Economy in disarray, banks flourishing; can this be true?

It is earlier reported that the growth in bank credit accelerated in August despite the tight credit and money conditions and rising non-performing loans in the banking sector. It is further reported that the year-on-year (YoY) growth in credit accelerated to 16.1% in August, from 15.6% growth recorded in the month before. Sri Lankan banks in total have disbursed new loans worth of Rs. 700 billion during the first eight months of this year, a growth of 10.9%, compared to Rs. 524.9 billion reported for the first eight months of 2017.

Despite these positive factors in the banking industry, elsewhere it is also noted that the Business Confidence Index (BCI) of the country reached its lowest level since April 2009 in the last month. The country has experienced many natural disasters during the last couple of years, in-form of floods and drought. Many Small & Medium Enterprises (SMEs) in flood and drought affected areas were wiped off completely. Some of these businesses have not borrowed funds directly from the banks. But, they were supplied with stocks by the wholesalers who have used bank facilities. This scenario has affected their (wholesalers) cash flows and as a result they were struggling to meet their financial commitments of banks. 

The NPAs of Non-Banking Financial Industry (NBFI) have been inclining for the last 12 months rapidly and it was a clear indication and an early warning to say that the country’s economy was not doing well. 

Subsequently, after a couple of days it is reported non-performing loans (NPLs), a key indicator of banking industry’s asset quality rose to 3.6% by the end of August from 3.4% in July and 2.5% at the end of 2017. It is said that during the first eight months, the total non-performing loan volumes rose by 58% or by Rs. 94 billion to Rs. 255 billion. This is very alarming as unlike in NBFI, Banking Financial Industry (BFI) has customers with proven past records and they have been tested for their credit worthiness for a period of time. The report further said, in August alone the non-performing loans grew by 6.7% to Rs. 16 billion compared to the growth of 4.7% or Rs. 11 billion in July.

It is also reported out of the new loans, the rescheduled loans showed an accelerated growth since the beginning of 2018 as the banks were fighting to discipline non-performing loan base. These statistics show a clear evidence that businesses and consumers continue to struggle in servicing their loans on time, despite the fact that the loan portfolios are growing. The growth would have been the result of rescheduled loans. The numbers and the amounts of booked loans would have been taken in to consideration for statistics and not the net growth of loan portfolio.  

The numbers show that banks have rescheduled some Rs. 155 billion worth loans during the first eight months, so that their non-performing loans look smaller and the balance sheet more appealing. As per the data available for the last year, this is an increase of over close to 70% in rescheduled loans. Hence, the Central Bank of Sri Lanka (CBSL) is said to have estimated the likely NPA ratio at 5.0% by the end of August.

However, though this scenario is highlighted now, there has been a mismatch of performance of business enterprises and performance of banks for the last couple of years or more. This was highlighted sometime back by a former minister who was in charge of state banks. 

The independent variables that drive the performance of banking industry

There are three main independent variables that influence the banking industry of Sri Lanka. Those are the internal policies and issues of individual banks, the industry practices relevant to the banking industry and the policies of the regulator (CBSL) and government. These are the main independent variables those that drive the Key Performance Indicators (KPIs) such as the profitability, growth of the portfolio, return on equity, portfolio per employee and the non performing advances (NPA) of the industry and of individual banks.

Internal policies and issues of individual banks

According to the latest Central Bank data, the banks are now watchful when granting new facilities after their non-performing loans were increased. It is published the banks have granted Rs. 46 billion in credit to private sector individuals and corporation for consumption and investment purposes in August, a notable control from Rs. 82.6 billion in June. Under these circumstances, if no substantial amount of recoveries are done from NPA, the NPA ratio will automatically incline due to less disbursements of loans in the coming months. 

Now the banks are extra vigilant and the impact will create the pressure on bad as well as on the good customers. The customers who are in the border line might fall to the bad category. There won’t be any spoon feeding to these customers in future. To get over the situation, they (customers) might turn in to informal borrowings at unaffordable rates of interests from the local market. This will make the matters worse for them. They might fall in to the point of no return.

True, banks are not charity organisations. But, the fact remain that Sri Lanka is not a developed country with a booming economy. There should be an internal and effective mechanism in the banking system to assist these borderline customers. By doing this banks might lose an inconsequential margin of their huge profits but still they contribute something back to the society which is better than most of their CSR projects. However, wilful defaulters should be dealt with appropriate remedies.      

A researcher who has touched on financial industry in the Middle East and North African regions with a special focus on lending access to finance and economic growth of Egypt proved, lack of lending appetite of the staff could be seen in a poorly operated credit markets. The incompetency of the staff and internal process of banks and companies are the most likely reason for this factor. 

Hence, the bank should apply a well-balanced policy to overcome the present crisis as some of the customers who have been performing well are helpless at this juncture due to the current economic situation in the country.

Industry practices relevant to the banking industry

Dealing with customer effected by natural disasters 

One of the main factors that affects the economy and bank NPA is natural disasters. The 2016 floods and landslides caused damage that was more than twice that of the worst floods between 1992 and 2011 in Sri Lanka. Though the acts of god are to be blamed for natural disasters there are remedies which could be followed after a disaster, for a full recovery.

There is no industry practice to handle customers who are affected by the natural disasters in the country. Individual banks have their own mythology of addressing them. In the absence of a laid down industry procedure, customers are helpless and unaware as to how the problem could be addressed and overcome.  

