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Saturday June 15th, 2024

Sri Lanka rupee dollar parallel markets step in amid money printing, forex curbs

ECONOMYNEXT – Sri Lanka rupee is hardly traded in official interbank markets after ban on outright trades above a 200 to the US dollar non-credible peg, but parallel foreign exchange markets are coming into play, as they had done in earlier money printing episodes, market participants say.

Sri Lanka’s interbank forex market saw some isolated outright trades over the past week and market based swap deals but activity had largely dried up after outright trades were banned by the central bank above 199.90 to the US dollar.

The central bank has been printing large volumes of money to keep down interest rates artificially which is making it difficult to maintain the exchange rate.

Banks are also not expected to quote over 203 to the US dollar to import customers or buy from exporters below the level.

Parallel Market

However some banks including international banks had been paying over the limit to exporters making the original bankers to the firms unhappy, market participants said.

Regulators made physical or on-site visits this week to check the rates at which dollars are being sold.

A parallel exchange rate higher than the 203 limit had emerged for capital outflows, market participants said.

To finance the outflows some banks had bought above the cartel-like agreement supposedly existing among banks not to pay a higher rate to exporters following informal requests.

Meanwhile the kerb market has also seen a steep fall to around 215 to 220 amid money printing.

The interbank trading ban without halting money printing had also led to rationing of Letters of Credit by banks.

“Regular meetings with key officials of the banking community are held by the Central Bank, and the banking community has mutually agreed to manage their outflows within inflows, while giving priority to essential and urgent imports, and discouraging orders of speculative nature,” Central Bank Governor W D Lakshaman said in a statement this week.

“Overall, I wish to assure the media, the general public, the business community and the investor community that the conditions of foreign currency liquidity observed in the domestic market at present are temporary and are driven by excessive speculative activity.”

As a result some importers who had previously gone through formal channels were forced to use the unofficial or ‘undiyal’ net settlement system long used in Asia before the emergence of banks, at around 220 rupees to the US dollar or higher.

Official payments are made through gross settlement systems, where each transaction is settled separately through systems such as SWIFT messaging.

Plus ça change, plus c’est la même chose

Sri Lanka saw official parallel exchange rates during late 1968 with Latin America style Foreign Exchange Entitlement Certificates (FEECs) being developed by the money printing Dudley Senanayake administration instead of restraining, reforming or abolishing the central bank.

The failure to restrain the domestic operations of the central bank had led to forex shortages, currency collapses and repeated trips to the IMF.

“…[I]n May 1968, Ceylon implemented a dual exchange rate (FEECS) that was commonly used in Latin America with tacit acceptance of the IMF,” top economist Saman Kelegama wrote in a summary of memoirs of Gamani Corea, a Sri Lanka planner and central banker.

“The Fund was not entirely happy but approved it by saying it was ‘a wrong step in the right direction’.”

Sri Lanka set up a Latin America style central bank in 1950 using elements of a cookie-cutter monetary law cooked up by Robert Triffin, an admirer of the Argentina central bank built by Raul Prebisch.

Triffin who headed the Latin America unit of the Fed set up a series of central banks with non-credible pegs in the region which ended up in import substitution, parallel exchange rates and sovereign default.

Some ended in dollarization. Dollarization is also picking up in Sri Lanka.

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Sri Lanka Port City dollarization upheld, constitution violation from depreciation: SC

In 1969 the Senanayake administration enacted Sri Lanka’s import control law, without reforming or abolishing the central bank.

In the 1970s Sri Lanka closed the entire economy, making extensive use of the law, instead of restraining the domestic operations of the central bank or abolishing it in favour of a currency board.

The law has been used to curb many imports in 2020, which had earlier brought outsize amounts as taxes in 2020.

The import control law to giving massive profits to rent-seeking import substutution businesses which are arbitraging the taxes and reporting large profits at the expense of consumers.

Meanwhile low taxed imports deemed ‘desirable’ by planners have bounced back with credit starting to flow, including with printed money.

Unlike in the 1960s and 1970s however there is now greater scrutiny of central bank activity in Sri Lanka.

This week, a statutory paper transaction involving a customary reversal of provisional advances (a type of printed money relating mostly to deficits in the past) via one-day Treasury bill issue, drew a lot of twitter comments.

However it is a book transaction involving a provision in the original US designed constitution of the central bank and does not acutualy change reserve money, and therefore cannot create monetary instability in the form of credit, forex shortages or inflation.

This week members of the public stormed the Lebanon central bank after it halted withdrawals of forex deposits, in a cautionary message to central bankers the world over.

