The Central Bank Governor without knowledge of bank credit regulations – The economy to bottom down further.

This article is intended to highlight the lack of technical knowledge of the present CB Governor on regulations as reflected in the Monetary Board circular issued on 07 July 2022 on the subject of “Concessions to Affected Borrowers of Licensed Banks amidst the Prevailing Extraordinary Macroeconomic Circumstances”. 

Therefore, this circular has been issued to mislead the public and the government that he acts to resolve the excessive credit risk problem confronted by banks and public. 

Regulations are the means of direct interventions by the government in the behaviours of market participants, i.e., buyers and sellers, for various national objectives or benefits as determined by the government. For example, imposition of maximum retail prices of selected consumer items such as rice is intended to benefit the consumers by reducing the risks to the cost of living. Similarly, traffic rules are intended to benefit the public by reducing the risks of accidents.

In general, all such regulations are imposed under specific legislations whereas various enforcement actions against violators also are available under same legislations.

What are the Bank Credit Regulations?

Credit regulations are the rules imposed on lending business of banks. The Monetary Board is the authority to regulate bank credit under the Monetary Law Act and Banking Act. 

Credit regulatory powers under the Monetary Law Act are a part of instruments of the national monetary policy as bank credit is instrumental in determining the supply, availability, cost and international exchange of money in the economy.

Bank credit ceilings, maximum interest rates on deposits and credit products, minimum percentage of lending to identified sectors such as agriculture (known as directed lending), cash margins on letters of credit, statutory reserve requirement and refinancing are some of credit regulations coming under the Monetary Law Act. However, the present monetary policy model in Sri Lanka does not depend much on such credit regulatory instruments.

Meanwhile, credit regulatory powers under the Banking Act are intended to promote greater prudence in bank risk management as credit is an integral part of the core banking business. The conventionally defined core banking business is the intermediation that involves in lending funded by deposit liabilities. Therefore, the liquidity and solvency of banking business are largely determined by the quality of bank lending/credit portfolio.

Therefore, as in other countries, the most part of bank regulations in Sri Lanka is on bank credit in the category of either micro-prudential or macro-prudential or both. The micro-prudential regulations are intended to promote bank-wise credit risk management on individual basis while the macro-prudential regulations are envisaged to address the banking systemic or industry level risks arising from bank credit business bubbles confronted from time to time.

Some of prudential credit regulations prevailing at present are identification of non-performing/impaired loans, making provisions/impairments for non-performing loans, allocation of bank capital for measured credit risk, maximum limits on credit concentrations in single borrowers and groups, maximum loan to value ratios on credit to risky businesses and customers and minimum percentage of liquid assets.

What is the nature of regulations?

Regulations primarily carry four characteristics.

• First, regulations are issued by the authority empowered in the relevant legislation.

• Second, regulations are issued under specific provisions covered in the specific legislation. Accordingly, each provision is laid down for specific purpose of regulation.

• Third, each regulation lays down what the regulatee exactly should adhere to or refrain from.

• Fourth, regulations also cover enforcement actions against violators or violations. Such actions should be punitive adequately to offset the benefits of violations.

In the case of bank credit regulations, many provisions are available in the Monetary Law Act and Banking Act for the Monetary Board to carry out regulations and enforcement including supervisory actions, accordingly.

The Nature of the Monetary Board Circular issued on 07 July 2022

The circular signed by the Governor covers several concessions in respect of performing loans for a period of six months up to 06 January 2023, non-performing loans identified after 01 January 2020 based on requests to be made by the borrowers on or before 31 July 2022. 

These concessions relate to rescheduling/restructuring of loans with new repayment plans, concessionary interest rates on performing loans during the concession period of 6 months and suspension of recovery actions. Such concessions also cover early settlement of loans without additional cost on requests made on or before 30 September 2022. The readers may refer to the Central Bank Website for details.

As the circular has been signed by the Governor as the Chairman of the Monetary Board, it is assumed that all contents of the circular have been approved by the Monetary Board whereas the Governor takes the full responsibility of its contents and implementation.

Key Comments on the Circular

Following comments show that this circular is not a regulation issued in the national economic interest to resolve the extraordinarily high risk of credit confronted by the banking system and borrowers in the present crisis. Therefore, the circular has been issued to mislead the public and the government that the Central Bank acts to resolve the bank credit problem.

