Abstract
This research attempts to determine the effects of asset quality on the banking profitability of commercial banks in Sri Lanka. This study is based on secondary data for the period 2008 to 2016, which are obtained from annual reports published by 9 commercial banks in Sri Lanka. The analysis based on panel fixed effect regression indicates that asset quality factors had a negative impact on the bank’s profitability at a statistically insignificant level. This was mainly because asset quality does not solely determine the profitability of banks. Other factors such as capital adequacy, management efficiency, earnings performance and liquidity may also contribute to profitability. Based on the findings, this study recommends that improved investment assets levels and the low rate of non-performing assets needs to be realized through credit risk identification, measurement, monitoring and controlling, in order to achieve high asset quality levels. Accordingly, this study recommends that banks improve credit policy by obtaining collateral and adhering to strong credit risk assessment indicators by following post sanction risk monitoring mechanism.
Highlights
Banks engage in financial intermediation by efficiently mobilizing public funds and disbursing to different sets of economic agents in the forms of loans and advances
The banking sector in Sri Lanka comprises of 26 Licensed Commercial Banks (LCBs) and 6 Licensed Specialised Banks (LSBs)
The low standard deviation value of independent variables, such as Gross NPA to Gross Advances (GNGA), Net NPA to Net Advances (NNNA), Net NPA to Total Assets (NNTA), Loans to total Assets (LTA), Provision Coverage Ratio (PCR), and Inflation rate (IR) reflected that data points of them are extremely close to the mean
Summary
Banks engage in financial intermediation by efficiently mobilizing public funds and disbursing to different sets of economic agents in the forms of loans and advances. Bad quality of assets leads banks to bankruptcy, damaging the smooth functioning of the economy This has a contagious effect when it comes to financial assets, intermediary process and financial markets due to interlinkages. This study focuses on the impact of asset quality factors on the profitability of commercial banks in Sri Lanka and contributes to growing literature on bank asset quality management while suggesting measures for the policy development process. From the perspective of regulators, this study will be useful in policymaking relating to the commercial banks’ asset quality management which will result in further protecting of depositors’ funds while enhancing the bank’s financial performance and economic stability. This research will contribute to the existing finance related literature and further studies in the field of credit and finance
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