Confidence in Sri Lanka’s banking system has shown signs of improvement in 2024, following a significant downturn in 2022. A recent survey conducted by the Central Bank among professionals in banking, insurance, finance companies, stock brokering, and unit trusts reveals a cautiously optimistic outlook, despite the overall sentiment remaining negative.
Steady Recovery in Systemic Risk Perceptions
The Systemic Risk Survey (SRS), conducted biannually by the Central Bank since 2017, indicates a gradual enhancement in confidence levels within Sri Lanka’s financial sector.
A notable portion of respondents now express being “fairly confident” or better about the stability of the financial system. This marks a positive shift from the pervasive uncertainty experienced during the economic crises of the past two years.
Despite this progress, the net percentage balance remains negative, signaling that overall confidence has yet to fully recover to pre-crisis levels.
Key Drivers Behind the Improved Sentiments
Several factors have contributed to the uptick in confidence, as highlighted in the Central Bank’s Financial Stability Review.
Factors Contributing to Enhanced Confidence
- Domestic Debt Restructuring: Successfully restructuring domestic debt has alleviated some financial pressures, fostering a more stable economic environment.
- Improved Macroeconomic Conditions: Enhanced macrofinancial conditions have played a crucial role in boosting market sentiments.
- Declining Risk of High Impact Events: The perceived probability of significant financial disruptions has decreased, contributing to a more positive outlook.
These elements have collectively supported the gradual recovery of confidence among financial sector respondents.
Persistent Challenges and Remaining Risks
While there are positive signs, several key concerns continue to weigh on the banking system’s stability.
Ongoing Concerns in the Financial Sector
- Domestic Macroeconomic Risks: Persistent macroeconomic challenges continue to pose threats to financial stability.
- Institutional Risks: Financial institutions face ongoing risks that require vigilant management and strategic planning.
- General Economic Uncertainties: Broader economic uncertainties remain a significant concern for respondents, impacting their overall confidence.
These issues highlight the need for continued focus on risk management and economic stabilization efforts.
Historical Context and Recent Developments
Understanding the backdrop of Sri Lanka’s banking challenges provides context for the current improvements in confidence.
Timeline of Key Events
| Year | Event |
|---|---|
| 2021 | Peak excess liquidity at 248 billion rupees |
| 2022 | Severe forex shortages and banking system strain |
| 2023 | Completion of domestic debt restructuring |
| 2024 | Gradual improvement in banking confidence |
The banking system’s struggles in 2021 and 2022, characterized by severe forex shortages and liquidity issues, set the stage for the recent recovery efforts that have begun to restore some degree of confidence in 2024.
Expert Insights on the Path Forward
Dr. Nandalal Weerasinghe, the current Governor of the Central Bank, emphasizes the importance of maintaining these positive trends to ensure long-term stability.
Strategic Measures for Continued Improvement
- Interest Rate Adjustments: Aligning interest rates with risk and credit demand has helped stabilize the banking sector.
- Enhanced Risk Limits: Reducing risk limits for clean and gilt-backed transactions has curbed interbank lending risks.
- Strengthening Financial Oversight: Ongoing improvements in financial oversight are crucial for sustaining confidence and preventing future crises.
These strategic measures are essential for consolidating the gains made and addressing the remaining vulnerabilities in the banking system.
