ECONOMYNEXT – Sri Lanka’s private credit expanded by 221 billion rupees, the highest in history for a single month in June 2025, official data show, driven by recovering private investment, better budgets but also amid a late-cycle rate cut, where concerns have been raised.
Private credit in June was the highest since 193 billion rupees reached in December 2024, which was also made up of import credit (working capital) which reversed.
In June, the government borrowed 98.3 billion rupees from banks after a reversal of 53 billion in May, and state enterprises repaid 1.2 billion rupees on a net basis, data from the central bank show.
Central bank credit also contracted by 51 billion rupees.
Up to June, the government borrowing from the banking sector was 178.4 billion rupees only.
Private sector borrowings surged to 700 billion rupees, outpacing central government borrowings by 521 billion rupees.
However, investment credit drives imports on a permanent basis, making it difficult to build foreign reserves and repay debt, and if they are financed by open market operations, and not real deposits forex shortages emerge.
The central bank itself has given stability by deflationary policy and a stable exchange rate making it easier for the private sector to plan ahead and invest, while prices including in construction material have been stable or fallen.
Falling and stable prices boost disposable incomes and allow, salary increments to be chanelled into real activity East Asia style also boosting tax revenues and bringing down deficits, as long as the government does not go on a spending spree, especially non-priority capital expenditure.
Government capex spending has been moderate, though there is pressure to engage in a spending spree, without regard to whether it is priority spending or not and get artificial growth which later leads to higher government debt and low returns to repay them.
Growth so far has come from a recovery in private domestic investment as well as consumption, with savings not destroyed by currency depreciation.
“In Sri Lanka there is a strong belief that state spending is required for growth and not the private sector activity,” says EN’s economic columnist Bellwether. “This probably comes from a stimulus mentality of the age of inflation.
“There is also a unusual belief that the country can dispense with stability and expect growth and that inflation is required for growth. That has never happened anywhere, it has not happened in Sri Lanka in the past and it will not happen now.”
“Inflation will only give temporary growth. Currency trouble, economic contraction, social unrest and political instability are the fruits of positive inflation.”
concerns have been raised at the last rate cut, due to similar late-cycle cuts made amid a private credit recovery in 2012, 2016, 2018 and 2019 that led to balance of payments trouble higher, foreign borrowings (up to 2020) and ultimate default.
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The last rate cut was made as banks were raising deposit rates (which would reduce consumption and provide funds for private credit including to import cars), keeping the external sector in balance.:
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Data has also showed that some money was also injected through central bank swaps with domestic banks, which provide money for rupee credit (including purchases of government debt), essentially by leaving dollars collected in past years as collateral with the central bank.
Such activities lead to a contingent liability for the central bank and it could also contribute to fall in official net foreign assets, if the liquidity from swaps reduces outright dollar purchases of the central bank by boosting private credit out of line with deposits.
As growth recovers within the stability provided by the central bank itself, what analysts call the dreaded words of ‘monetary accommodation’, ‘space’ to cut rates, that led to peacetime currency crises and eventual default are being heard.
Attempts to reduced rates through ‘domestic buffers’ would also lead to reserve falls if the rejected bids are financed with excess liquidity deposited in the central bank.
The ‘buffer’ to repay debt is the extra interest structure that allows part of the savings to be channelled into debt repayment and reserve building and reduce domestic investment credit.
Bond sales are useful for stability (if there are no domestic buffers) in that interest costs can be rolled over as a paper transaction without any cashflow effects, unlike private credit. (Colombo/Aug09/2025)
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