Banks adopt Basel III standards today

Commencing today, licensed banks in Sri Lanka will adopt minimum capital standards in line with Basel III Capital Standards on the direction issued by the Central Bank, which will continue to issue guidelines to banks on Leverage Ratio and Net Stable Funding Ratio standards in accordance with international timelines. 

This direction is in line with the Basel III guidelines issued by the Bank for International Settlements (BIS) related to capital, leverage and liquidity in order to strengthen resilience of banks, the Central Bank said in a statement. 

“Strengthening the quantity and quality of capital in banks Basel III Capital Standards endeavour to strengthen the quantity and quality of capital in banks through the introduction of capital buffers in addition to the minimum capital requirement,” the bank said. 

 

Measures would include implementing a capital conservation buffer which is required to be built during good times to be drawn down in a stressed situation and countercyclical capital buffers to curb excessive credit growth and asset bubbles in the financial system as well as a capital buffer for systemically important banks (SIBs) to avoid a systemic risk. It would also entail higher capital requirements for licensed banks. 

Licensed banks will meet the increased Basel III minimum capital requirements against risk weighted assets on a staggered basis in line with the international timeline for full implementation by 1 January 2019, the Central Bank assured. 

“Six licensed banks identified as domestic systemically important banks with assets of Rs. 500 billion and above, accounting for 71% of the banking sector assets will need to enhance their capital from the current 10% to 14%. All other licensed banks with assets less than Rs. 500 billion from the current 10% to 12.5%.” 

In 2015, the banks implemented the Liquidity Coverage Ratio in terms of the Banking Act Direction issued under the Basel III Liquidity Standards. Capital planning processes of banks have been further strengthened to enable banks to be compliant with the stringent rules under Basel III.

Large state banks and private sector banks in Sri Lanka have been augmenting capital through the infusion of fresh capital and retention of profits. It is intended that small state-owned banks will be consolidated to further strengthen their capital positions and to grow their balance sheets.

The Central Bank of Sri Lanka is assessing the Internal Capital Adequacy Assessments compiled by banks reflecting the capital position, risk management and business expansion over the medium term and will continue to monitor the implementation of the Basel III standards at banks.

Licensed banks in Sri Lanka will meet the requirements of 1 July 2017 and going forward banks are expected to further enhance their capital. This is expected to boost the ability of the banking sector to attract funds for expansion at a reduced risk premia, benefitting the economy of Sri Lanka.

The Central Bank envisages issuing guidelines to banks on Basel III: Leverage Ratio and Net Stable Funding Ratio standards in line with the international timelines.

Fitch Ratings earlier this month warned that Sri Lankan banks are likely to come under increased capital pressure from Basel III-related requirements that take full effect at the start of 2019. 

“We expect most banks will have to raise capital to meet the higher requirements, particularly if they are pursuing rapid growth,” Fitch Ratings said in a statement. 

The sector’s capital needs could be exacerbated by deteriorating asset quality following aggressive lending in 2015/2016 to more vulnerable segments, such as retail and SMEs, the effects of the recent floods and weak internal capital generation. Fitch’s negative outlook on the Sri Lankan banking sector reflects these pressures, although banks have coped with the deterioration in the operating environment and loan book growth could keep non-performing loan ratios around current levels.

Capitalisation is thin at state banks due to substantial dividend payouts. In 2016, the three largest state banks - National Savings Bank, Bank of Ceylon and People’s Bank (Sri Lanka) - paid 76% of their profits as dividends. Their capital levels are vulnerable to dividend demands from the state, and continued high payouts in the absence of capital infusions could leave them struggling to meet regulatory capital requirements. 

Rapid loan growth by private banks exceeding their rate of internal capital generation has weakened capital ratios. The sector’s average Tier 1 capital ratio declined to 11.4% at end-2016 from 13.0% at end-2015, following high loan growth of 21.1% and 17.5% in 2015 and 2016, respectively, despite several contractionary monetary policy measures, the ratings agency said.