Sri Lanka among few APAC markets with improving bank outlook

Sri Lanka’s banking sector outlook for 2025 is said to be improving, according to Fitch Ratings, which also anticipated broadly stable operating conditions across most Asia-Pacific (APAC) banking system for this year.

However, it noted that a surge in US tariffs could threaten this assumption in some markets. 

“The effect of the trade war on specific banking systems in the region will depend on the final tariff outcomes, their impact on local economic growth, banks’ exposure to vulnerable sectors and potential for changes in fiscal, monetary or credit policy,” it said in a commentary.

Alongside Sri Lanka, Vietnam’s banking sector outlook is also listed as Improving in the emerging market cluster.  Fitch said it could move the 2025 banking sector outlook on Vietnam to Neutral, from Improving, if it assessed that the local fallout from the US trade war would be more serious than initially assumed.  Vietnam has the highest degree of export exposure to the US market of any economy in APAC and would be especially vulnerable to lower economic growth, if the April 2 tariffs were eventually implemented in full. India, Indonesia, Malaysia, Mongolia, the Philippines and Thailand were placed under Neutral. However, China was placed under deteriorating, due to being slapped with higher US tariffs.

Fitch said this reflects its expectation that the government initiatives to bolster China’s economy would maintain pressure on profitability. Its view is Hong Kong would see the largest rise in non-performing loans in APAC in 2025, due to a lingering property sector malaise. Both systems face subdued loan demand compared to the historical averages. The profitability and asset quality of banks would likely weaken, under a higher tariff scenario, given their relatively high export exposure and sales to the US and the substantial hikes that these markets faced under the latest US tariff announcements (subsequently mostly suspended). 

There is also a risk that the policy interest rates could be lower than anticipated, under a higher tariff scenario, which would weigh on the net interest margins (NIM) in these markets, Fitch said.

“We believe the Neutral banking sector outlooks elsewhere in APAC are more resilient to a higher US tariff regime. This reflects these economies’ generally lower direct export exposure to the US,” said Fitch.

However, it noted there is still risk in these markets that the bank asset quality in specific sectors could be adversely affected by further US tariff hikes or that they could be hit by indirect trade effects. 

For example, the banks’ performance could weaken if China’s economic growth slows due to the tariffs, hitting the demand for exports from its home markets.  The trade war could also prompt national authorities to cut policy interest rates faster than Fitch had assumed, which would lower the banking sector NIM in most markets.