Financial Sector Quarterly Update- 2nd Quarter 2004 SRI LANKA FINANCIAL SECTOR QUARTERLY UPDATE SECOND QUARTER 2004 Highlights Introduction : This note is prepared by the World Bank Colombo Office to review the trends of some of the key indicators which have an impact on the financial sector performance. The main indicators identified in the report are: (i) banking sector performance in terms assets, deposits, advances, (ii) interest rates, (iii) exchange rate movements, (iii) inflation and; (iv) capital market movements. The data is collected from the Central Bank, individual banks, Department of Census and Statistics and Colombo Stock Exchange. If the data is adjusted by the respective organizations in subsequent reports, we will adjust our records accordingly. Performance of the Commercial Banking Sector : At the end of the 1st quarter of 2004, out of the total assets in the commercial banking sector, the two state commercial banks (SCBs) accounted for 46% while the private domestic banks (PDBs) accounted for 42%. In terms of deposits, the SCBs led with 46%, followed by the PDBs with 42%. In terms of advances, the PDBs recorded 46% while the SCBs followed with 42%. The PDBs, during the period under review, recorded an increase of 3.1% in terms of assets, 2.9% in terms of deposits and 3.9% in terms of advances. The four major private banks dominated the PDB category accounting for 90% of the assets, 92% of the deposits and 90% of the loans granted. The Non Performing Loans (NPLs), as a percentage of total advances in the commercial banking sector, declined from 14.2% at the end of the 4th quarter of 2003 to 13.0% in the 1st quarter 2004. The decline came from the state banks and the foreign banks. The commercial banks recorded profits mainly due to the reduction in the interest rates which brought down the cost of funds for the banks. Since the economy has been strengthened, the recovery rates have also improved. In June, Mr. A.S. Jayawardane completed a term of nine years as the Governor of the Central Bank (CBSL). He was a career central banker and a highly respected economist. He was instrumental in converting the CBSL to the most modern and professional Central Bank in South Asia. In addition to his distinguished central banking career, he also served as the Alternate Director at the IMF, Secretary, Ministry of Finance, Secretary, Ministry of Industry, Chairman of Bank of Ceylon among other senior positions. He spearheaded the modernization process in the CBSL and also brought about major changes in human resource management policies. Mr. Sunil Mendis, the former Chairman of Hayleys, succeeded Mr. Jayawardane as the Governor. He, being the first Central Bank Governor from the private sector, is expected to bring a different dimension to the CBSL management. Dr. Ranee Jayamaha was appointed Deputy Governor of the Central Bank in April and five new Assistants to the Governor were appointed in June. The Central Bank has increased its awareness program to educate the public on fraudulent finance companies and pyramid schemes. Performance of the Licensed Specialized Banks (LSB) : At the end of the 1st quarter 2004, out of the total assets of the LSBs, the National Savings Bank (NSB) led with 62% followed by DFCC Bank (13%), (NDB) (13%), Regional Development Banks (5%) and the State Mortgage & Investment Bank (SMIB) (3%). In terms of their lending operations, DFCC led with 27% followed by NDB (24%), NSB (21%), RDB (11%) and SMIB (8%). NPLs, as a percentage of total advances of the LSBs, declined from 12% to 11% during 1 Financial Sector Quarterly Update- 2nd Quarter 2004 the 1st quarter. If the investment climate deteriorates again and if there is a set back in economic growth, the development banks would be adversely affected. Open Market Operations & Interest Rates : During the 2nd quarter of 2004, average prime lending rate has increased from 9.3% in March to 9.6% in June 2004 while the repo rate and reverse repo rates had also stabilized at 7.0% and 8.5% respectively1. The short term Treasury Bill rates have almost stabilized with one-year Treasury Bill rate increasing only marginally from 7.7% to 7..8% in June 2004. The offer rates, in the interbank money market, have increased from 7.7% to 8.5%. This is partly due to a decline in excess liquidity situation as well as market constraints. The government issued dollar denominated Sri Lanka Development Bonds to raise dollars since some of the official flows have been delayed. The government has finally issued its Economic Policy statement endorsing the "open economy" policies. In response to the disillusionment demonstrated by the rural population at the recent general elections, the government intends to focus on rural and regional development, SME sector and agriculture. The government has also announced that 12 strategic enterprises including state banks, petroleum, power, transport, customs and inland revenue would not be privatized but would be