• Credit regulations by the Monetary Board are issued as Directions or Orders with a specific purpose empowered under specific legal provisions. The Central Bank has a long institutional memory as to how they are worded and issued. However, this circular does not indicate the relevant legal provisions under which it is issued. Therefore, banks have no reason to adhere to the contents of the circular.

• In the first paragraph of the circular, the Monetary Board requests licensed banks to provide the affected borrowers with the concessions stated in the circular. Therefore, unless banks consider the circular as part of Central Bank moral suasion measure, banks have no binding to adhere to any of the contents of the circular.

• Most contents in the circular are conceptual statements that do not identify specific actions for banks. For example, para 1.1 “licensed banks are required to provide appropriate concessions…affected by macroeconomic conditions...”, para 3.2 “Licensed banks may also consider providing rebates..”, para 4.2 “Licensed banks shall devise a suitable mechanisms to structure the repayment plan.”, para 5.2 “Licensed banks shall develop reporting modality in consultation with the CRIB..” and para 7.4 “Licensed banks shall ensure that the borrowers are made aware of the deferment or restructuring of credit facilities..”. However, regulations are to direct banks to take specific actions common to all banks without any confusion and discretion. In the case of technical or conceptual words, regulations provide necessary interpretations and definitions as well. Therefore, a well-drafted regulation is similar to a mathematical statement without ambiguities so that the compliance can be assessed across banks on same yardstick. However, this particular circular will be read and understood by bank officials differently and they will act in the way they like if they wish to comply with.

• The circular does not contain any enforcement action to ensure the compliance because the circular is not based on any legal provisions that provide for such enforcement actions. Therefore, only what the Monetary Board can do is to send bank examiners to banks to obtain information for compliance assessment and waste the time for discussion of those ad-hoc examination reports.

• The circular recommends the implementation of the proposed concessions through the Post Covid-19 Revival Units in licensed banks established under the Monetary Board circular/guidelines issued on 24 March 2022. This is a slippery recommendation as this particular circular is also not a regulation that banks should comply with. If banks have complied with the circular by establishing of Post Covid-19 Revival Units, the concessions proposed in the current circular would not be necessary.

• It is bizarre that the circular attaches (Para 6) two letter dated 28 June 2022 and 6 July 2022 received by the Director, Bank Supervision, from the Chairman, Accounting Standards Committee, with regard to certain clarifications on another subject, with a request to banks to comply with the guidelines contained therein. The circular refers to the contents of these two letters as guidelines of Institute of Chartered Accountants of Sri Lanka (ICASL) although letters have been issued under the signature of the Chairman, Accounting Standards Committee, operating under the Sri Lanka Accounting and Auditing Standards Act. Therefore, such attachments are unofficial as those guidelines should have been duly prescribed by the Monetary Board for the banks as part of the accounting procedure for the purpose of the Banking Act requirements.

• Certain items in the circular state as “Licensed banks shall,” “Licensed banks should,” “Licensed banks may”, “Licensed banks are required”, etc., which are the worlds used in Directions or Orders. However, as this circular is intended to make requests from banks as observed from the first paragraph, such directive phrases not supported by legal powers are meaningless and contrary to the purpose of the circular.

• According to the circular, concessions are to be granted on a case-by-case basis while preserving the banking sector stability by preventing any elevated strain on the financial system. This is a meaningless bunch of words that even nobody understands. The exorbitant credit risk levels caused by the current economic crisis mainly attributable to the monetary policy failure of the Monetary Board cannot be resolved by such a case-by-case basis borrower approach. It requires a systemic credit risk resolution system implemented during crisis times. Therefore, the statement that these circular guidelines preserve the banking sector stability by preventing any elevated strain on the financial system is a highly questionable and conceptual statement. As the Central Bank has not so far published banking sector financial information for even first quarter 2022 it is difficult to assess the credit risk level at present. However, the gross non-performing loan ratio of the banking sector as at end of 2021 as reported in the Central Bank Annual Report is 6.2% (with net non-performing loan ratio of 1.7% being lower than 2.8% in 2019). If this figure is reliable, proposed credit concessions may not be necessary as there is no systemic credit risk. 

