Sri Lanka’s banking sector has shown a notable rebound in early 2025, with loan disbursements steadily increasing across key economic segments.
This growth reflects renewed confidence among borrowers and financial institutions amid improving macroeconomic conditions. While lending appetite strengthens, non-performing loans (NPLs) have also demonstrated a downward trend—except in the retail sector—thanks to better business performance, enhanced recoveries, and lower interest rates.
According to the Central Bank of Sri Lanka’s latest survey, lending activity remained strong in the first quarter of 2025 and is expected to continue through the second quarter.
The demand for loans among Small and Medium Enterprises (SMEs) surged, with the SME Loan Demand Index rising sharply from 65.0 in the fourth quarter of 2024 to 82.2 in the first quarter of 2025. This signals renewed economic momentum within the SME sector.
Corporate loan demand, which stood at a relatively subdued index value of 57.9 in late 2024, is projected to climb significantly to 81.2 in the second quarter of 2025.
The Central Bank attributes this uptick in loan appetite to improving economic activity, declining interest rates, stable inflation, greater political stability, and growing business confidence.
The report further notes that loan demand is likely to continue increasing in the second quarter, supported by anticipated GDP growth and potential easing of vehicle import restrictions, which could further stimulate credit growth.
Sri Lanka’s monetary policy framework has broadly followed a deflationary approach since late 2022, mirroring successful East Asian models.
However, an episode of monetary expansion during the fourth quarter of 2024, aimed at narrowly meeting credit targets, resulted in reserve losses and a reemergence of a current account deficit. Historically, Sri Lanka’s policy mix—including inflation-targeted rate cuts—has led to currency instability, requiring subsequent rate hikes and credit tightening to restore confidence.
In early 2025, the central bank’s policy rate has been kept slightly above market rates while accumulating foreign reserves. Yet analysts caution that excess unsterilized liquidity—resulting from foreign currency purchases—could pressure the rupee if it fuels unchecked credit growth.
On a positive note, the non-performing loan ratio has improved across most sectors, driven by stronger cash flows, more favorable economic conditions, flexible repayment structures, and sustained recovery efforts. The only exception is the retail sector, where NPLs have increased, likely due to the persistent high cost of living affecting household repayment capacity.
Overall, the findings underscore a cautiously optimistic outlook for Sri Lanka’s banking sector, with strong loan growth and improving credit quality pointing to a recovering economy in 2025.