brought under a new organizational structure called Strategic Enterprise Management Authority (SEMA) headed by Mr. Mano Tittawella, Senior Advisor to the President. This is to ensure that all these institutions will be made financially viable with management autonomy and insulation from political interference. Exchange Rate Movements:2 The Rupee depreciated against all major currencies. The forex market faced instability and CBSL sold US $ 225 million in an effort to stabilize the Rupee. However, the CBSL also ensured that the reserve position does not deteriorate. The rupee depreciated against the Dollar by 5.2%, Euro by 4.1%, Sterling Pound by 3.8%, SDR by 4.0% and the Japanese yen by 1.4%. The trade deficit widened exerting pressure on the dollar while the foreign exchange inflows had been constrained due to the delay in official flows. In addition, with the political upheavals, export proceeds too have marginally slowed down. The international fuel prices have had a significant pressure on the dollar. The borrowings by the Ceylon Petroleum Corporation (CPC), due to a delay in price adjustment, has adverse fiscal implications. Inflation: The inflation has shown an upward trend as expected. In the 2nd quarter of 2004, Point-to Point Index increased substantially from 2.5.% in March to 6.8% in June. Monthly Moving Average Index remained at 3.9% during the same period reflecting the lagged effect of the inflationary trends during the past. The downward inflationary trend has been reversed and is on the rise. It is likely to increase further, if the price adjustments are made in electricity, petroleum and transport sectors. Capital Market Movements3 : The cease fire has continued despite a change in the political regime which signals a long term commitment to peace by all parties despite incidents in the North and East and Colombo. A split between North and East LTTE cadres raised further uncertainties in the peace process and has not yet been resolved. The government has released its economic policies endorsing private sector development. The market will be watchful of the implementation of the new government's economic policies. The selection of members for the SEMA and National Council for Economic Development, with a high proportion of private sector and academics, signals the government commitment to open market policies. The government's position has been further strengthened by a landslide victory for the UNFA at the provincial elections despite a historic low voter turnout. The stock market has been rather volatile reacting to the current security and political situation. The ASPI has marginally increased from 1,284 in March to 1359 and both Milanka and MBSL indices reflected a marginal increase of 2.4% and 0.8% reaching 2,069 and 2,635 respectively. It could have been due to cashing in by short term investors. Increases were seen in banking, investment trusts, footware & textiles, palm oil and stores and supplies. Monthly turnover ranged from Rs.3.4 billion (US $ 33.3 million) to Rs.5.2 1Active open market operations which commenced in March, 2003 continued. 2The Central Bank floated the Rupee in January 2003. 3The investor sentiments have been strengthened since the cease fire since 2002 2 Financial Sector Quarterly Update- 2nd Quarter 2004 million (US $ 50.9 million) during the quarter. Foreign investor transactions recorded a net outflow of Rs. 267 million (US $ 2.6 million) during the 2nd quarter reversing the trend. Market capitalization increased from Rs. 314 billion to Rs. 332 billion. If political instability continues and the peace negotiations are stalled a longer period, the investor confidence is likely to diminish. Report, Graphic Design & Concept : Sriyani Hulugalle Graphs Update:Malathi Ratnayake 15/7/2004 3 4 4 200 Quarter 2nd &sna Lo citsemoDetaviPr s % ankB 45 Update: BI vandA B % Quarterly Sector Financial nkaBlaicremmoC:3erugFi sec 8% SM secnav NS 21 NDB 24% Ad &s s ankBngeiroF %11 oanL etaSt liacremm skn % Ba 44 Co ystemS BSL:B3er s 11% RDB guiF sreh 9% CC Ot DF 27% Bankingl ransactions.t 2004 etavi ictsem s Unit % Pr ankB 42 Commercia rterauQt stisopeD Do knaB ankingB the fo 1s cialre Currency of m end the at moC-2 s Foreign % and 12 Structure As erugiF ankBngeiroF eta St liacremm skn % ticsem Ba 46 Co B Do NS 62% ectl ref banks. Market 1: stessA s Data RDB 5% 2004. commercial 1, Table s Banks setsAknaBlaic eatvi ictsem skn sre Quarter dividualin Pr Ba 42% BSL-B1erugFi 4% to Oth and Do Banks relate edz CC % BI taad DF 13 SM 3% 1, Department er NDB 13% m Table Commercial Licensed moC-1erugiF ngier skn pecialiS % of Fo Ba 12 eta St laicremm skn sed Supervision % case nk Ba 46 the Ba Co Licen in Only: CBSL: Note Source rs dleiY % 637. 4 200 eaY51 Av. 5 emul s 0002, ar Ye Quarter s 2nd VodleiY.vA Mn.sR 3 % 518. 717. 856. 656. earY01 s ar Update: emuloV Mn.sR 0002, 0002, 2001, 5001, es tiir Ye 2 s deliY 758. 038. 407. 696. 676. 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