Overall Comment

Accordingly, it is clear that the Governor understands neither bank credit regulations nor the systemic credit risks confronted by banks consequent to the present economic crisis. Meanwhile, his monetary policy decision to hike policy interest rates so far by 8% causing government securities yield rates to 30% and the default of government foreign loans in violation of public finance control system since 12 April 2022 have elevated banking risks to exorbitant levels. This has resulted in a significant rise in bank credit risk and causing bankruptcy of the households and businesses due to the scarcity of affordable bank credit and the repayment crunch.

Therefore, what is urgently required in crisis-hit economies is a bank asset management system supported by a monetary and fiscal policy package. However, as the Governor has no idea of such policy packages rather than the rudimentary monetary policy concept of raising the overnight policy interest rates to control the unknown demand-supply mismatched inflation, despite the real causes of supply side-driven inflation, he recently rejected outright the request made by a group of young entrepreneurs to provide them with concessions on bank credit. As such, the Governor does not understand the need of bank credit to recover economies.

As the economy and monetary system primarily run on bank credit, no economic recovery can be expected without the resolution and recovery of bank credit system so that bank balance sheets are recovered to normal business level. In this regard, the issuance of such circulars requesting the banks to address credit recovery problem on a case-by-case basis is a joke. Further, central bank officers do not possess the expertise in credit business management to issue such guidelines to banks whereas bank officials are not just credit management students to follow such central bank guidelines.

Everybody knows that the Central Bank has failed to manage even government debt treated as credit risk free where the present Governor is primarily responsible for selling debt to foreign investors without adhering to standard prudential safeguards and defaulting such debt without attempting to seek debt restructuring concessions with the approval and support of the Parliament. In that context, the Governor is not qualified to issue credit restructuring guidelines to banks at this stage where even the credit granted to the government is now at huge risks in the near-term due to the roll-over risk.

However, he is now engaged in a huge international media such as BBC, CNN, CNBC, Reuters and Wall Street Journal to stay his full term of 6 years in the position by making comments on the Sri Lankan economy and its future course of recovery through a bailout expected from the IMF and World Bank led multilateral institutions. He makes such comments to international media as if he is the independent spokesman above the government as the local media and COPE have lost the trust in him. 

At a recent CNBC interview, he has passed the blame for the crisis to the decades of the fiscal mismanagement and commented that the Sri Lankan government would take the opportunity to learn lessons from the mistakes and move in the right direction beyond the IMF bailout to manage the economy on a sustainable basis. He makes such comments because he is aware of economic management only with foreign debt.

However, everybody knows that the IMF bailout is only an addendum to the existing debt trap caused mostly by his monetary policy work in the Central Bank for about past 15 years with sovereign bonds and currency swaps he handled with three past Governors for foreign currency reserve mismanagement although he himself has now emerged as fresh and clean in the social media group and that the solution required for the recovery is the mobilization of domestic resources to save and earn a surplus in the foreign currency flow.

For this purpose, a special or targeted monetary and fiscal policy package is necessary. The resolution of bank credit portfolio to facilitate a fresh flow of credit across the priority sectors of the economy is a vital element in this package.

Therefore, it is necessary that all policymaking authorities including the Central Bank Governor are made responsible for respective areas of policies to recover the economy with a surplus in foreign currency during next 1-2 years. 

However, while enjoying the public posts at a cost to the public funds, their current habit of sending rosy pictures of IMF and debt restructuring bailout as the saviour of Sri Lanka is a public economic crime. The Central Bank Governor remains at the top of the list as the whole financial side of the economy remains under his control.

Therefore, if the economy is to just move further down by waiting for the IMF bailout of US$ 2-3 bn with debt restructuring in next 3-6 months, the new President also will have to run away soon by letting the country to be changed hands of political game players supported by policymaking officials under cover.

 (This article is released in the interest of participating in the professional dialogue to find out solutions to enormous economic difficulties presently confronted by the general public consequent to the global Corona pandemic and subsequent disruptions and shocks.)

 

P Samarasiri

Former Deputy Governor, Central Bank of Sri Lanka

(Former Director of Bank Supervision, Assistant Governor, Secretary to the Monetary Board and Compliance Officer of the Central Bank, Former Chairman of the Sri Lanka Accounting and Auditing Standards Board and Credit Information Bureau, Former Chairman and Vice Chairman of the Institute of Bankers of Sri Lanka, Former Member of the Securities and Exchange Commission and Insurance Regulatory Commission and the Author of 10 Economics and Banking Books and a large number of articles published)