ECONOMYNEXT – Sri Lanka’s credit from the banking system to the government and state enterprises has overtaken the volume to private credit after the latest currency crisis, official data shows.
Sri Lanka’s credit to the state and state enterprises were around 25 percent of total credit before the 2001 currency crisis, despite a civil war with generally private sector driven policies being adopted.
By the end of the 2022 currency crisis, credit to state and state enterprises had risen to 123 percent of private credit indicating the expansion of the state and state enterprises within the period.
Currency crises are a problem associated with soft-pegs or flexible exchange rate regimes which are neither clean floats nor hard pegs.
The 2001 crisis was accompanied by strong reforms under then Prime Minister Ranil Wickremesinghe’s Regain Sri Lanka program, improving the 1990s privatization, visa liberalization, allowing private credit to rise.
Credit to the state also tends to rise after each currency crisis triggered by money printed to target an artificially low policy rate.
Central bank credit (money printing) may initially drive up private credit in the run up to the crisis as bids to Treasuries auctions are rejected or open market operations are conducted, especially to sterilize import interventions.
Each currency crisis triggered by attempts to enforce an artficially low policy rate or Treasuries yields is followed by an output shock and a spike in the deficit as tax revenues come under pressure and rates soar. In the 2020/22 currency crisis the economy contracted in absolute terms.
In Sri Lanka authorities borrow abroad heavily as forex shortages emerge in as the currency crisis takes effect (so called bridging finance) and foreign reserves are run down as monetary instability bites.
In the 2012, 2015 and 2018 currency crises net foreign borrowings rose steeply, especially with international sovereign bonds after the country got market access.
In the 2008 crisis central government foreign debt adjusted less net international reserves jumped by 1.9 billion US dollars to 11.38 billion dollars.
After the 2009 Great Recession, global market were awashewith liquidity making it easy for low rated countries to borrow abroad.
In the 2001 currency crisis was associated with only a 100 million dollar syndicated loan.
Non-project loans (budget support loans) by the World Bank or Asian Development Bank with or without IMF programs were given on conditions of liberalization or reforms which allows the private sector to expand.
However Sri Lanka got market access in 2005 and went on a sovereign bond borrowing spree. After the Great Recession global dollar bond yields fell as the US Fed in particular engaged in quantity easing keeping markets awash in dollar liquidity.
In the 2012 crisis foreign borrowings adjusted for NIR jumped by 3.2 billion US dollars to 16.4 billion US dollars.
In 2015 net foreign borrowings jumped from 2.3 billion US dollars 19.5 billion dollars and in 2016 by another 2.9 billion dollars to 22.4 billion dollars.
In years of monetary instability net foreign borrowings exceeded the foreign borrowing requirement of the annual budget, as the external gross financing requirement was borrowed as forex shortages emerged.
In years with monetary stability (years without BOP deficits) and central bank credit was reduced Sri Lanka’s net foreign debt rose at a slower pace than the foreign financed component of the budget or was paid down on a net basis.
In addition to the central bank Sri Lanka’s state-run Ceylon Petroleum Corporation was also made to borrow dollars by policy makers. In the 2000 crisis Iran gave credit. Later state banks and suppliers gave credit.
The CPC credit is expected to be taken to the central government under debt re-structuring.
(Colombo/Feb13/2023)