New loans to the private sector generated from the domestic banking sector amounted to Rs. 487.7 billion in 2011, a huge increase from new loans amounting to Rs. 290 billion created in 2010 but the Treasury said the bulk of those loans were for imports.
Of the new loans created in 2011, the domestic banking sector had approved 1 percent to the agriculture sector, 3 percent to the plantations sector, 0.35 percent to the livestock and dairy sector, 0.29 to the fisheries sector, 7.89 percent for trade, 15.16 percent to the service sector and 13.36 percent to the construction sector, the 2011 Annual Report of the Ministry of Finance and Planning noted.
Around 28.4 percent of new loans created in 2011 were for consumption and 30.58 percent were classified as ‘other’. Treasury Secretary Dr. P. B. Jayasundera said the ‘other’ category were loans given for unspecified purposes. "Banks have not given a reason for these loans," he told journalists last week.
Despite banks expanding rapidly since the end of the decades-long conflict, he said the SME sector and the real economic sector were virtually untouched by the banking sector.
"Banks need to change from being trade biased financiers to real economy biased financiers. We have asked the Central Bank Governor as the regulator to bring about a change where local producers and manufacturers will get a 10 to 18 percent share of total bank lending," Dr. Jayasundera said.
He accused banks of favouring the opening of letters of credit (LCs) whereby loans were granted to importers. "We also know that many banks have the practice of opening back-dated LCs when policy adjustments take place, we know this is happening although we cannot prove it."
The Treasury’s annual report highlights the ‘unsatisfactory’ role played by the country’s banking sector.
"The allocation of resources by banking and financial institutions often seems to have favoured financing the importation of commodities and motor vehicles. Lending to value added real economic activities have been constrained by the conventional approach to banking and collateral based lending. The project financing approach has not received adequate attention by these agencies by way of promoting new financial instruments.
"In the context of the possibilities of replacing imports of a wide range of products in the interest of the national economy, the country’s banking sector has a special responsibility to divert enhanced resources, while professional development and investment bankers should promote investment in the real economy in place of imports," the Treasury said.
Dr. Jayasundera’s criticism of the banking sector became more pronounced in 2010 when he on two occasions berated the banking system. Since the conflict ended in May 2009, the Central Bank has been reducing policy interest rates in a bid to stimulate credit flows to the private sector. But while credit to the government and public institutions grew at 19 and 119 percent as at June 2010, credit to the private sector had been sluggish, growing at 6.2 percent. Commercial banks had meanwhile invested heavily in government securities and this had irked the government to some extent.
"The government is concerned as to why our commercial banks charge a high spread for their lending and making enormous profits without being sensitive to the development needs of the country. We in the Treasury often hear from the private sector about the difficulties in borrowing," Treasury Secretary Dr. P. B. Jayasundera said delivering the 60th Anniversary Oration of the Central Bank in September 2010.
"Access to finance as well as high cost of interest despite a well distributed branch network across the country, are two main concerns that the entire private sector keeps raising with one voice. There is concern over the rigidity towards downward adjustment in lending rates as well as over the long lag involved in such adjustments," he said.
Many of the country’s banks have also increased their loans to deposits ratios in recent months, in some instances nearing 100 percent or more, and Fitch Ratings has pointed out that director boards of these banks would be challenged to bring down the ratio to ensure sustainability.