Prime lending rate in Sri Lanka drops 38-bp in a week

ECONOMYNEXT – Sri Lanka’s average prime lending rate has dropped 38 basis points in the week to June 07, the central bank data showed, following a 50 basis point rate cut a week earlier.

The average weighted prime lending rates fell to 11.44 percent, the central bank said from 11.82 percent on May 31. In the week to May 31, the AWPLR had fallen 11 basis points.

Central Bank Governor Indrajit Coomaraswamy has asked banks to cut lending rates, and has warned of price controls if rates are not brought down quickly.

Price controls have already been imposed on customers, giving higher-than-market profits to banks. Banks however are seeing higher bad loans after monetary instability in 2018 from a soft-pegged exchange rate.

The central bank has also cut the statutory reserve ratio, making banks more efficient in the one good outcome of the 2018 bout on instability.

In bond markets where a freer market operates, with secondary market trading leading to price discovery, rates have fallen faster after private credit turned negative in the first quarter and capital flight stopped. Gilt yeilds have risen after the rate cut.

On June 07, the central bank cut its floor policy rate, which is now active after a private credit slowdown from 8.00 to 7.50 percent and started to mop up excess liquidity from money markets around 8.0 percent of lower, allowing short term rates to fall.

Unlike in 2018, the central bank is not printing money (injecting liquidity) to artificially enforce a pro-cyclical rate cut (of its ceiling rate or a mid-corridor rate) as credit demand increased and the economy recovered but is allowing market rates to fall, by lowering the rate at which excess liquidity is mopped up.

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Sri Lanka banks warned of price controls on lending

Excess liquidity was generated mostly in April by a peg with the US dollars which is now at the strong side of its convertibility undertaking due to weak credit (the central bank is buying dollars to enforce a peg, preventing the appreciation of the rupee and is generating new money).

The central bank was mopping up one week money at rates of over 8.50 percent keeping short term rates, artificially above market in the run up to the rate cut.

Without a rate cut, overnight rates can now fall to 7.50 percent, if the peg continues to be on the strong side, and there are no persistent outflows.

However analysts had welcomed the cautious stance, in the wake of Easter bomb attacks and the tendency of the rupee to fall in May in earlier years, after a spike in reserve money in April.

After the April bomb blast however some outflows were expected.

The rate cut may also prompt outflows, analysts have said, which requires caution. (Colombo/June10/2019)

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