23 May, 2014 14:27:07
May 23, 2014 (LBO) - A credit guarantee scheme announced by Sri Lanka for banks lending against gold is positive for banks which have been hit by defaults, Moody's, a rating agency said.
Sri Lanka's which is recovering from a balance of payments crisis triggered by credit financed energy subsidies, saw non performing loans in the banking system rise to 5.6 percent of total by end 2013 from 3.7 percent a year earlier.
Moody's said 75 percent of the total increase in bad loans were from gold-backed or pawning defaults. World gold prices topped 1800 US dollars an ounce amid excessive money printing by the US Fed and fell to 1200-1300 dollar levels last year.
Gold bears expect the precious metal to fall to around 1,000 an ounce as the Fed pulls back is quantity easing.
Moody's said underwriting standards fell in Sri Lanka after 2009 and banks were advancing as much as 80 to 95 percent of loan-to-values against gold and were exposed once prices fell.
Sri Lanka commercial bank gold backed loans Moody's Lanka Business Online
State-run banks were among the biggest lenders. The credit is used by small and medium enterprises.
Moody's said banks reduced the LTV ratio to 65 percent and raised interest rates to around 18.7 percent from 17.5 percent when lending rates were falling to discourage gold backed loans.
The pawning loans stock had fallen 17 percent over 2013.
The Central Bank announced a credit guarantee scheme that may see about 15 percent of cover for loan to value ratios.
"Although the government's details on the mechanism are scant at this stage, we estimate that a partial guarantee is more likely because of the government's constrained fiscal capacity and the history of government guarantees," Nick Caes, a Moody's Associate Analyst said in a statement.
"Still, even a partial guarantee would be credit positive for Sri Lanka's banks because it will support the currently weak quality of their pawning loans, which constituted a substantial part of the recent increase in banks' nonperforming loans."
Although the new guarantee scheme will focus only on new pawning loans, Moody's says may help existing borrowers to refinance their pawning loans, perhaps at a lower rate, leading to improvements in the quality of the asset class.