Central Bank’s Financial Stability Review 2023 reveals strained balance sheets, deterioration in credit quality, and sectoral risks

The strained balance sheets of the household and the corporate sectors in the backdrop of the severe economic crisis which resulted in an erosion of real income levels amid elevated price levels, hindered the debt repayment capacities of households and corporates, the Central Bank said in its Financial Stability Review for the Year 2023.

Households and the corporate sectors, which account for a significant share of financial consumers within the economy, witnessed deterioration in credit quality during the period under review, highlighting concerns for the financial sector, it said.

“While time-bound Non-Performing Loans (NPL) ratios of both the household and institutional sectors increased during the period under review, the former was at a higher level indicating higher default risk within the household sector. Moreover, within the household sector, the NPL ratio of loans obtained for Micro Small and Medium Enterprises (MSME) purposes was higher compared to that of loans obtained for household purposes,” Central Bank said.

The Licensed Finance Companies (LFCs) sector has shifted to pawning/gold loan facilities in the first nine months of the year and this has heightened the sector’s risk to fluctuations in global gold prices.

“The loans and advances portfolio of the Licensed Finance Companies (LFCs) sector contracted significantly during the year ending Q3 of 2023, particularly due to the restrictions on vehicle imports which affected leasing and hire purchase activities,” the CBSL said.

Amidst the decline in the core business, the LFCs sector diversified its activities particularly towards pawning/gold loan facilities, the Central bank said. The asset quality of the sector also deteriorated as indicated by the worsening loans to total loans ratio, the Central Bank said.

“Meanwhile, overall liquidity of the sector remained at an acceptable level while few companies faced difficulties in meeting liquidity requirements. Exposure of the LFCs sector to the sovereign also increased amidst rising investments in Government securities,” the Central Bank said.

Successful implementation of the Masterplan for Consolidation of Non-Bank Financial Institutions (NBFIs) introduced by the Central Bank in the latter part of 2020 helped to build the confidence of the sector, Central Bank said. However, the continued need for consolidation exists in the LFCs sector to ensure resilience.

“Going forward financial institutions, particularly banks, LFCs and insurance companies would have to closely monitor their exposure to the sovereign and implement prudent measures to minimize such risks to ensure stability of the sector,” the Central Bank said.