FSC flags growing government debt appetite
Lewanika Timothy | Tuesday June 23, 2026 12:13
The Financial Stability Council (FSC) said in its latest Financial Stability Report that widening fiscal deficits were forcing government to rely more heavily on domestic funding sources, increasing banks’ exposure to sovereign debt and strengthening links between the health of public finances and the banking sector. With the country’s fiscal deficit expected to widen by P4.23 billion to P26.35 billion in the 2026-27 financial year, the country’s financial sector has in recent months had to fork out capital to meet government short term budget financing needs. “As government financing requirements expand, commercial banks are increasingly absorbing government securities, exposing them to sovereign default risk,” the multi-agency watchdog said in the report
. “The deepening sovereign-bank nexus has the potential to tighten liquidity conditions through the reduction of loanable funds available to the private sector and intensifying competition for domestic deposits as banks channel more resources towards supporting the fiscal budget”. “In turn, this pressure can influence sovereign yields and heighten the dependence of the fiscal framework on the banking sector’s balance sheet.” FSC warned that as government financing requirements expand, commercial banks are increasingly absorbing government securities, exposing them to a sovereign default risk. It added that increased government borrowing could ultimately affect the pricing of sovereign debt and deepen the banking sector’s dependence on government finances.
The warning comes as government increasingly turns to domestic capital markets and commercial banks to plug persistent budget deficits following the prolonged downturn in the diamond industry, the country’s main source of export earnings and fiscal revenues. Early this year, Minister of Finance approached Parliament seeking approval to raise $216.6 million (about P2.95 billion) from three commercial banks, marking a rare turn to bank lending as government grappled with mounting fiscal pressures and a widening budget deficit. The FSC also raised concerns over the loan sourced from domestic banks, warning that the transaction could further strain liquidity conditions within the financial system.
“The introduction of a USD denominated syndicated loan from domestic banks piles additional pressure on banks’ liquidity due to hedging requirements,” the report stated. In recent years, Treasury has expanded its issuance of bonds and treasury bills while also pursuing external financing arrangements to support budget execution and development spending. According to the watchdog, the need for banks to hedge foreign currency exposures associated with the loan could reduce the availability of pula liquidity in the market, intensify competition for deposits and increase funding costs. “This can reduce the availability of pula liquidity, accentuate competition for domestic deposits, and intensify the disconnect between the prime lending rate and the monetary policy rate through high funding costs,” the FSC said.
Researchers warned that the combined effects of growing government borrowing and tighter liquidity conditions could create a feedback loop between fiscal pressures and the banking sector. “These dynamics heighten the sensitivity of bank balance sheets to sovereign stress, while also raising the risk that liquidity pressures in the banking system could feed back into the government’s borrowing cost and increase the cost of debt.”