Banks lent to non-existent businesses

The unbridled extension of credit by banks over the past three years has been a cause for concern. This is because the focus of the banking system during this period ought to have been on consolidation and not on credit expansion.

The doubling of credit over this time-frame has been a significant factor contributing to the Cost-of-living Index having increased to an annual average of 12%. Cases of banks and financial institutions lending to even non-existent businesses have been identified, according to Dr P B Jayasundara, Secretary, Ministry of Finance & Planning who made these observations while stressing the need for the banking system to improving the ‘quality’ of its lending.

Explaining the rationale behind the budget proposal, impacting banks and financial institutions, that restricts provisioning for bad debts to 1% of loans outstanding, Dr Jayasundara said that this proposal would nudge banks towards improving credit quality. The handsome spread that banks earn between their borrowing and lending rates would make it possible for the banking system to absorb the higher taxation. The focus on ‘lending quality’ would result in slower credit expansion and would also have a beneficial effect on inflation.

He was speaking at a seminar on ‘Budget 2007: A Path Ahead’ organized by the Society for International Development’s Sri Lanka Chapter, held last week in Colombo.

Dwelling on budget making, he said that the consultative process adopted this year resulted in 760 individual proposals being received, in addition to some very comprehensive proposals from the chambers. This ensured wide stakeholder participation. Every single proposal had to be evaluated, resulting in the task being more difficult than it would otherwise have been. Despite this bottom-up approach that was adopted, the budget succeeds in capturing the underlying vision of ‘Mahinda Chinthana’.

This year’s GDP growth of 7% is being achieved despite a slew of challenges like post-tsunami reconstruction, high oil prices and the escalation of violence, Dr Jayasundara pointed out. The broader gamut of initiatives that has resulted from the consultative process would help achieve the 8% growth that has been targeted in next year’s budget. Casting the onus for delivering this growth squarely on the private sector, he indicated that, with the sole exception of the railways, no sector of the economy is controlled by the public sector.

Presenting the macro-economic and central bank perspective, Dr Rani Jayamaha, Deputy Governor, Central Bank of Sri Lanka highlighted the three underlying themes of the budget:
• Achieving sustainable economic growth beyond 8%
• Attempting to reduce income disparities by focusing on building infrastructure, while simultaneously addressing poverty and unemployment
• Becoming a service hub in South Asia that links up with the global supply chain.

While highlighting the urgent need to control inflation, she said that the various proposals to reduce expenditure and increase revenues would help. The measures to curb credit expansion would also go towards alleviating the problem. Dr Jayamaha described the budget as a “forward-looking, stage-setting document that sets out a ten-year strategic horizon”.

Looking at the budgetary provisions from the private sector perspective, Nirmalie Samaratunge, President, The National Chamber of Commerce of Sri Lanka described the budget as “progressive” and indicated that it is geared to stimulate growth. She was also of the view that the budget aims at addressing the country’s economic future and ensuring its fiscal stability.

Some positive features for the private sector were that there are no new taxes, only modifications in tax rates; the energy issue has been adequately addressed; the budget helps to embrace advanced technologies and promotes Research and Development. She identified the three thrust areas of macro-economic consolidation:
• Sustainable GDP growth, in conjunction with a reduction in the budget deficit and management of inflation
• Regional and rural development beyond the Western Province
• Development of infrastructure.

Samaratunge also cautioned that implementation would be the key to success. She probably stated the obvious by concluding that the over-riding consideration in achieving the budget goals is the return to peace: “Development must go hand-in-hand with peace.”