as bad debt due to non-payment.
Parate law yet to be passed
A senior banker from a private bank, who wished to remain anonymous, told The Sunday Morning that the parate execution suspension had not been put into law yet and that although it had been gazetted and submitted to Parliament, it had not gone through the complete process in Parliament.
“There is nothing preventing the banks from taking parate action until the suspension is passed as law,” he said, adding however that some banks had stopped executing parate because they had decided to support the policy decision taken by the Government.
He said that considering the reputation of the banks and since the suspension was only for six months, some banks did not want to be seen auctioning properties when the Government had taken a decision, with only the formality of making it a law yet to be concluded.
However, he said that the decision to suspend parate executions was seen merely as an election gimmick rather than an economic decision.
“Some of these businesses [which wanted parate suspension] have been enjoying moratoriums since the Easter Sunday attacks. There was also the tourism moratorium that was extended during Covid,” he noted.
Business Revival Units
The banker noted that along with parate suspension, there was another ongoing effort where the Central Bank of Sri Lanka (CBSL) issued directions to banks requesting to set up internal units in banks to revive and support businesses.
The CBSL issued broad guidelines to licensed banks on 28 March to further strengthen the functions of already established post-Covid-19 revival units and reformulate units such as Business Revival Units (BRUs).
Accordingly, Licensed Commercial Banks (LCB) are required to establish BRUs by mid-May and be fully compliant with the requirements of the circular by 1 July. The enhanced scope of proposed BRUs will facilitate sustainable revival of viable businesses affected by the extraordinary macroeconomic conditions and ensure the proper handling of the increased impaired assets of licensed banks.
“The challenging macroeconomic conditions that prevailed during recent years have led to disrupting the income generating activities of businesses, adversely impacting the ability of borrowers to duly repay their loans and thereby impairing the recovery process of licensed banks. Thus, the setting up of BRUs is considered imperative to assist both performing and non-performing borrowers of licensed banks whose businesses are fundamentally viable to revive,” the CBSL said in a statement.
Accordingly, the banker opined that the authorities were perhaps trying to prevent the banks from undertaking parate execution for six months so that, by the end of the deadline, banks would devise other mechanisms which would put them in a better position to take the conciliatory route rather than the parate route.
Further, in terms of the impact on the banking sector due to parate suspension, the banker said that not having parate rights would have a huge impact on banks, since the longer the execution was delayed or extended, the higher the impact would be on the banking sector.
According to him, banks will pass down the cost of parate suspension to customers via other means.
Will the suspension period be enough for biz to recover?
Speaking to The Sunday Morning, an economic analyst from a leading investment bank in Colombo, who also wished to remain anonymous, said that whether businesses would have enough time to get back on their feet before the suspension deadline would depend on how the economy picked up and the low interest rates.
He said that the suspension was merely providing some breathing space to SMEs. “From another perspective, the banking sector has BRUs which are now going to be established more formally. Increased dialogue with the banking sector will help SMEs to get back on track,” he said, adding that the BRUs would be involved in the rescheduling or restructuring of loans.
He noted that such procedures to recover loans would be more helpful than parate execution to the banking sector.
Interest rates, credit and import demand essential
Moreover, the analyst noted that it was difficult for the interest rates to decline significantly from the current levels due to the huge domestic debt stock that the Government now owed. However, he noted that private credit growth should start to pick up from the current level of interest rates.
He added that an overall credit growth expansion could be witnessed but that the parate execution suspension would dampen it slightly. “The banks are not too certain whether it will be an additional risk for them to lend given the suspension of parate execution,” he said.
He said that it was difficult to assess the impact of the parate suspension on the banking sector and that it would depend on whether the suspension was extended further.
“The extension of parate suspension beyond the deadline will be a decision for the new government that will come into power after the election,” he added.
Further, the analyst said that import demand, which was essential for economic recovery, had started to pick up with the rise in consumer demand, especially during the Avurudu season where demand for more essential and discretionary items such as clothes had increased.
He noted that during the past few months, with the exchange rate appreciation and current stabilisation around Rs. 300 per US Dollar, importers had benefited as the imports had become cheaper.
“Electricity prices being revised down and salary increments in the State and private sectors helped disposable incomes to improve slightly, increasing consumer demand which naturally resulted in improved import demand,” he said.
Banks compelled to reduce risk capital
Speaking at a webinar organised by CT CLSA on Wednesday (17), former Governor of the CBSL Dr. Indrajit Coomaraswamy said that the suspension of parate execution was a completely self-inflicted and unjustified headwind that had been thrown into the recovery process.
“I haven’t talked to anybody in the Central Bank, but I would be extremely surprised if anybody in the Central Bank thinks this is a good idea,” he said.
He added that the suspension would immediately compel banks to reduce their risk capital and that banks would attach a high-risk premium to their lending, which would increase the cost of credit.
He said that in addition to reducing the risk appetite, the availability of credit would also decline, leading to the cost of credit increasing. “It is a singularly bad move and SMEs will be the most affected,” he added.