At the CEO Forum of the Biodiversity Sri Lanka (BSL) on ‘Climate Change Challenges and Solutions for Sri Lankan Businesses’ Attorney-at-Law Lalanath de Silva, a public interest litigator in the area of environment attached to the Green Climate Fund (GCF), headquartered in South Korea has mentioned that the funds are available to invest in low-emission and climate-resilient development to help vulnerable societies exposed to climate changes. It has raised $10 billion to invest in developing countries which are in need of funds. 

As Sri Lanka is highly exposed to natural disasters he further mentioned, it is of utmost importance for Sri Lanka to build physical and financial resilience to deal with the impact of disasters. Other than the GCF there are many international funding sources that authorities can approach to build resilience to the impacts of climate changes but which are not adequately made use of so far. The $8 billion Climate Investment Funds (CIF), supported by the World Bank which provides low-cost, long-term funds, Global Risk Financing Facility (GRiF), set up with money from Germany and Britain and the Netherlands CDM (Clean Development Mechanism) are three other funding lines available for this purpose. 

Top banks of the country with the blessings of CBSL can initiate such funding lines to assist the customers who are badly affected and helpless due the natural disasters. Sri Lanka as a small island is more vulnerable to climate changes than other countries and all responsible lending institutes should realise that fact.

Short cutting the system for quick gains

Banks now started to feel the pressure of genuine economical set up of the country. They were standing in the last spot on the row. NBFI was standing before them and they absorbed the impact to a greater extent, before. Finance companies have been manning the Forward Defense Lines (FDLs). Some of the customers used unsecured loan facilities offered by NBFI to settle their non-performing bank loans. NBFI’s cash cow, leasing business has been disciplined and curtailed by the Loan to Value ratio (LTV) by CBSL and they have been looking at other business avenues. 

Some Bank Managers capitalised on the circumstance and encouraged their customers to obtain facilities which were on offer at NBFI counters to settle their loans, promising once their NPA loan is settled the customer will be granted a higher facility which most of the banks couldn’t honour due to their internal policies, implemented subsequently. The customers in question who were struggling, obtained short term bridging facilities from local informal money lenders to clear their CRIB records and obtained facilities from the NBFI in order to settle their overdue overdraft facilities and other overdue loan facilities. 

This is one of the reasons for the NBFI-NPAs to incline. This set-up has disturbed the whole financial industry as unlike the BFI the NBFI didn’t have adequate powers such as parate rights and industry image to deal with defaulted customers. However, the banks didn’t realise that they were next in the hit list. The wave has now hit the banking industry. Both NBFI and BFI are in dependable industries against the country’s economy which is independent within its own framework. If the country’s economy performs well both these industries and their customers will perform well.

The polices of the regulator (CBSL) and Government

At the recently held National Economic Council (NEC) meeting in consultation with the Finance Ministry and the CBSL on implementing short-term measures to improve foreign exchange inflow in dealing with the current foreign exchange crisis, it was voiced the lack of consistency in economic policies in the country, especially in the tax policies introduced by the Government. They claimed that this situation has a worse adverse impact than the current rupee depreciation. They also pointed out although the Government has tried increasing revenue through taxation, the budget deficit can be solved through increasing income.

As voiced correctly, the policies of the regulator and the Government are very vital to have consistency in the stability of the banking industry. A stable policy structure implemented by the Government and the regulator will allow BFI to sail smoothly over a period of time and the consequence of same can be enjoyed by customers too. 

Indicators for NPA projections

The Index of Industrial Production has increased by 0.4% in August compared to a year earlier, Department of Census and Statistics (DCS) revealed. However, it has increased by 7.4% in August 2017 compared to 2016 and 2017 statistics which means this year’s performances are not worthy as the last year. 

The latest LMD-Nielsen Business Confidence Index (BCI) survey reveals that economic sentiment deteriorated in September with only 5% of respondents expecting conditions to improve in the next 12 months.

Moody’s Investors Service says international bonds issued by Sri Lanka (B1 negative) is coming due over the next two years in a tighter refinancing environment. It said Sri Lanka and two other countries are most exposed to more costly debt financing as their international sovereign bonds mature in 2019 and 2020. To make matters worse the year-to-date (as of 13 October) net foreign outflow is Rs. 6.6 billion in equities and Rs. 74.3 billion in securities. It is also reported the July worker remittances down 1.6% to $ 619 million and it is in a declining trend. The crashing rupee, rising oil prices and the festive importer demand could drive the prices further up during the next few months. The Sri Lankan rupee has lost its value by over 10% so far this year against the US dollar. Oil prices in the world market have risen 22% this year.

Consider these facts it is predicted that the NPAs of BFI will further incline along with NBFI-NPAs.

Conclusion

For any industry to sustain a well-established clientele is needed. Banking industry alone can’t celebrate in the country when all other industries are paralysed. Hence, the banking industry should come forward to help other industries to withstand at this crucial moment. If not, the entire system might collapse. More empathises should be given to research the situations and appropriate remedies should be implemented accordingly to overcome them. Sri Lankan Government and the CBSL should come forward to prepare an integrated policy to address the present situation on short term, medium term and long term basis.

(The writer is the founder of Infornets, an organisation which is formed with the intention of sharing credit related information and financial knowledge to less informed people, locally and globally. He counts 35 years of experience in the Non-Banking Financial Industry of Sri Lanka. He is a former CEO/General Manager of a non-bank financial institution. He holds a Master Degree in Business Administration from the UK. He is a Member of Institute of Management of Sri Lanka and an Associate member of Sri Lanka Association of Advancement of Science. He can be reached via www.infornets.com or [email protected].)