CB Chief tells financial sector to reposition to support higher growth path

Central Bank Governor Nivard Cabraal has urged the financial sector to reposition itself to support higher growth path of post-war Sri Lanka.

This recommendation is contained in the just released Central Bank’s Financial System Stability Review 2010.

The Governor said right repositioning will involve enhancing the capacity of financial system to serve all sectors of the economy with an increased array of products.

“The development of a vibrant capital market to supplement the banking sector will also be vital for meeting the financial needs of the economy. Therefore, considerable institutional building, financial innovation and financial infrastructure development, as well as progressive deregulation and more integration with the global financial system will be necessary,” Cabraal said in a message to the Review. “This will also pose considerable challenges for both financial institutions and regulators,” he added.

The Governor pointed out that financial institutions would need to focus on maintaining high credit standards, improving their risk management mechanisms and being well capitalized, while the CBSL and other regulators would have to upgrade prudential and supervisory frameworks and be more vigilant to detect risks and take prompt action to ensure financial system stability and the achievement of the goals for the economy.

In the Review, the CB Chief said Sri Lanka’s financial system remained stable, while its resilience strengthened during the year, with the resurgence in domestic economic growth, significant improvement in macroeconomic fundamentals and the gradual recovery of the global economy.

The financial intermediation revived, as credit growth picked up in 2010, from a contraction last year, to support the expansion in economic activities. Conditions in domestic financial markets improved, as interest rates decreased with the decline in inflation and the easing of monetary policy. The overall soundness of Sri Lanka’s financial institutions was maintained with adequate capital and liquidity buffers and improvements in asset quality and earnings.

The decline in interest rates and recovery in the domestic economy and international trade had a positive impact on risk levels in financial institutions. Consequently, credit risk, market risk and liquidity risk in the banking sector reduced during the year, while the level of capitalization increased. The systemically important payment and settlement system functioned with a very high degree of availability, efficiency and security and improvements were made with business continuity arrangements.

Cabraal also said the regulatory and prudential framework of the financial sector was strengthened with focus on capital enhancements and improvements to corporate governance and risk management infrastructure in financial institutions.

A financial safety net for depositors was introduced with the implementation of a CBSL operated mandatory deposit insurance scheme for banks and finance companies to protect small depositors. In view of the deficiencies in the existing law, a new law for the regulation of finance business has been finalized to combat unauthorized deposit-taking entities and to upgrade the regulation of finance companies. More intensive supervision of finance companies is being enforced.

Progress has been made in resolving the problems of distressed finance companies through the adoption of restructuring and recapitalization programmes to enable these companies to continue business operations and meet their obligations to depositors.

According to the Governor, the proposed Microfinance Act was also finalized during the year which will provide for the establishment of a separate authority to regulate micro-finance institutions to ensure that appropriate standards of governance, accounting, prudence and disclosure are observed in order to strengthen their viability and to protect the interest of depositors and customers. The Banking Act is also being amended to enable consolidated supervision of banking groups and new provisions for mergers and acquisitions and bank resolution measures.

An early warning surveillance system was also designed to alert the CBSL on developments which could trigger a negative effect on the financial system, so that preventive or risk mitigation measures could be taken.

The FSSR 2010 presents the collective assessment of the financial system by the Financial System Stability Committee which is chaired by the Deputy Governor, in charge of financial system stability and is generally based on the performance of the financial sector during the first nine months of 2010.