Sri Lanka forex reserves drop by a billion dollars to US$6.3bn in Jan

ECONOMYNEXT – Sri Lanka’s official forex reserves dropped by a billion US dollars to 6,301 million US dollars in January 2016 from 7,303.6 million US dollars, official data showed, as money printing and credit continued to undermine the balance of payments.

Forex reserves are now at a 5-year low around the level in 2012 when corrections were made.

Though the central bank sterilized about a billion US dollars from a sovereign bond sale in November, boosting forex reserves to 7.3 billion US dollars, money printed later to repay Treasury bills injected synthetic reserves in to the banking system, driving credit and imports up.

When money is printed and credit expand to levels above the deposits raised by the banking system, and the government finds it difficult to raise money to repay foreign debt.

Foreign reserves include the monetary reserves of the Central Bank and any forex balances of the government.

About 1.1 billion US dollars of the reserves are from a swap with the Reserve Bank of India. The bulk of a 2.5 billion US dollar loan from the IMF has now been paid back and a payment of 342 million dollars has to be made in 2016.

The RBI swap and IMF loans are direct liabilities of the central bank. The Central Bank has also given swaps to cover forex losses of commercial banks.

According to published data, Sri Lanka’s net international reserves fell to 4,180 million dollars in October 2015 from 4,201 million dollars in September.
At the end of 2014 net international reserves were at 6,517 million dollars.

 

Sri Lanka is now seeking another IMF program.

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Analysts warned in at the end of 2014 (Sri Lanka may lose forex reserve beauty contest amid ultra-low interest rates), even before a budget deteriorated in January 2015 that historically low interest rates would drive credit up and put pressure on the balance of payments.

Our economics columnist, Bellwether also warned that cuts in oil prices would make non-oil import go up.

"Energy prices cuts will give more spending power to the people, in the style of a ‘fiscal stimulus’ generating, a recovery in domestic demand," he warned (Sri Lanka in danger of travelling the PIGS path with low nominal interest rates) in late 2014.
 
"With higher domestic spending, non-oil imports can go up."

BOP problems happens not because non-oil imports replace oil imports, but because printed money makes outflows exceed inflows though credit. Usually Sri Lanka’s balance of payments go bad because energy subsidies are financed with printed money.

But the central bank pro-cyclically cut policy rates in April and from June onwards printed large volumes of money adding more fuel to the fire.

The IMF last week called for higher taxes to cover state spending and said the high deficit was leading to a deterioration of the balance of payments.

Sri Lanka’s budget deficit is expected to top 7 percent of GDP in 2015. Though Sri Lanka has had a stable economy in the past with a 7.0 percent deficit, interest rates were higher.

There are also concerns that the GDP numbers are inflated now compared to the past. (Colombo/Feb07/2016)

 

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