Forex deposit withdrawals were in any case only allowed at a parallel exchange rate lower than the kerb market rate.

Foreign exchange is being released for oil at a still different parallel exchange rate.

The US Fed is again firing a commodities bubble which can push up commodity and food prices hurting the poor and the rich alike though some oil companies and can benefit.

Among major central banks the Fed has done the most damage to the world.

The Fed created the Great Depression with its roaring 20s bubble, blew up the centuries old Gold Standard along with the Bretton Woods system of non-credible soft-pegs in 1971 with output gap targeting and generated a massive housing and commodity bubble which ended in the Great Recession in 2008/9. (Colombo/June30/2021)

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Sri Lanka beats key IMF program targets for March 2024 amid rupee stability

ECONOMYNEXT – Sri Lanka has exceeded key quantitative targets set in an International Monetary Fund program for March 2024, based on preliminary data the Washington based agency said in a report.

The March data are not performance criteria on which reviews are conducted but are indicative targets which shows the progress of the program and are a stepping stone for a September review based on June data.

An indicative target for the primary balance (roughly overall deficit minus interest costs), was assessed at 316 billion rupees more than four times the 70 billion rupee target set in the program.

Primary balance can be a big surplus if the interest bill is high and capital expenditure is cut and is a type of crisis management tool after a central bank triggers a currency crisis by cutting rates with inflationary liquidity tools.

However, Sri Lanka’s Treasury has also kept a lid on most current spending. A state salary hike is however due after the currency collapse made life difficult for everyone.

Meanwhile more taxes have been collected from the people to finance the island’s bloated state.

A 750 billion rupees central government tax revenue floor has been exceeded to reach 837 billion rupees.

Central bank credit to government (outstanding stock) has been reduced to 2,691 billion rupees in March compared to a target of 2,800 billion rupees. In December the CB credit was calculated 2,742 billion rupees.

Net international reserves of the central bank were brought up to a negative 1,268 million US dollars exceeding the target of a negative 2,035 by almost 700 million dollars.

In order to collect foreign reserves, which is a type of appropriation of domestic savings of the people by the central bank (taking in deposits) and exporting it to the US and other countries to finance their deficits or by other agency debt in reserve currencies.

In order to collect such ‘deposits’ the central bank has to prevent them from being invested domestically.

It is achieved with deflationary policy through sell-downs of down its Treasuries holding to domestic banks or others, at a market rate, collecting interest from the government or repayments of re-finance credits, subject to any nominal changes in reserve money at a given exchange rate.

In 2024 the central bank allowed the exchange rate to appreciate, which can also reduce prices of traded goods boost real and nominal savings and make it easier to collect foreign reserves.

When domestic credit is weak it is easier to collect reserves. Reduced domestic credit and collection of reserves, including by private banks which then cannot be invested domestically, can push the external current account into surplus.

The central bank also met a 5 percent 12-month inflation target, with an achievement of 4.3 percent.

Sri Lanka’s economy grew 5.3 percent despite reserve collections, amid the stability provided by the central bank.

There were no central bank purchases of Treasuries from the primary market.

However the central bank injected overnight and term money to banks (not on a net basis) showing how easy it is for a rate-obsessed monetary authority to get around the requirement and create external instability again as soon as private credit recovered.

The central bank also allowed excess liquidity from dollar purchase to remain unsterilized for an extended period under its ad hoc pegging arrangement, getting a short term falls in rates, but triggering pressure on the rupee as a result in May and June.

It is not possible to collect reserves with a free floating exchange rate. (Colombo/June15/2024)

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Sri Lanka GDP grows 5.3-pct in first quarter of 2024 amid monetary stability

ECONOMYNEXT – Sri Lanka’s gross domestic product grew 5.3 percent in the first quarter of 2024 data from the state statistics office showed as the central bank continued to refrain from generating monetary instability.

Instead of printing money to cut rates under ‘flexible inflation targeting’ and printing money to boost growth by taking into account ‘potential output’ as permitted by its new monetary law, the central bank ran deflationary policy and also allowed the rupee to appreciate.

“The Sri Lanka economy experienced a more favorable economic condition[s] in the first quarter 2024, when compared to the first quarter in the year 2023,” the Department of Census and Statistics said.

“The high inflation had prevailed in the first quarter of year 2023, gradually reduced to a lower level by the first quarter of 2024 and this low inflation incentivized the economy by providing inputs at [a] much lower price.

The agriculture sector grew 1.1 percent in the first quarter of 2024, after also growing 1.6 percent last year.

Industry grew 11.8 percent in the first quarter, against a 24.3 percent last year.

