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Sri Lanka central bank fires early warning over fuel pricing

ECONOMYNEXT – Sri Lanka’s Central Bank has warned the government early to market price fuel to prevent the country from being driven to another crisis, as global petroleum prices rise.

Although state-run Ceylon Petroleum Corporation made profits, with oil prices falling especially in the first quarter, prices were rising now and there were delays in settling payments from power generators.

"Ensuring the financial viability of the CPC is crucial, as financial losses made by the CPC adversely affect the government budget, while higher borrowings by the CPC lead to balance sheet deterioration of the state banks."

"The rising trend in oil prices owing to production cuts by leading oil producers and the depreciation of the exchange rate are likely to increase the cost of oil imports to the CPC," the Central Bank said in its 2016 annual report.

"Therefore, current market trends indicate a potential weakening of the financial position of the CPC in the near future."

"…[F]inancial losses of the CPC ultimately will have to be borne by the taxpayers of the country. Therefore, accelerating the process of introducing a market-based pricing mechanism for petroleum products and strengthening the debt collection mechanism of the CPC are important measures to be taken to ensure the CPC’s financial viability."

Under-pricing fuel and using savings of the people in state banks to cover losses – which could have been productively used for investment and jobs – put pressure on interest rates.

State banks also fund state-run firms beyond single borrower limits that would normally apply to private entities, analysts say. The Central Bank then prints money to keep rates low (the 2011/2012 BOP crisis).

In the past, the Central Bank has also printed money to directly finance the government (the 2004 BOP incident) after the Treasury offset taxes due from the CPC to cover subsidies.

Either move accelerates consumption and credit beyond the savings generated in the banking system and generates balance of payments trouble, leading to a weakening of the rupee or a loss of forex reserves, or both.





The crisis then leaves economic debris in the form of so-called ‘circular debt’ with CPC owing banks, Ceylon Electricity Board owing both the banks and the CEB.

The debt then has to be settled by issuing government bonds to energy utilities, expanding national debt.

As fuel prices fell in 2016, the CPC made 69.6 billion rupees in profits, returning from a loss of 19.9 billion rupees in 2015. The CPC also cut its total borrowings taken from banks to fund losses in the past to 192.6 billion rupees from 264.5 billion rupees a year earlier.

Arrears from state entities had doubled to 31.1 billion rupees in 2016 from 15.4 billion rupees from 2015, with most of it coming from the state power generating sector.

The tactic of under-pricing fuel to deceive the public and then wreaking economic havoc by destroying the currency and generating high inflation was popularised as the policy of ‘removing the plug’ by Sri Lankan parliamentarian Wimal Weerawansa. (Colombo/May03/2017)

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