Subdued economic growth drives negative outlook for Sri Lanka banking system: Moody’s

Aug 30, 2019 (LBO) – Moody’s Investors Service says in a new report that its negative outlook for Sri Lanka’s banking system is driven by weak operating conditions and deteriorating asset quality, as a slow recovery in the tourism and related sectors are resulting in subdued economic growth.

“Tourist arrivals declined sharply following the Easter Sunday attacks in Sri Lanka, but have started recovering and should support an improvement in GDP growth in 2020,” says Tengfu Li, a Moody’s Analyst.

Nevertheless, Moody’s points out that fundamental risks to Sri Lanka’s economy remain significant, given its twin deficits and the government’s high reliance on external debt.

Political risks could also resurface, with presidential and parliamentary elections scheduled for late 2019 and 2020, and previous bouts of political instability having triggered significant capital outflows and currency depreciation.

“Weak economic growth will, in turn, result in deteriorating asset quality, also on the back of excessive credit growth in recent years,” adds Li.

Loan growth has since moderated, which should help keep capitalization stable and also ease funding pressure.

However, weakening asset quality is keeping credit costs high, in turn pressuring profitability.

Finally, Moody’s expects the government’s capacity to support banks will be limited given its large amounts of external debt and contingent liabilities.