The economy grew amid falling prices, the statistics office said in sharp contrast to the Anglophone macroeconomic claim that inflation is needed to boost growth, on which Sri Lanka has 5-7 inflation target has apparently been set.

Related Sri Lanka central bank pushing for high inflation target to boost growth

“Among ‘Industrial activities’, coinciding with the decline in input prices, the ‘Construction industry’ grew by 14.2 percent, parallel to this, the ‘Mining and quarrying’ industry too expanded by 18.3 percent during this quarter,” the Statistics Department said.

Sr Lanka’s services sector grew 2.6 percent, against a decline of 4.6 percent recorded last year.

The International Monetary Fund has also urged the central bank to give priority to stability.

Sri Lanka dropped the stability mandate in the earlier monetary law which was violated after the end of a civil war to push the country into serial currency crises especially after the International Monetary Fund gave technical assistance to calculate potential output.

Related Sri Lanka has a corrupted inflation targeting, output gap targeting not in line with monetary law: Wijewardena

Sri Lanka survived a 30-year civil war by giving priority to a stability mandate despite shortcomings in its operational framework but defaulted in peacetime amid activist monetary policy which denied monetary stability to the people. (Colombo/June12/2024)

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Sri Lanka’s NPP notes five-point crisis for economic growth sans details

Former JVP MP Sunil Handunneththi

ECONOMYNEXT — The leftist National People’s Power (NPP) has identified five crises that need resolving for Sri Lanka’s economy to progress, much of which emphasise a production economy targeting export growth though sparse on the detail on resource allocation.

NPP spokesman and former parliamentarian Sunil Handunneththi speaking at an event in Mulaitivu on Thursday June 13 said Sri Lanka is grappling with firstly, a collapse of the production economy, second, a budget deficit, third, a balance of payment crisis which has, fourthly, created a debt crisis, and finally, a resultant gap between haves and have-nots.

“We must first understand the crisis. We reocgnise five main crises that have the same impact irrespective of differences between the north and south.

“The first is the collapse of the production economy. We can see this historically. Agriculture that used to be some 30 percent of gross domestic product (GDP) has now fallen to 8 percent. Essential food is imported. We cannot produce the rice needed for the small population here. Things that can be made here are also imported.

“Second is the income crisis. For the people, their expenses are twice their income. The budget deficit is two or three-fold every day. Banks cannot give loans to businesses and industries because the government takes funds to address the budget deficit. The government takes most of the people’s savings for this,” he said.

The balance of payment crisis Sri Lanka is facing the third crisis, according to Handunneththi, which has triggered a debt crisis, in turn leading to a crisis of income disparity among the people.

“Third is the balance of payments crisis. Imports are two or three fold export income. The government has to take 11 to 12 billion US dollars in loans from foreign countries. When GDP is 80 billion US dollars, debt has gone over 100.”

“All this creates a massive gap between haves and have-nots. Without finding solutions to these crisis, there is no point distributing goods,” he said.

Handunnethi’s remarks appear to be departure from the NPP’s anti-corruption rhetoric which had centred its economic development policy agenda primarily on fighting corruption.

‘Fighting corruption’ and ‘recovering stolen assets’ have been popular slogans since the Aragalaya protests in Sri Lanka and the NPP has made it its central theme in its bid for power. The leftist outfit had also adopted a position that’s cautiously critical of the International Monetary Fund (IMF) and the reforms the international lender has prescribed for Sri Lanka in exchange for a 2.9 billion-dollar bailout.

However, NPP leadership had recently acknowledged the need to continue the IMF programme since the agreement has already been signed.

The Marxist-Leninist Janatha Vimukthi Peramuna, which controls the NPP, though it was never in government barring a brief stint in an Sri Lanka Freedom Party (SLFP)-led coalition in the early 2000s, has been instrumental in driving popular support against privatisation.

Three key policy pillars articulated by the JVP from 2001-2004 and embraced by mainstream politician Mahinda Rajapaksa’s administration in 2005 onward have been highlighted by experts.

From 2005, Sri Lanka halted privatisation, started recruiting tens of thousands of unemployed graduates into the public service every year with lifetime pensions, expanding an already bloated public sector and denying any benefit of a peace dividend to the country.

Sri Lanka also abandoned a price formula for fuel that had helped keep the rupee stable and inflation low from 2001 to 2003 even as global commodity prices went up from the ‘mother of all liquidity bubbles’ fired by the Federal Reserve from 2001.

From 2001 to 2003, state workers fell from 1.164 million to 1.043 million. By 2020, the public sector cadre has grown to 1.58 million with another batch of 53,000 unemployed graduates being paid tax money. (Colombo/Jun14/2024)

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