Sri Lanka banks restricted from buying sovereign bonds for six months

ECONOMYNEXT – Sri Lanka’s central bank has ordered commercial banks and the National Savings Bank not to buy sovereign bonds except with new foreign financing, in move to reduce pressure on the forex market.

Sri Lanka’s sovereign bonds are trading at steep discounts and the purchase of near term bonds would result in large profits if Sri Lanka honours the maturity.

“The Central Bank of Sri Lanka, with a view to easing the pressure on the exchange rate and the stress on financial markets due to the impact of the Covid-19 outbreak, requires the licensed commercial banks to suspend the purchase of Sri Lanka International Sovereign Bonds for a period of six months unless such purchases of ISBs is funded by new foreign currency inflows to such licensed banks sourced from abroad,” the central bank said in a direction.

In June 2020, the central bank placed a similar restriction on banks for three months.

Sri Lanka’s banks are finding it more difficult to raise funds with the sovereign rating downgraded to ‘CCC’ levels. Forward premiums have inverted with rising domestic dollar yields.

The purchase of sovereign bonds should reduce domestic credit and imports in a credit system without excess liquidity.

However in Sri Lanka there is now excess liquidity of over 230 billion rupees (over 20 percent of the monetary base) or about 1.2 billion dollars in potential pressure. (Colombo/Dec13/2020)

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