Sustained margin compression in the highly competitive mortgage sector drove Australia's major banks to boost their business lending over the past three years, Fitch Ratings said in a note on Monday.

This rapid expansion is considered a source of heightened asset-quality risk through the cycle, particularly if macroeconomic conditions weaken further, the ratings firm added. It expects impaired loan ratios to rise across the sector over the next 12 months in the wake of higher interest rates, persistent inflation, and a moderate increase in unemployment.

Westpac Banking (ASX:WBC, NZE:WBC) saw 39% business loan growth over the three years to March 31, leading the pack. National Australia Bank (ASX:NAB), however, retained the highest business loan concentration at around 40% of total loans.

The banks' "aa-" asset-quality scores are sustained by strong collateral positions, but a prolonged macroeconomic deterioration or loosening of underwriting standards could accelerate credit stress.