Foreign investors resume purchases of Sri Lanka rupee bonds

ECONOMNEXT – Foreign investor have bought 4.7 billion rupees of bonds on a net basis in the week ending January 23, halting a months of sales as credibility of Sri Lanka’s rupee peg was lost and political crisis in October , worsened uncertainty.

Foreign investors held 318 billion rupees of bonds at the beginning of April 2018, when the central bank cut policy rates and printed tens of billions of rupees flush interbank markets with excess money.

The banking system was pumped with up to 40 billion rupees of excess money, exceeding an increase in the real demand of money that is usually seen in the festival month to enforce the rate cut.

A legacy swap may also have matured in the month.

The central bank had stopped mopping up inflows several weeks earlier.

The rupee fell from around 153 at the beginning of 2018 to around 161 to the US dollar, in the first run triggered by the liquidity shock.

In August, when credibility of the peg was restored, another run began on the rupee.

Foreign investors holding fell to 145.45 billion rupees at the end of the second run, which was worsened by an October political crisis triggered by President Maithripala Sirisena, when he appointed Mahinda Rajapaksa as Prime Minister, and sacked the parliament illegally.

The rupee fell to around 182 to the US dollar in the second run on the peg.

Analysts had warned that the Sri Lanka cannot cut rates and print large volumes of money to maintain artificial interest rates while running a peg with multiple convertibility undertakings.

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Under a program with the International Monetary Fund the central bank has to collect foreign reserves, which requires the operation of a peg with inflow sterilization (mopping up).

The central bank in addition has a declared real effective exchange rate index target of 100 and contractually bound forward market convertibility undertakings in the form of legacy rupee/dollar swaps.

In addition there are other indeterminate convertibility undertaking in the form of reducing excess volatility, and halting a ‘disorderly adjustment’ of the exchange rate. (Colombo/Jan26/2018)
 

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